Corn surge presages inflationary pressures (KR)
Corn reached $4.86 a bushel on Monday, a six and a half year high. The most active corn futures closed higher, the 14th consecutive day of rising prices. The most active soybean contract hit the highest level since June 2014. In 2020 corn prices finished the year up 23%, the largest annual gain in ten years. Soybean prices rose 37%, the largest annual gain for a soybean futures contract since 2007. Some of the notable recent changes in supply/demand are:
- Argentina recently suspended corn exports until the end of February, when the new crop will be available to ensure ample domestic supplies. The hot and dry weather outlook for South America’s harvest is poor.
- China continues to import more grains to support a rebuilding pig herd.
- Spot profitability for U.S. ethanol production is negative and will probably require more progress on the vaccination front to drive demand. After plummeting in April, ethanol production has recovered in recent months and maintained a level of roughly 10% lower YOY.
Corn is an input for many food manufacturers (corn syrup to dextrose), but as a percentage of COGS, it is highest for protein producers. Higher corn prices will likely lead to tighter margins for livestock and dairy producers. Soybeans, which generally rotate plantings with corn, are also an input for various food and non-food goods. Currently, at a 2.7 ratio, the profitability of soybeans would win the acreage battle. The soybean stocks to use ratio is the lowest in more than five years, as seen in the chart below. Current corn and soybean prices will lead to larger plantings in the spring, at the margin decreasing acres for other crops. Competing for acres will underpin inflationary pressures for food this year.
Feed costs to pressure protein producers (SAFM & PPC)
Farmers ended in 2020 with higher incomes than in 2019 due to the combination of a rally in prices during the harvest and direct payments included in the Coronavirus Food Assistance Program and Paycheck Protection Program. The USDA estimates that farm income in 2020 increased by 41% from 2019 and reached the highest income level since 2013. Farmers also received $24B or 107% more in direct government payments. Livestock farmers did not fare, and the reduction in herd sizes and the price drop during the plant shutdowns. The rebuilding of China’s domestic pig herd will lead to lower pork exports while the feed costs are increasing. U.S. livestock producers will face the highest feed cost inflation in more than a decade. Smithfield Foods, the largest U.S. pork producer, is owned by WH Group (288-HK).
With significant input cost inflation, the protein producers rely on revenue growth in 2021 to outpace the cost growth. One of our investment themes has been the beneficiaries of the recovery in demand from the restaurant and foodservice sector. The poultry industry fared better than the other protein producers as their plants were better able to keep production up during the initial outbreak of COVID-19. The recovery in foodservice demand will support higher prices as there is less direct price sensitivity while crowding out some demand in the retail channel against difficult comparisons.
We add Sanderson Farms (SAFM) and Pilgrims Pride (PPC) to the short bias list as the combination of higher input costs and still lower YOY prices will pressure margins.
- Sanderson Farms said on its FQ4 call that if it had locked in all of its feed needs, costs would be $193M higher.
- The weaker dollar is a tailwind to exports.
- The poultry industry continues to be dogged in the news by lawsuits over price-fixing from its customers. Last month Chick-fil-A and Target were the latest to sue Pilgrim’s Pride, Sanderson Farms, Tyson Foods, and other private producers.
Our updated position monitor is below.
Amazon Fresh store traffic (SFM)
The food retail sector is the most competitive in retail, with large multi-category retailers (WMT, TGT, COST, BJ, AMZN) selling CPG products to drive traffic more than profits. New German discounters are rapidly opening stores. Technology disruptors are also threatening it in e-commerce and home delivery.
Amazon has recently launched a small supermarket concept named Amazon Fresh. The first store opened in Woodland Hills, California, utilizing on-site e-commerce services, Amazon Dash Cart, and Alexa shopping tools. The concept offers low prices and free same-day delivery for Prime members. Placer.ai’s tracking shows that the initial store’s visit rate has been tracking closely with local competitors, as seen in the chart below. The Amazon Fresh store saw an average of 2.0 visits per visitor since the store opened in mid-September, comparing favorably to 2.4x for Ralphs, 2.2x for Trader Joe’s, and 1.7x for Sprouts Farmers Market. With the increased lockdowns at the end of October in the area, Amazon’s store saw a 27.6% decrease in visits than a 9.3% decrease in Trader Joe’s, a 13.7% increase at Ralph’s, and a 10.2% increase at Sprouts Farmers Market. When vaccines are more prevalent and restrictions removed, Amazon Fresh could be better positioned than the local competition.
