Kay's Korner

Aug 2, 2013

The numbers never did add up for Northern Beef Packers (NBP) in Aberdeen, SD. Around the time that plans for its new plant were getting off the ground, the national cattle herd had completed three years of extremely modest expansion and then returned to contraction mode. The herd has now declined every year since 2007, losing 7.7 million cattle along the way. More telling, beef cow numbers have declined by just over 4 million head.

This contraction is why Tyson Foods, the largest fed beef processor, began downsizing its operations. In 2005, it had 10 slaughter plants with a combined capacity of 36,000 head per day. Today, it has seven plants and a capacity of 29,000 head per day. The contraction is why Cargill idled its Plainview, TX, plant on Feb. 1 this year. Contraction has forced all fed beef processors to run their plants five days per week and largely idle them on Saturdays. Yet there’s still 5-10 percent over-capacity in fed beef processing.

South Dakota state officials and other boosters of the plant seemed oblivious to all this. They somehow believed the plant could attract enough cattle to justify a 1,500-head-per-day capacity. In reality, 500-head per day would have been a stretch. Perhaps they felt the plant would spur more calves to stay in the state and be finished and processed there. South Dakota does produce a lot of calves. Its 1.688 million beef cows on Jan. 1 this year makes it the fifth largest beef cow state.

However, the vast majority of its calves go out of state because South Dakota does not have a large feedlot sector. Its feedlots over 1,000 head of capacity marketed 508,000 head in 2012. They have about 200,000 head on feed at any one time. More importantly, they showed no inclination to increase this number before NBP started operating last October or subsequently.

NBP would have had to buy 75 percent of these cattle to run at 100 percent of capacity. But that was always going to be unlikely. All the major packers and two strong regional packers operate in neighboring Nebraska and buy fed cattle out of South Dakota every week. There was no way they would give up these cattle. This meant NBP would have to bid away the cattle from other packers. But how was it going to do this unless it got a premium for its beef?

Perhaps officials believed the South Dakota Certified Beef program would allow the plant to start getting premiums the day it started operations. Former Gov. Mike Rounds was one of the plant’s biggest boosters, because beef in the program had to be processed in the state. But there was a huge flaw in his thinking. There was no evidence the program would succeed in the marketplace, at home or abroad. To the contrary, there was the example a decade before of the failure of the Nebraska Corn-Fed Beef program. The fact is that consumers have never shown any interest in beef produced in a particular state. If they had, Texas or Kansas would have developed their own programs.

The plant’s difficulty in attracting investors should also have rung alarm bells. I can only assume the plant’s supporters were turned away by U.S. lenders largely because of the factors I outlined above. They know only too well the risks involved in beef packing and its low return on equity.

It took instead the carrot of a green card (permanent residency in the U.S. under the federal EB-5 program) to lure investors from South Korea and China to provide $80 million in investments. The first group of 70 investors became partial owners of the plant while the second group’s investments were considered loans. These investors presumably had no idea how difficult it is to start and operate a beef processing plant.

NBP in January this year said its total financial package was $150 million, with just over $100 million of this in plant costs. How could NBP service this debt with a plant of this size? NBP then struggled to raise more working capital. So the most it ever killed was 420 head per day. Its slaughter and fabrication costs must have soared, compared to running at a higher rate. Taking the average fed steer price in the first quarter of $125.51 per cwt and using an average live weight of 1,350 pounds, each animal NBP bought would have cost it $1,694. If it had run at 1,500 head per day, it would have needed $2.54 million per day just to cover its cattle procurement costs.

The reality is that new beef plants are more expensive than ever to build and operate. Food safety costs are enormous and every other cost, from wages to energy to packaging, keeps increasing. New plants also lose money for two years before possibly breaking even in the third year. The early losses can be devastating. Future Beef Operations opened a $100 million plant in Arkansas City, KS, in 2001. Just seven months later, it filed for bankruptcy and closed a few months after that, having lost more than $200 million.

NBP is now in Chapter 11 and not operating. Perhaps a new owner will emerge and find a way to make the plant work financially. But even if someone buys it for 10 cents on the dollar, they will face the same cattle and beef issues that NBP faced. I can’t imagine anyone with real knowledge of the beef industry willing to invest in the plant. — Steve Kay

(Steve Kay is Editor/Publisher of Cattle Buyers Weekly, an industry newsletter published at P.O. Box 2533, Petaluma, CA, 94953; 707/765-1725. Kay’s Korner appears exclusively in WLJ.)