AGRI Committee Report

An Integrated North American Market

The implementation of the FTA in 1988 meant that Canadian and U.S. markets for cattle and beef, which had enjoyed limited trade until that time, would become inextricably integrated. Domestic production would no longer be strictly geared to domestic consumption. Instead, North American production would supply North American consumption (as well as many overseas markets). This shift in orientation would mean that distinct Canadian and American cattle and beef prices would disappear as arbitrage activities forced their convergence. With the elimination of most tariff and non-tariff barriers to trade, trade would disproportionately rise in value and trading patterns would be determined by efficiency considerations, not by national decision-making. However, what remained un-integrated were both countries’ food safety and security regulations. Domestic agricultural policies and tax regimes, which can indirectly affect the performance of this industry, also remain separate.

Integration on a continental basis obviously provides significant benefits to those companies and industries that possess a comparative or competitive advantage and are ready and able to export. Canadian cattlemen and other livestock producers possess the former advantage, while Canadian beef packers, particularly those that are a subsidiary of a U.S.-based multinational, possess the latter advantage. Together, these economic advantages translated into live cattle exports of about 1.6 million head, or more than 30,000 head per week, and into 1 billion kilograms of beef products for Canadian producers in 2002. The other side of the coin to this new lucrative commerce is that such exporters assume significant economic risks should the U.S. border be shut to Canadian exports for any reason. Particularly vulnerable were cattlemen and feedlot operators who would no longer possess the competitive alternative of foreign packers bidding for their 30,000 cattle destined for export and would thus become captive to Canadian packers. This vulnerability, as it turned out, came about because both countries’ food safety and security regulations remained separate, without any implementation plan of the rules- and science-based procedures established by international treaty for addressing common concerns. Due to unequal lobbying capabilities across the industry’s stakeholders, the regulations could and are being used as a barrier to trade.

This potential scenario became reality with the finding of BSE in one cow, in one herd, in Alberta. The United States immediately closed its borders to all Canadian cattle and beef, not just Alberta cattle and beef, while the borders of every other Canadian province remained open to Alberta cattle and beef. Canadian and provincial health and safety regulators focused their rules and regulations on the specific farm or herd where the BSE case was discovered (and any other farm or herd where the infected cow had resided), whereas U.S. regulators indiscriminately banned all Canadian cattle and beef products from importation because of the perceived risk of BSE contamination through Canada’s country-wide cattle feed system. Canada, in turn, retaliated by imposing a temporary ban on the importation of U.S. cattle and beef products when a BSE case was found in Washington State.

Without any implementation plan of the formal international rules for resolving the food safety and security problem, international negotiation is required. In such a situation, however, the ear of the U.S. regulator will favour U.S. cattlemen, who gain a premium on their slaughtered cattle without competition from Canadian cattle, over Canadian diplomats. U.S. cattlemen vote for their President, Congressmen and Senators, while Canadian diplomats do not — the calculus of the political decision is that simple.

As such, international negotiation has been arduous and time consuming, resulting in the resumption of trade between Canada and the United States only in boneless beef products from cows no more than 30 months old. U.S. borders remain closed to Canadian cattle and vice-versa. The consequence of an integrated market becoming separate once again was the loss of more than three months’ worth of cross-border trade in beef products and at least a year’s worth of cross-border trade in cattle. Herds unexpectedly grew in size across Canada, exposing all Canadian cow-calf and cull cow operators to losses in revenue and increased feed costs. American consumers also lose under this temporary arrangement.

The Cattle-Beef Supply/Value Chain

The market data presented in the previous chapter represent the aggregation of commercial activity in roughly four live animal markets, two wholesale markets, and two retail markets. These markets are schematically displayed in Figure 2.1. The four live animal markets include:

(1)    Feeder Cattle: cow-calf farmers and ranchers sell steers and heifers of 6 to 12 months of age, weighing between 600 and 800 pounds, to feedlot operators who feed and fatten the cattle for slaughter;

(2)    Slaughter Cattle: feedlot operators (or farmers) sell young cattle, typically 18 to 24 months of age, weighing between 1,200 and 1,400 pounds;

(3)    Dairy and Beef Breeding Cattle: farmers sell dairy and beef breeding cows, classified as D1 through D5, that are typically more than 30 months of age; and

(4)    Veal Calves: farmers sell veal calves of 18 to 20 weeks, averaging 525 pounds live weight, to packers.

From fed steer are produced the prime cuts and the best meat. From dairy and beef cattle are produced stewing beef, ground hamburger and other further processed beef products. By-products, such as beef tongues, kidney, tripe (stomach), feet and tails, are produced from all types of cattle. The two wholesale markets include, first, packers and, second, further processors (who have obtained their beef from packers) who sell to distributors, retailers or restaurants/food caterers. The distributors, in turn, sell to retailers and restaurants/food caterers who in turn sell to consumers. Retailers and restaurant/food caterers make up the two retail markets.

Figure 2.1
The Cattle-Beef Supply/Value Chain

      Source: Canadian Meat Council and Canfax Weekly Summary

Industry Structure and Performance

Canada’s cattle and beef products industry is structured quite differently at the different stages of production, although there is a common trend among these stages to more consolidation and concentration — a fact that will be highlighted. Each stage involves a number of different types of operations. This chapter will focus on the structure and performance of industry participants who have garnered the lion’s share of the market at each stage; they will be described and analyzed in turn.

Cow-Calf Operations

Beef production begins with cow-calf operators that raise calves for the industry. Cows are selected for their mothering ability, beef quality traits and other traits. Mating takes place in early summer, with peak calving occurring in the following spring. On most farms, the entire cow-calf process takes place exclusively in open pastures, where the cattle graze and the calves nurse until they reach 500-600 pounds. At this stage, they are weaned from their mothers and are fed a forage-based diet.

Canada’s 2001 Census indicates that there were 90,066 farms reporting beef cows, down from 103,675 in 1996, or about 16%, and down from 163,863 in 1976, or about 45% (see Figure 2.2). Consolidation is evident in all sectors, as farms became fewer but larger. In 2001, Canada’s beef-cow herd was estimated at approximately 4.6 million head, compared to 4.5 million head in 1976. Therefore, the average Canadian beef-cow farm has grown from 27 head to 51 head between 1976 and 2001. Forty percent of the beef-cow herd is now located on farms with more than 123 head.

Figure 2.2
Number of Farms Reporting Beef Cows in Canada

      Source: Statistics Canada

In part because of the BSE crisis, Canada’s herd of beef cows grew to just more than 5 million head by 1 January 2004, the largest ever. The eastern Canadian herd amounted to 706,700 head, or 14% of Canada’s entire herd of beef cows, and the western Canadian herd totalled 4,314,000 head, or 86%. Principally for climatic conditions, the raising of beef cattle is concentrated in western Canada, away from the main consumption centres of the country.

Dairy operations, on the other hand, are found in greater number in eastern or central Canada than in western Canada. Because the production of milk and other dairy products is not as dependent on climatic conditions as beef production, and because of a relatively shorter product shelf life and more costly transportation, dairy operations are located closer to the main consumption centres of the country. Hence, dairy operations are distributed across the country more in accordance with the country’s population than are beef cattle operations. Furthermore, cull cows, which are disproportionately exported to the United States for slaughter relative to beef cows because of insufficient cull cow slaughter capacity in Canada, are a more important source of stewing and ground beef for eastern Canada than for western Canada. Eastern Canada’s herd of dairy cows stood at 836,100 head on 1 January 2004, or 78% of Canada’s entire herd of dairy cows of 1,077,100 head. There was 241,000 head of dairy cows in western Canada, or 22% of the country’s herd. Due to much-improved milk productivity, this herd has continuously declined in size, from roughly three million head in 1960.

Feedlot Operations

Feedlot operators specialize in the feeding of a high-protein diet to the young cows they purchase from farmers, typically 600 to 800 pounds, until they reach 1,200 to 1,400 pounds and are ready for slaughter. Initially, feedlots put their calves on a diet consisting of forages, but they are progressively shifted to a diet of about 90% grain. A grain-based diet promotes the production of a tender, marbled beef.

Table 2.1
Alberta and Saskatchewan Feedlots and Bunk Capacity — 1 January 2004

    Source: Canfax

Statistics are available on feedlots located in Alberta and Saskatchewan. As of 1 January 2004, there were 212 feedlots located in Alberta and 28 feedlots in Saskatchewan. Table 2.1 provides a distribution of feedlots according to size (bunk capacity) for Alberta and Saskatchewan. When these operations are divided into 1,000-5,000, 5,001-10,000, and 10,000+ bunk capacity categories, their total capacity is fairly evenly distributed in Saskatchewan. Not so for Alberta feedlots. Eleven Alberta feedlots of 20,000+ bunk capacity hold a commanding 35% of total Alberta feedlot capacity. The most common feedlot size is 1,000-5,000 bunk capacity; there are 130 of these in Alberta, but together they hold only 20% of the province’s feedlot capacity.

Figure 2.3
Feedlot Consolidation and Concentration in Alberta — 1991 and 2002

Source: Canfax Annual Report 2002, George Morris Centre

Figure 2.3 indicates that consolidation has been taking place within this segment of the industry as well. In Alberta, the number of feedlots declined from 229 in 1991 to 212 in 2003. During this period, annual feedlot production increased from 927,000 to 2 million head. Average annual feedlot production has, therefore, grown from 4,048 to 11,538 head. Feedlots with more than a 10,000 bunk capacity grew in number from 12 to 36 between 1991 and 2003, and their share of production almost doubled, from 31% to 59%.

Packing and Processing Operations

Packers slaughter the cattle. Carcasses averaged 836 pounds in 2003. The meat is cut, trimmed and packaged. Meat products are then transported to retailers, distributors or restaurants/food caterers; by-products, such as hide, offal and bone meal, are sold to other customers. Because these packer activities are reduction processes (from the cow carcass to specialized meat cuts), slaughterhouses economize on transportation costs by locating closer to cow-calf/feedlot operations than to the consumption centres of the country. This explains why the majority of Canada’s slaughter capacity is located in Alberta and Saskatchewan.

Packers can be divided according to whether they are federally or provincially inspected; the focus in this chapter is placed on federally inspected packers and processors. Table 2.2 indicates that there are 19 federally inspected beef packers in Canada, ranging in size from a weekly slaughter capacity of 25 head in Lacombe, Alberta, to 22,000 head in Brooks, Alberta. The industry’s total weekly slaughter capacity is more than73,725 head, with Alberta leading the way with 49,325 head.

Table 2.2
Canadian Federally Inspected Beef Packers — 2003

Source: Canfax Annual Report 2002, George Morris Centre

Figure 2.4
Canadian Cow Slaughter Numbers at Federally Inspected Plants

Source: Canfax, George Morris Centre

From Figure 2.4, one can infer that the source of the existing high concentration of ownership in Canada’s beef packing industry is the consolidation that took place between the late 1970s and early 1990s. The number of cattle slaughtered has steadily declined from its peak of about 4.5 million head in 1976 to its low of 2.7 million head in 1993. Many slaughter operations shut down and went out of business in this period. Thereafter, slaughter numbers increased and levelled off in the 3.2- to 3.4-million-head range until the BSE crisis hit in 2003.

Retailer Operations

Grocery retailers, defined to comprise supermarkets, groceries and other food stores, and totalling 8,342 stores, sell more than 25,000 items. In 2002, they generated $64 billion in sales and employed 400,000 people. Profit margins across all items sold in these stores average about 1%-2% of sales.

Grocery store sales have outpaced the Canadian economy consistently over the past few years, growing on average by 4% per annum. Despite this strong performance, the traditional grocery sector has consistently lost market share of total retail sales. Other types of retailers, such as drug stores, mass merchandisers and warehouse clubs, have migrated into grocery retailing to provide consumers with the convenience of “one-stop shopping.” The resultant broad range of retail channel choices for basic groceries has, therefore, intensified competition for the consumer dollar and encouraged channel blurring. Consequently, the grocery retail sector has seen its market share of total retail dollars decline to 22% in 2002. Table 2.3 provides the market shares of grocery sales of the top 10 retail companies in Canada in 2002.

Table 2.3
Top Ten Grocery Retailers in Canada by Sales and Market Share — 2002

Source: CIBC World Markets Estimates

Canadian grocery retailers sold 240 billion kilograms of beef and beef products for $2.1 billion in 2003. Because of strong sales promotion on the part of many grocery retailers in an attempt to help out Canadian cattlemen throughout the past year, beef consumption in Canada was up 5% from 2002. This increase compares very favourably to the rather flat performance over the past several years, though it does not exceed the rise in chicken (5%) and pork (9%) consumption over the past 12 months. According to AC Nielsen scanned data, the average price of beef and beef products declined 13.8% between May and December 2003.

Competition

For some time now — at least two decades — all segments of the beef industry in Canada have undergone consolidation, with the remaining participants becoming larger — much larger. For example, according to Statistics Canada census data, cow-calf operations almost doubled in size in the past quarter century, from an average of 27 head in 1976 to 51 head in 2001. However, with more than 90,000 cow-calf operators, this segment is the least concentrated of the industry. Efficiency gains would appear to be the primary motive behind this consolidation. Indeed, the data indicate that the retail prices of beef products have been rising by the rate of general inflation of goods and services over the past several years. At the same time, farm-gate prices of cattle have been declining as a percentage of retail prices. These two trends tend to support the efficiency claims.

There is some evidence of consolidation in the feedlot segment of the industry as well, with Alberta operations declining in number from 229 in 1991 to 208 in 2002 and then increasing to 212 by 2004. Countrywide data are not available, but Alberta and Saskatchewan data suggest a trend to fewer but larger feedlot operations. The motivation again appears to be efficiency gains, as the industry segment is not dominated by a small number of operators.

The packing segment of the industry, however, is another matter. At first glance, it would appear that 19 federally inspected packing plants, along with hundreds of provincially inspected packers,² provide sufficient competition. However, the packing industry in western Canada is best characterized as a triopoly made up of Cargill Foods, Lakeside Packers (a division of Tyson Foods) and XL Beef, with a half dozen fringe or small rivals providing competition. In eastern and central Canada, the industry is also concentrated — although less so — with Better Beef Limited controlling 8,500 head of a central Canada weekly slaughter capacity of 19,525 head, or 43.5%.

Focusing on western Canada, Cargill Foods, Lakeside Packers Ltd. and XL Beef have a weekly slaughter capacity of 51,500 head of a total western Canada weekly slaughter capacity of 54,200 head. These three companies, therefore, control 95% of western Canada’s beef packing industry. They are also vertically integrated into feedlot operations, with packer-owned cattle procurement averaging 16% of Alberta cattle marketings in the past six years.³ It is claimed that, like Colorado-based packers, Alberta packers are more vertically integrated (in percentage terms) than their Kansas, Nebraska or Texas counterparts to manage the greater seasonal aspect of fed cattle supply in Canada. Partial vertical integration thus provides a more secure and balanced supply of fed cattle to their packing operations throughout the year, thereby lowering their investment risk while realizing greater economies of scale.

Cargill Foods and Lakeside Packers Ltd. are subsidiaries of U.S.-based multinational corporations that benefit from considerable market infrastructure in, and information on, the United States, Japan, Mexico and other major meat-importing countries. Being part of this larger network requires their management to use Canadian cattle and beef in ways to complement and coordinate, but not directly compete with, their U.S.-based plants. A competitive advantage is believed to be obtained from this type of corporate organization.

The smaller packers may be at a disadvantage relative to Cargill, Tyson and XL Beef in terms of unit production costs, but they are not without their core competencies themselves. Being much smaller, their production schedules are more flexible and can be more easily set to accommodate prevailing market conditions. Smaller packers also possess better knowledge of the local markets and are better able to take advantage of local opportunities when they present themselves.