History and challenges of value-based marketing
Today’s grid, formula and other marketing agreements for fed cattle account for approximately 75 percent of the cattle processed. However, in the 1990s, when value-based marketing was in its infancy, the vast majority of cattle were sold live or in the meat. Feed yards would have a show list of pens of cattle for sale and market all the pens as a group, regardless of differences in the quality of cattle, i.e. a pen of high quality steers would bring the same price as a pen of low quality steers. There was also no feedback from the packer down through the system as to how the cattle performed on the rail. Changes were needed.
The first form of value-based marketing was formulas, and an example of an early formula would be the 1994 American Gelbvieh Association’s formula with Monfort (now JBS) that was negotiated by Tim Schiefelbein. This formula was during a time of the industry’s “war on fat,” and Monfort decided to try hot fat trimming the exterior of carcasses on the kill floor. The Gelbvieh formula had a base price derived from the regional cash price, and then how individual carcasses performed on externally trimmed red meat yield and quality grade when compared to that plant’s average. This had the major advantage of providing carcass performance to the feed yard and potentially the cow/calf producer.
The obvious problem with formulas is that as better cattle are processed, the plant average yield and grade that the cattle will be priced against improves, so potential for premiums decreases. Hot fat trim was also relatively short-lived due to excessive carcass shrink and an unacceptable level of cold-shortening. However, formulas based on yield and grade remains a highly used method of marketing to this day.
To address the shortcomings of formulas, grid pricing seemed the answer and Red Angus Association of America’s (RAAA) value-based grid with Monfort is believed to be the first. Unlike formulas, grids have set premiums and discounts for Yield Grades and Quality Grades. The RAAA grid was negotiated in 1995 by RAAA then Marketing Coordinator Bob Hough and Monfort’s president, Kevin LaFleur, and Tim Schiefelbein, when he was hired by Monfort to be in charge of Alliances.
To determine possible value of various quality and yield grades, Hough utilized Dr. Glen Dolezal’s (then at Kansas State) Boxed Beef Calculator (BBC). The BBC allowed you to put various wholesale cut prices and calculate the value of carcasses based on Yield Grade, Quality Grade and Choice/Select spread. The problem with the BBC was finding up-to-date wholesale pricing was, in general, a secret, therefore, very hard to obtain.
However, Hough and Lee Leachman had negotiated with one of the largest food-service companies in the country to help supply their branded Angus program with USDA Certified Red Angus fed cattle. From them, Hough was able to obtain the boxed beef prices to plug in to BBC to make it useful.
The original idea to utilize the BBC was to have a value-based grid directly tied to boxed beef prices. After much work with Leachman, as well as input and pricing of various pens of cattle from Alan Janzan of Circle Five Feedyards, Gary Darnell of Darnell Feedlot and Tom Woodward of Broseco Ranch, it soon became evident to Hough that this method was unworkable. This was because at the times packers went into the red during the year, the cash value of cattle would exceed the grid value even on good cattle. Despite this, necessary information had been garnished from the BBC between various quality or yield grades.
Based on this information, negotiations were started with Lafleur. During this time Monfort announced its intentions to hire Tim Schiefelbein to be in charge of Alliances. Within weeks of Schiefelbein starting the job in September 1995, a deal was done. After Red Angus started using the grid, essentially the same grid was picked up by Schiefelbein’s brother Donnie, who had replaced Schiefelbein as commercial marketing director at the Gelbview Association. This later grid was believed to be the first open to any cattle.
Market discovery at the time was easy since most of the cattle were sold live or hanging, depending on the region. RAAA’s original grid was based on the practical top of the market at which Certified Red Angus cattle would generally trade (the same would be true certified Angus Source cattle today). However, price discovery is becoming a real problem now since the vast majority of cattle are sold on some type of value-based system leaving fewer and fewer cattle priced live to establish a base price, let alone using the practical top.
The other item included in those original grids was an out-cattle allowance added to the base price. When buying a show list on a cash market, a certain number of out cattle (dark cutters, hard bone, etc.) would be figured into the cash price. Since these cattle will be severely discounted on a grid, compensation for the amount expected in the cash market is logical. Unfortunately, this has been lost in current value-based grid basis.
The future of value-based marketing is great by supplying data feedback throughout the system, allowing the industry to improve cattle in all segments.
Because of this, feeder calf prices reflect much more closely the final potential prices they will command on such a system. However, price discovery is now a real problem, which the industry must solve. — Dr. Bob Hough, WLJ Contributor