A Second Crack at Profits

by BRIAN SLEMMING

Judge has been farming since 1975 and has seen many changes in his 25 years. But what he and some of his fellow poultry producers saw recently was disturbing. Poultry farming prospects were looking increasingly dismal. "For a while it looked as if Maple Leaf Foods would take over Schneiders. That would have been one less player in the business, and one less buyer for our product."

Judge was right to be concerned. Vertical integration has been dominating the agricultural landscape -- especially to the south, where integration has been almost universally top down and where giant agri-businesses have been locking up markets and assuring their supplies through a series of contracts.

"I was afraid the situation would be repeated here," says Judge. "I saw an industry position paper which talked about paying farmers a margin for raising chickens. The processor would supply the chickens and the feed, and the grower would just raise the birds in return for a fee, exactly as has happened in the United States. It was a contract system which left the farmer as a subservient class at the mercy of the processors."

That was not a future that appealed to Judge. "A group of us got together to see if there was a way in which we could add some value to our chickens after they left the farm gate." The answer seemed to be a form of co-operation for, after all, Judge had been a director of one of the oldest co-ops in Ontario, so he knew the strengths and weaknesses of the system.

Updating the "Rochdale principles"
The concept of members of an industry working in co-operation dates back to the early days of the 19th century. One of the earliest co-operatives on record was in Connecticut in 1810, when a group of farmers established a dairy operation. In 1820, a group of farmers in Ohio joined together to market their hogs. By 1867, there were over 400 co-operatives producing dairy products.

On our own side of the border, co-operation was an essential ingredient to profitable farming. The elevators of the prairie wheat pools provide tangible evidence of the efficacy of co-operation. The earliest recorded regulations for co-operative participation are credited to Robert Owen in Rochdale, England, in 1842, where a group of weavers set up a grocery store. The 'Rochdale principles' stood as the guide for co-operatives for almost 150 years.

1. Each member has one vote regardless of how many shares he held.
2. Anyone could join, regardless of race or religion.
3. Goods and services were sold at market prices.
4. After business expenses were paid, the profits were returned to members in proportion to their purchases, not their shares.
5. The interest on capital invested in shares was limited.

New generation co-operatives, Alkalay explained, maintain some of the original Rochdale principals and have adopted new ones. "The traditional co-ops were open to all and operated on a principal of equal voting rights for every shareholder. New generation co-ops retain the equal value of voting, but membership is not open to all -- it is limited to the amount of product the co-op can process."

That is important, because in one form or another, new generation co-ops will be involved in processing. The thrust of the co-op is to add value to the original farm produce. "It is vertical integration, but from the bottom up," says Alkalay.

This is not industry giants setting the agenda, but farmers with a common interest moving their own production through the farm gate into co-operative-owned processing plants, so adding real dollars to the value of their product. "The reality of farming," says Alkalay, "is that the further you get from the farm gate, the more value that is added to the product." In other words, the primary producer -- the farmer -- is usually operating with a thin margin.

"There's been a lot of talk about farmers getting their fair share of the food dollar," explains Alkalay. "Farmers get only about half as much of the consumers food dollar as they did 30 years ago because much of the price paid by the consumer is for processing. By getting into processing, farmers can increase their returns."

Ontario success stories
The other big difference between traditional and new generation co-ops is the level of investment, and what that investment buys. With their initial investment, members are in effect buying the right to deliver product to the co-op. Ingreen Valley Foods (see sidebar) sold shares at $30, with each share represented one acre of vegetable production. A grower wishing to deliver 1,000 acres of produce would invest $30,000. Ingreen was established with 7,000 shares, and thus began operations with a capitalization of $210,000.

This investment, which buys the "right to deliver," also buys an obligation to deliver, which is spelled out in most agreements Time, quantity and quality of delivery are all clearly stated. In the event delivery cannot be made, the grower must purchase replacements on the open market, or allow the co-op to make good the deficiencies at the grower's cost. Says Alkalay, "Some co-ops go so far as to force growers to forfeit their shares if they refuse to meet their obligations."

With such a level of investment -- those present at a recent new generation co-operative conference in Chatham heard of a soybean co-op charging US $6.50 per bushel to growers -- commitment is strong. The trend to co-operating to add value began in the United States, and it is tempting to look there for examples of new generation co-ops in practice. Certainly, it is hard to ignore Golden Oval Eggs of Renville, Minn. That enterprise began when a group of corn growers, seeking to add value to their corn, established a layer operation and fed their corn through the hens, then sold the eggs.

The operation grew like topsy and is now one of the leading American leading egg producers, with a breaking plant and contracts to supply liquid eggs to a series of national outlets. Its membership has expanded to 700 and the company is about to expand into Ohio.

However, Ontario has its own examples of successful value-added co-ops. John Ardiel is President of Bay Growers of Thornbury, which was formed by 23 apple growers seeking controlled atmosphere storage for their fruit. Rather than build individual facilities they combined to build one plant capable of storing 14,000 bins of apples (one bin equals approximately 250 bus). The members' initial investment was $200 per bin stored. Six months ago, Bay Growers added even more value to their apples by starting a grading and packaging operation. They are now selling graded and packed apples to Ontario supermarkets, Western Canada and the Caribbean. A recent entry into the ranks of new generation co-ops was the result of Jim Judge's concerns about the future for poultry farmers. Four years ago, Farm Fresh Poultry Co-op Inc, of Harriston came to life.

Mark Finnemore is General Manager of the plant. "We grow all the chicken we process on our own members' farms -- 40 of them." They vary from small farms of about 15,000 birds to large ones with about 80,000 birds produced each cycle. The initial investment called for $1 for each bird a member wished to ship. "The complexities of the allocation of processing quota means our members can produce more birds than we are allowed to process," says Finnemore, "so the investment could not be exactly broken down and the average holding 200 shares or $20,000." As a result, Farm Fresh began operations with over $5000,000 in member equity. Farm Fresh bought a small, 3000 sq. ft. air-chilling facility in Harriston, which had been meeting a niche market in supplying Cornish Game hens. Today, less than four years later, the plant has expanded to 22,000 sq. feet with an air-chilling facility of 6,000 sq. feet.

But such expansion falls well short of the original plans. "The idea was that by now we would be twice the size we are," says Finnemore, "but we are held back by the limits on our allowable processing. We can run six days a week on a double shift, but are limited at the moment to a single shift for four days a week. We have the capacity to handle all the birds our members produce and that is our aim, but the limit on our processing allocation forces our members to sell some of their production to their competitors."

Judge is one of the members caught in this squabble. Of his 80,000 chickens, at the moment he delivers exactly none to the co-op of which he is president. "We want to change the processing allocation, and we are working on that," but it is the processing allocation that has Judge riled. "I am a firm believer in farm production quotas. Supply management is the only way this industry can survive, and it is very important not only for Ontario but for Canada too. But the processing allocation has to change."

Hedge bet for owners
As expansion of Farm Fresh continues, who pays for that expansion? Do the members have to increase their equity? "We are expanding our office space and that is being financed through income. If we need additional financing -- for instance a five-year mortgage -- we will get a bank offer and then offer the same terms to our members to take if they wish," says Finnemore.

As production capacity increases, there will be a further issue of shares. The first choice will go to existing members and then be offered to the waiting list which has now developed. As for the benefits producers can expect to see from a value-added co-op, George Alkalay explains them this way.

"The grower gets a chance to participate in profits for a second time. There's the amount he makes between the cost of acquiring chicks and feeding them, and the price he gets when they are delivered to the processor. But with an ownership position, he gets a part of the profit from that operation as well. It also provides a hedge bet. Generally, when producers get high prices, the processor's margins are slim, and conversely when processors are doing well, the producer is seeing lower returns."

The table below is an example of how value is added to a typical chicken operation, although price fluctuations make these at best only an approximation.

Value added to chicken producers

Paid to grower                                  $1.14 per kilo live weight

Cost of transportation                                                           10 cents a kilo
Dressing (slaughtering, cutting, weight loss, etc.)                  $1.12 a kilo
Capital cost, depreciation, interest                                       38 cents a kilo                                                  
Total cost of bulk, chilled, chicken                                       $2.74 a kilo.

With a selling price of                                                           $2.90.
Profit                                                                                    16 cents a kilo.

They say that what goes around comes around. New generation co-ops seem to be a prime example of that principle. Giant corporations imposing vertical integration on farmers now find themselves in competition with these same farmers. Certainly Farm Fresh shows no signs of slowing down or taking a back seat to any other processor. "We will be expanding our line. We want to get into packaging individual chicken, rather than shipping in bulk, and then we will look at cooked product like chicken pieces or nuggets." predicts Finnemore.

As consumers become more demanding and want more knowledge of the history of the products they buy, so new generation co-ops provide a clear unbroken line from the original farm to the supermarket shelf. Small wonder that some traditional processors, according to Alkalay, "claim the co-ops are unfair competition because no other processor has the same privileged access to supply."

Could it be the chickens are coming home to roost? BF