Managing the Wavering Loonie

Wednesday, January 16, 2008

The keys to survival - a level playing field, cost cutting and finding new revenue sources

by MARY BAXTER & DON STONEMAN

Steve Eby farms with his father Stan near Kincardine, where they have capacity to finish 1,700 cattle. Cattle farming is what this 39-year-old father of two knows. Like his dad, he's been at it most of his life.

So, when BSE hit in 2003, the Ebys made the decision to stick it through. Steve reviewed his costs, buckled down, kept all of those involved in his business informed and maintained a firm focus on what's important in life. "You can't let go of that," he says, referring to his family.

Then, last November, came another unwelcome surprise. A sale of 230 cattle garnered $300 a head less than their break-even costs. There were many factors at play, says Eby, but a sudden rise in the value of the loonie compared to its U.S. counterpart had a "major, major impact" on the prices he received.

Clare Schlegel, chairman of the Canadian Pork Council, echoes that view. For only the second time in his 28-year farming career, he says, hog sales barely cover the feed bill and sometimes not even that. Feed makes up 65 per cent of the cost of raising a hog. Every week, according to Ontario Pork, producers ship between 105,000 and 118,000 market hogs. Each hog going onto a truck takes $30-$60 of farm equity with it, depending upon the level of the dollar. In the third week of November, Ontario producers lost more than $59 million, based on a shortfall of $50 a hog shipped. The losses are expected to continue through 2008 and may approach $1 billion for the Canadian pork industry alone, says Curtiss Littlejohn, chair of Ontario Pork.

The rise in value of the Canadian dollar is the latest in a string of events within recent years to deliver a blow to the province's agricultural commodities and those who produce them. Among these: a U.S. government farm subsidy policy which caused grains and oilseeds prices to sink below the costs of production; U.S. trade actions launched against Ontario's pork producers, which consumed that commodity's profit margins; and incidents of disease such as PRRS in hogs, BSE in ruminants and avian flu, which in some cases radically affected production volumes and in others caused international export activity to cease.

What made last fall's situation so acute, say many of those affected, was the speed at which the dollar rose. No one, not even economic forecasters, it appears, was prepared for the jump.

The Conference Board of Canada, a national organization studying economic trends, is a case in point. At the outset of 2007, it predicted that a plunge in all commodity prices would take away the four cent gain in value Canada's dollar had made over the previous year. The dollar had risen steadily since its came close to the 60-cent mark in 2002. "While near-term interest rate changes may favour the loonie, sliding commodity prices will have a bigger negative impact," stated the winter issue of the quarterly report.

It couldn't have been more wrong. By May 1, the dollar had jumped to 90 cents U.S., a gain of four cents over its Jan. 2 value. In June, there was another four-cent leap and by November came the unthinkable: a dollar worth US$1.10. By Nov. 30 it had fallen back to par.

In its fall 2007 export forecast, Export Development Canada, a crown corporation which provides trade finance and risk management services to Canadian exporters and investors, attributed the loonie's rise to gains in oil prices, non-energy commodity prices and the difference between interest rates posted by the Bank of Canada and the U.S. Federal Reserve.

"Recent years have seen a strong relationship develop between the Canadian dollar and oil prices," the report explained, while attributing nine of the 16 cents change in the loonie's value between January and October 2007 to "the run-up in the price of crude oil." Another three cents was attributed to the difference between the two country's interest rates and the remaining four cents was credited to "speculative activity and momentum" in foreign exchange markets.

Extra compliance costs
For beef producers, the dollar's rise couldn't have come at a worse time.

Jim Clark, executive director of the Ontario Cattle Feeders' Association (OCFA), points out that most in the cattle business were still trying to recover from the impact of the BSE crisis. "We never truly got over that," he says.

Compounding the problem are food safety measures that the federal government put in place last June as a safeguard against the spread of BSE. Cargill spokesman Rob Meijer says calculations by the processing industry indicate that compliance with the enhanced feed ban, which prohibits the use of specified risk materials (SRMs) in animal feed, pet foods and fertilizers, adds $5.29 to the cost of processing an animal under 30 months of age and $12.41 to the costs of processing one over 30 months. (Cargill's Guelph plant only processes animals 30 months of age or under).

Those extra costs not only affect cattle prices, they're also making it difficult for Ontario's cattle industry to compete in other markets, Clark says. "It's really great to have all the stuff in place, but if we're so far above everybody else that we can't trade ourselves, at the end of the day what do we do besides remove an industry?"

There are plenty of other problems affecting industry production, including rising grain costs. Cargill's July decision to reduce its daily processing in Guelph to 1,300 cattle from 1,700 has helped to create a surplus of animals. The closure in the same month of Abattoir Billette, a Quebec-based processor with a daily processing capacity of 1,100, means more cattle from that province are ending up in Ontario competing for space at processors.

If low cattle prices persist, Edward Fox may have to shut down his feedlot near Parkhill in Middlesex County. The feedlot houses between 200 and 250 head of cattle and accounts for half his business. In November, he reported losses of between $300 and $400 a head sold over the previous two months at the live market in Talbotville.

"We can't sustain these kinds of losses," he says. "It takes years to get that money back."

Those prices made Waterloo County feedlot operator John Gillespie so uneasy that in early November he held off buying cattle to feed. Normally, he feeds through winter and cleans out the barns for summer. "We're trying to buy cattle, but we're thinking right now that there are better opportunities in the (selling of) grain versus feeding the cattle," he says.

Those with cow-calf operations have also felt the pinch. Bruce County producer Mark Goetz and his father sent 60 head to market in Hanover in early November and sold them for the same money they got for 50 in 2006. Like many others in the industry, he blames a combination of factors for the low prices, but says the dollar is having its impact.

Along with helping to depress sale prices, it's also making conditions favourable for countries like the United States to export cattle to the province, he says. "In Ontario, 40 per cent of beef consumed is produced in this province," he points out.

"What's happening to the cattle industry is far worse than the BSE crisis," he says. "In the BSE crisis, we had some little glimmer of light at the end of the tunnel; we kind of knew the timelines we'd be dealing with. With this, there's no end in sight."

Apple exports in difficulty
Ontario's apple orchards are also being squeezed by the higher dollar. Exporting "is extremely difficult," says Mike Gibson, one of the owners of Algoma Orchards, located near Whitby. In 2006, the company exported 10 per cent of its apples, but in previous years 20 per cent of the crop was more the norm for exports, he says. Last fall, the company's export activities had ceased because they were no longer profitable. He points to the dollar as the main culprit.

Luc Fournier, general manager of Bradford and District Produce, which markets the onions and carrots grown by farmers in the Holland Marsh, predicts that it's going to be next to impossible to move those crops over the coming months. In November, the company was shipping three to four loads of carrots to the United States a week. That's the volume it normally ships in a day, he says. "There's no money to make at all. Zero."

The situation is compounded by higher than average yields in the two crops. Yields in Michigan and Quebec were also higher than normal. Growers are reluctant to ship their products to the United States at a loss, but Fournier fears that storing them until February or March isn't the solution either.

By that time, Canadian crops begin to experience stiff competition from Chinese and Costa Rican produce arriving in both domestic and international markets.

Yet Tony Moro, who grows carrots and onions for the fresh market on about 200 acres near Bradford, says that it's still too early to tell whether growers are in trouble. In November, he admitted that U.S. growers had "the edge" on sales. Nevertheless, he's not too concerned about the dollar's impact, noting that at worst it may mean having to reduce operating costs for the next growing season.

But, as he prepares for the coming season, he's finding out that costs may be on the rise. Already one salesman has warned him that seed costs are going up, and he's hearing higher prices quoted for crop protection products. Ironically, the news comes from companies based in the United States, he says.

Ontario's greenhouse industry is another sector which has experienced some impact from the higher dollar. Christine and Jack Greydanus produce 1.5 million pounds of green peppers a year in six acres of greenhouses near Petrolia in Lambton County. Christine says 80 per cent of what they're producing goes south of the border and they have experienced a lower return on what they're selling.

"We started noticing it in the summer," she says, and the situation became more acute as they headed into fall. In total, it's meant about a 25 per cent reduction on the price they receive, she says.

Yet they're still making a profit, she says, and even if the high values persist, she figures that they'll be able to cope. "We don't see it as the same as what the beef industry is seeing," she says.

If worst comes to worst, the couple can fall back on hatching eggs, the other arm of their farm operation, she adds.

Kristen Callow, general manager of the Ontario Greenhouse Vegetable Growers, says that 70 per cent of produce from 1,700 acres of greenhouses is exported. "We are trying to find cost savings anywhere we can," she says. Nevertheless, new changes related to border inspections have meant additional costs. Increasing transport costs related to high fuel prices are presenting challenges.

Ian MacKenzie, executive vice-president of the Ontario Produce Marketing Association, says that, ironically, the high dollar is buffering the domestic produce market from experiencing greater competition from U.S. imports.

Trucking products into Canada is becoming expensive, he says. "The trucks that are coming into Canada with produce and other things are going back empty. So, to compensate for that, the truck rates have increased coming into Canada."

That's not the case in the red meat industry, where Canadian meat cuts are competing with cheaper U.S. product on grocery store shelves, says Waterloo County beef and hog farmer Stewart Cressman. An Ontario Pork director and Waterloo County Cattlemen's Association president, Cressman says that a lower dollar - the same advantage that allowed Canadian processors and producers to send their products south of the border at a profit - is behind the flow of U.S. products into Canada. There is also concern among Canadian processors that surplus meat cuts may be moving north at even further discounted prices.

Little help to producers
Emergency cash aid may not be the answer to tackling the loonie's effects. "The problem is, it takes time (to deliver)," notes Clark. "Producers don't have time on their side." Their equity position was substantially eroded during BSE, he points out. Moreover, in the beef industry, "there's a pile of older producers who have stayed active in it. They're faced with making some decisions. Do they quit this before it consumes them totally?"

There's also a perception that, as soon as aid is announced, it rarely stays with those who need it most. As Fox says, "so often with these subsidies or payments, as soon as they are announced, the end user changes the price and it goes to them. It doesn't really help the producer that much."

Aid through risk management programs, as proposed by the federal government in November, may also not be the solution. Elgin County beef producer Ken McCallum notes with some irony that the federal government has yet to adjust the Canadian Agricultural Income Stabilization (CAIS) five-year reference margins for producers affected by the BSE crisis. Without these adjustments, producers may find they won't qualify for much financial support during this most recent situation, he says.

So what would help?

Most of those interviewed say that policy change is the top priority. The OCFA's Clark points out that regulations concerning the removal of SRMs in the United States are far less stringent than in Canada and that the cost as well as the availability of drugs can be quite different on either side of the border.

"If you look at our SRM policies and drug policies, we need harmonization with our partners to the south of us. We have to be on a level playing field across North America," Clark says.

For others, it's about designing policies to level the playing field within Canada. Goetz points to cattle from other provinces such as Quebec and Alberta ending up at Ontario packers. "It's hard enough competing on a global market," he says. "But we find ourselves not only competing with other countries; we're competing with other provinces." He says that he's losing patience with the political silence on the issue.

Government involvement in promoting ethanol production is an area where Eby has some questions. "We are certainly not opposed to our grain farmers making a reasonable price per bushel for their product," he says. "However, the market is being driven by government policy, not by true market issues."

But policy changes take time. In the interim, McCallum predicts there will be casualties. "It's entirely possible there are going to be feedlots and beef cow-calf operations that are going to close up rather than try and muddle through."

For others, like Cressman, survival involves cutting back and becoming more strategic in how they're conducting business. Cressman's feedlot has the capacity for 400 head, but over the winter he expects to house 140 head that he took off pasture. He plans to feed 300 hogs, less than half of the 625 he usually has. He laid off his one employee and will rely on one of his sons, who works full time off-farm, to help with chores.

These steps were among recommendations from a farm business analysis he commissioned last fall, when he saw what was happening within both industries. "It was kind of a proactive approach with the bank," he says.

The analysis also showed that it would make more financial sense to market corn as grain instead of using it in his operation.

As well, Cressman took a more calculated approach to marketing his cattle over the fall, such as shipping some to Nebraska by loading them onto a return trip from a Western Canada truck delivering replacement cattle into Ontario's market.

Cressman believes that instituting such efforts of co-ordination up and down the supply chain is ultimately going to ensure survival of Ontario's livestock industry. "We have to pass non-monetary information up and down the supply chain so that we can manage supply coming into the market," he says.

He also proposes that the greater volatility in livestock markets needs to be addressed. He suggests that locking in futures prices for livestock at the time they are acquired for finishing might be one way of doing this, though a facilitator would be needed to implement such an approach, given the small size of most Ontario farms.

Pork competitive at 90-95 cents?
On the pork side, Curtiss Littlejohn told Better Farming that the first issue facing producers is short term liquidity.

The Canada Pork Council's plan to get the government to issue loans to producers is based upon a similar plan Saskatchewan adopted in 2001 and it survived a countervail challenge from the United States, Littlejohn says. When profits pass a certain margin, half goes to pay back the government loan.

Regardless of whether producers get federal help on time, Littlejohn believes that the industry in Ontario will certainly be smaller a year from now. "In the short term, there will be contraction," he says. "There will be people who choose to pursue other business strategies," Littlejohn said.

"We can't save everyone."

Producer liquidity can be a huge problem for suppliers who don't get paid and who are generally unsecured, says Schlegel. But the crisis in the hog industry isn't just one of liquidity, he adds; it is a crisis of hope for the future. Producers have to decide if they are going to hang on through the crisis and re-invest in the industry when it is over.
"When we competed with a 62-cent dollar, we didn't know how good we had it," Schlegel says. Can Canada compete with a weak U.S. dollar?

"We are trying to figure out what is a realistic answer to that question. To quickly say 'yes' may be too optimistic. To quickly say 'no' totally discounts the strategic advantages Canada has in terms of land, space, and knowledgeable, efficient producers."

Schlegel says that the escalation in the value of the dollar from 85 cents to a high at the end of November of US$1.10 in 10 weeks "is not a reasonable situation for us to be able to survive without some cushioning."

Littlejohn thinks that Canadian pork could be competitive at a Canadian dollar worth 90 to 95 cents US, "but it will be a hard struggle." Schlegel cites the need for regulatory reform, better access to markets and reduced costs of animal health products. It takes too long and costs too much to get these approved in Canada, Schlegel says. Either suppliers should correct the price situation or swine producers should be able to buy animal health products that are approved in Canada elsewhere. "We are looking for our suppliers to correct that situation."

Would deliberately cutting back on production solve the problems here? Schlegel says no. American pork is entering the Canadian market in increasing numbers. By the end of the year, American pork imports were expected to reach 175,000 of about 800,000 tonnes consumed. "If we start shrinking the industry, we may be shrinking it back to next to nothing," he says, and American pork will continue to come in. "The opportunities to put tariffs in place to protect an industry are not there any more."

There are also concerns that U.S. pork is being dumped into the Canadian market, though Schlegel would not be more specific about where those concerns are being voiced. "We don't have good data," he says.

Many farmers are mulling over whether they should stay in the industry. Dave Linton, who farms northeast of Mitchell, is among them, though he says: "We will hang tough for now."

Linton says that the farm he runs with his wife Winnie was in worse shape two years ago when Porcine Reproductive and Respiratory Syndrome (PRRS) and circovirus were killing up to half of the pigs in their 1,200-head weaner barn. But he admits that the prognosis for the industry is bleak. "It's a matter of how long you can last," he says. American production is growing at a "phenomenal" rate and expenses are higher than two years ago. "There's life after pigs. At least my wife tells me that."

And the overwhelming question backstopping the uncertainty is the future of Ontario's largest plant in Burlington. "What if Maple Leaf is sold for the land?"

The moves the packing plants have made certainly exacerbate the tensions, Schlegel acknowledges.

Finding new revenue sources
Back on the beef and horticulture sides, some producers realize that even tough times come with their share of opportunities. There might be a chance to expand, says Steve Eby. He also sees growth potential in custom feeding for retiring farmers who are interested in sharing the load. Similarly, expansion would allow Christine and Jack Greydanus to spread their operation's fixed costs over more acreage.

Finding new sources of revenue is another alternative. In the Greydanus' case, power co-generation - where at least two types of power such as heat and electricity are created from one source - is a serious possibility.

In the beef sector, an unpredictable commodity market is leading to local and niche market ventures. Murray Shaw, who operates a 40-cow calf-to-finish operation near Brigden in Lambton County, says that the rise of the dollar has had no impact on his freezer beef venture, which accounts for about 40 per cent of his operation. Shaw plans to focus even more on this aspect of his business. "It's a lot more work," says Shaw, explaining that it's up to the farmer to build clientele. Moreover, obtaining a financial return on an animal can take longer.

For the Earley family, focusing on niche markets has meant there has been little impact on prices for the animals they sell, although they're seeing some increase in the cost of inputs such as feed, fuel and fertilizer. The family, who farm near Kerwood in Middlesex County, raise purebred bulls. The market for breeding 4-H club calves, with most of their buyers being located stateside, disappeared with the border closures accompanying the BSE crisis, says George Earley.

Since then, they have raised slaughter cattle for Kerr Farm Sales' Ontario Angus program. The venture sells antibiotic-and hormone-free beef to grocery stores.
For the Earleys, the arrangement means a premium which has helped them financially. "There is a demand as people get older or that they get more concerned about their health...they are going to buy a product that has a label on it," he says.

Many also see hope in buy-local campaigns, such as the Ontario Cattle Feeders' corn fed beef program. According to Clark, for such programs to really work, governments need to level the playing field within domestic markets. He suggests that American beef sold in Canadian grocery stores should be subjected to the same production rules as domestic beef.

"We can play by any set of rules, but they have got to be harmonized," he says.

By the end of November, cattle producers were beginning to sound more optimistic. Prices at sales were starting to rise and the dollar's value was beginning to drop. The United States had begun to accept shipments of live cattle over 30 months and a greater range of processed products.

Both federal and provincial governments had expressed intentions to help the beleaguered agricultural sector, although they were making it clear that such aid would have to be delivered through government risk management programs that require contributions from farmers to ensure compliance with international trade rules.

While Clark doubted that the volume of cattle crossing the border would expand substantially, just the fact that trade is "normalizing" is a source of encouragement.
Eby expressed a similar outlook. However, if there's one lesson he's learned, it's to take economic forecasts with a grain of salt.

"We have to appreciate that no one in the world predicted six months ago that we'd ever see a dollar that was this high," he says. "We have to be careful about what forecasters telling us." BF