Monday, June 13, 2011
Why food security is best served by a large number of smaller operators.
Is it feasible the problems of Southern Cross care homes could be replicated in other sectors, including that of food production and farming?
The effects of sophisticated financing, lease-back, equity swaps, leveraged loan syndication, off-shore interests and ownership, and other structured financial products allows the big to get bigger, and in time reach a critical mass which means the decisions they take, or which are forced on them, liable to have a profound effect on the supply of the essential goods. In the case of Southern Cross, it's care for the elderly. Allow the same development in food production, it could be milk, meat, or cereals.
In this article I look at the milk industry, its recent history and the direction it might possibly take. Dairy farming has been under huge stress for a decade and more, and the longer this continues the greater the likelihood of some major adverse event - the branch of the tree will snap under the strain.
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The dairy industry is a fundamental corner of UK agriculture. It supplies a vital ingredient for the food trade, both as liquid milk and milk products. It provides a significant proportion of the feed-stock of the beef industry, through beef cross and dairy bull calves. It is a major customer for the arable sector, providing a market for feed grains and also by-products such as beet pulp, pot ale syrup etc. The dairy industry, in addition, has a valuable and world beating breeding arm, producing globally important dairy genetics. Finally, it should be remembered that it supports an engineering business, for milking equipment, forage machinery and preservatives including silage additives and silage film.
Despite its size and importance, the present situation in the UK milk market is not, to use an overworked work 'sustainable'. The dairy industry in the UK is living on borrowed time, propped up by a cohort of farmers who continue to eke a living from their loss making businesses. The return they are getting on the capital invested is risible. They work long hours, and with livestock in their charge have greater responsibilities than those farming crops, in terms of health and welfare.
Since the end of the MMB and it's central pricing system the market has been in turmoil. The milk business is increasingly in the hands of a small number of major multiples who exert their market power through processors and the farmers co-operatives. The result has been a contraction in milk price, forcing many dairy farmers out while a smaller number have expanded. National milk production has decreased, so that today output is approx 1bn litres below the quota threshold set in 1992.
The milk price squeeze has meant the size of the smallest viable herd size has continuously increased. Many farmers see the only defence against decreasing margins is to expand the number of cows. While proposed 8,000 cow herds hit the headlines, gaining criticism from press and welfare organisations, a third of dairy farmers (2010 DairyCo Farmer Intentions Survey) were looking to increase production over 2010 - two-thirds were either staying the same or getting out.
Running large herds is far from plain sailing, both from a cow welfare and an environmental point of view. Keeping cows in conditions so far removed from the traditional poses real fundamental moral questions. Should market forces, in an advanced and wealthy economy, be permitted to dictate such fundamental changes to the way animals such a dairy cows are kept? Is it progress to have a significant part of the national herd under cover 365 days a year, being looked after in conditions similar to battery hens? The UK dairy cow is currently on an inexorable march towards 50% being all-year housed within a decade or two, and the driver for this move is the decreasing milk price. Dairy farmers will adapt and adopt the measures it takes to stay in business, which, in today's perspective is to satisfy the demands of the supermarket consumer through a milk supply sourced at its cheapest.
This is the dairy farmer's side of the equation. On the buyers side, the market is highly competitive. Milk buyers in the major multiples are not concerned with anything other than the price, quality and delivery of the deal they are making, and the processors and co-ops who they buy from are always in a poor bargaining position. They have a product with a short shelf life which has to find a market. Buyers have come to realise that sellers can be held over a barrel in terms of both time and contract details, all which improves their margins. As the food industry adopts the 'Just in time' techniques of other manufacturers, so buyers can wait to the last minute before finding a load that's looking for a buyer.
In economic terms, buyers are paying little more than the marginal costs of production for much of their milk, and any industry which works on this basis is facing either long term decline or a major adjustment in trading terms.
The oil industry has distributors with no refining capacity - companies that buy petrol when it's a bargain and sell at a cut price. But the bulk of the fuel business is controlled by companies with processes that require a steady flow - refineries, transport and storage and distribution for a wide range of products. These main companies have basic requirements of raw material which need long term and sustainable contracts.
In the milk industry the belief is that the goose will continue to lay golden eggs, even if she has to continue to give them away - but it won't last. As the next tranche of smaller dairy farmers - those with 80 to 160 cows - throw in the towel, so national production will drop another 1bn litres. Processors will be looking for milk, and, when it's not there, will respond by closing factories temporarily and then permanently. The dairy industry itself becomes increasingly uncompetitive with continental companies, who then become an even greater source of supply to the UK supermarket and their customers.
The expectation is that a sufficient number of dairy farmers will take on major investments to create super sized herds run on battery hen lines. These farmers face a fine balancing act. There will always be a major risk of increases in interest rates, as their percentage of borrowed capital will be many times that of the smaller family unit. The super herds will be operated by specialist workers rather than the omni-skilled farm workers of today.
This scenario will involve considerable pain and turmoil for those involved. Many of the retirees will leave dairy farming with few assets. Others will fail to make the leap from 250 to 1,000 cows, through management or financial problems. And there are the cows themselves to consider. Will the Great British public, which after all forced protection on the wild fox and the badger, which abhor and legislate on the puppy farming business, stand by and let the domesticated Daisy and Buttercup become complete units of production which never see the sun, lie in a field, get their tongue around a hank of grass?
Milk prices need to be changed so they provide an honest income for honest producers. Dairy farmers need a sustainable reward for their core production, and this is true not in Britain alone, but throughout the EU, for the same situation exists in every milk producing country. The system must not be allowed to be exploited by brokers and middle men who deal in 'entitlements' or other forms of paper, for this leads to poverty in the exact sector which is in greatest need of protection.
There are examples where such schemes have worked well - such as the sugar beet regime. Their problems concerning competitiveness with the Caribbean cane growers does not happen in milk. Our trading difficulties and ties with New Zealand and Australia seem to have waned in recent years.
Some basic reorganisation to halt the decline of family farms has long term benefits for the world population as a whole. Family farms need men as well as machines, so populations are likely to be dissuaded from moving to the city, as has been the case in virtually every country, developed and undeveloped in the world. Family farms are diverse in production, create more wealth per acre, cater for local needs and supplies, reduce transport, storage and refrigeration costs of food, add to diversity both of diet and production systems. While involvement of the major international corporations involved in food is curtailed, the likes of Cargill, Monsanto, Bayer; WallMart, Tesco and Carrfour and others will still have a sizeable cherry on which to bite.
If the world is looking for a more sustainable source of food, it's leaders need to be looking at the smaller farmer as well as agri-business.
It is of course inconceivable that a single dairy production company would get as large a share of the business as Southern Cross has in the care market. But concentrating production into herds of 1,000 plus cows is now not such a remote idea, and these farms can themselves merge into larger groups, using sophisticated finance such as we have seen in other industries.
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