Release No. 0062.96
Backgrounder

                    USDA BACKGROUND REPORT ON
                      MEAT PACKING INDUSTRY
                       CONCENTRATION STUDY
February 14, 1996

Introduction: the Setting


Concerns about concentration have a long history in the meat packing industry.
Those concerns focus on the effects of concentration on prices and the process
of price discovery that is so essential to a competitive market.  Some
observers fear that increases in vertical integration and coordination
(ownership or control along the market chain) as well as concentration can
amplify the potential for abuse of market power.  They fear that firms in a
concentrated processing industry that utilize a specialized input such as meat
animals may be able to reduce the prices they pay to suppliers.  There are
other concerns, including concerns that large packers may use vertical
coordination to block their smaller competitors from sources of supply, or to
discriminate among livestock sellers.  Certainly, the increased tendency
toward vertical coordination reduces the prevalence of open market
transactions, and restricts the availability of market information that is
collected only on a voluntary basis.

Other observers point to economic gains from concentration and vertical
coordination.  Some observers argue that livestock prices are higher due to
increased efficiency and lower costs realized by large packers.  In addition,
vertical coordination arrangements may serve to reduce risks associated with
supply and price uncertainty, providing mutual gains to buyers and sellers.
Some argue that these gains more than offset any potential adverse effects of
large market shares and higher concentration levels.  These observers also
argue that meat prices would be higher, and prices to livestock producers
lower, with fewer animals sold.

This debate turns on the answers to some fundamental questions:
     How do vertical coordination arrangements affect production costs,
     livestock and meat quality, price discovery, and market access?
     Do large firms possess and use market power?
     Do potential efficiency gains offset potential adverse market power
     effects of concentration?
     What is the role of Federal regulation in preventing large firms from
     abusing potential market power and in monitoring the industry?



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Past studies have provided inconclusive or contradictory information regarding
these questions.  In addition, new technologies have continually brought
change to the industry, altering its structure with respect to production
methods to meet new demands, and changing its underlying cost structure.

Congress Requested a Study

Congress included $500,000 in the USDA's Packers and Stockyards Administration
(now Grain Inspection, Packers and Stockyards Administration (GIPSA)) 1992
fiscal year appropriation to conduct a study of concentration in the red meat
packing industry.  Congress requested that universities and other contractors
be used in the study.  In 1992, USDA commissioned university researchers and
researchers from its Economic Research Service to conduct in-depth studies on
several facets of the livestock sector that weigh directly on this debate.
Input was sought from the public and other Federal agencies, to help
prioritize research topics.  This study reflects the priorities that were
identified as being the most pressing at the time the study was commissioned.

The study provides a wealth of information and a glimpse into a complex and
dynamic sector of agriculture, and confirms that agriculture is increasingly
industrialized.  Today's markets and marketing strategies are extremely
sophisticated, with new information transmitted with a speed that requires
equally sophisticated and rapid decision making ability by firms and
producers.  The study offers a broad view of industry structure and behavior
in the cattle and hog industries, focusing on analysis of interrelated areas:
definition of regional cattle procurement markets, effects of concentration on
prices paid for cattle, price determination in slaughter cattle procurement,
the role of captive supplies in beef packing, vertical coordination in hog
production, and hog procurement in the Eastern Corn Belt.  In addition, the
study provided a thorough review and synthesis of relevant economic research
literature dealing with structure, conduct, and performance in the livestock
industry.

The concentration study provides a snapshot of the industry, mostly covering a
1-year period extending from April 1992 through March 1993.  Because the study
focuses on that time period, limited conclusions can be drawn about market
behavior over time, and particularly over the span of a normal cattle cycle,
which tends to run for approximately a decade. Other issues regarding the red
meat industry that have become important since the study was begun were not
examined.  For example, analysis was not conducted on the segments of the
industry extending forward from the packers.  Thus, no examination was made of
prices at the wholesale or retail level, or of retailer structure, conduct,
and performance that may influence meat packers' decisions.

Summary of Findings

Overall, the study depicts a meat packing industry that is complex and
dynamic.  Information appears to flow rapidly and freely among regions,
encouraging a national market in which the forces of supply and demand largely
determine behavior of market participants.  Product movement does not appear
to be inhibited.  The relatively low cost of transporting cattle over long
distances diminishes the ability to manipulate prices in isolated regional
markets.  A variety of pricing and procurement arrangements are available and
used, and they appear to be associated with changing market conditions.

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The study does confirm concentration in the red meat packing industry: a few
large buyers procure significant volumes of cattle; to a lesser degree, a few
large sellers predominate sales; marketing contracts in the hog sector are
prevalent among large producers and, by all indications, are expected to
increase in the coming years; contractual arrangements are available and used
in both cattle and hog markets to coordinate sales; and in some specific
regions or localities, there are only a few large packers.  In spite of the
presence of concentration, the study provided no definitive evidence that
concentration had an appreciable effect on cattle prices over the period
examined.  Nevertheless, the research raises an awareness of potential
problems that could arise.  A summary of the separate projects is provided
below.

                           Beef Sector

Defining Cattle Procurement Markets   (Oklahoma State University with
collaborators at    Kansas State and Iowa State University)

One reason to define procurement markets is to determine if there is a
potential for local price manipulation by a single or very few buyers; for
example, if cattle cannot be easily and cheaply transported to take advantage
of better marketing opportunities in other marketing regions.  However,
research conducted for this project suggests that fed cattle procurement
markets behave as if cattle are traded nationally.  Although regional
differences do exist, predominantly east of the Mississippi and west of the
Rockies, cattle movements and price adjustments among areas are sufficiently
strong to promote similar prices among regions.  Kansas and Nebraska tend to
lead the price discovery process, and price linkages are strongest between the
Midwest and Plains, the major feeding and slaughtering regions.

Although prices adjust quickly among areas as if the fed cattle procurement
market were national, in fact, cattle are not transported long distances for
slaughter.  On average, packers obtained 64 percent of their cattle within 75
miles of their plants, 82 percent within 150 miles, and 95 percent within 270
miles.  But low costs of transporting cattle, and the availability of multiple
outlets (firms) within regions, likely diminishes opportunities for local
price manipulation by significant amounts or for extended time periods.

Cattle Price Determination (Texas A & M University)

A variety of pricing and procurement arrangements exist among feedlots and
packers, and prices would be expected to vary with those arrangements.
However, cattle prices also significantly reflect cattle quality and other
transaction characteristics.  As expected, lower prices are paid for heifers,
holsteins, lower quality-grade and yield-grade cattle, and cattle having lower
dressing yields.  Lower prices are also paid for cattle in smaller lots, and
in some areas, for cattle purchased by smaller plants.



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Not unexpectedly, large packers are the major buyers at large feedlots.  Large
packing plants (with daily slaughter in excess of 4,000 head) purchased nearly
half of their cattle from the large feedlots.  Small plants (with daily
slaughter under 2,000 head), on the other hand, purchased less than a quarter
of their cattle from large feedlots.  Capacity utilization of the three
largest packers also exceeded smaller plants--the "big three" had capacity
utilization averaging 76 percent, compared with 60 percent for other plants
during the period April 1992-March 1993.

Just as large packers dominate purchases, large feedlots dominate sales,
albeit to a lesser degree.  While the study identified sales by over 19,000
sellers (feedlots, farmer-feeders, auctions and dealers), the 152 largest of
these (less than 1 percent of the total) each sold more than 32,000 head of
cattle during the study period, and accounted for 43 percent of the cattle
sold.  Nearly 90 percent of the sellers, on the other hand, sold less than
1,000 head of cattle and comprised 14 percent of all cattle sales.

This research found that some procurement methods are associated with specific
pricing methods.  Carcass-weight pricing tended to be used with forward
contracts (over 75 percent of forward contract sales used carcass-weight
pricing); over 90 percent of sales using marketing agreements used formula
pricing; and liveweight pricing was most commonly associated with spot market
transactions.  The spot market continues to dominate transactions, however,
accounting for 79 percent of all cattle procured during the study period.

Captive Supplies (Oklahoma State University with collaborators at Kansas State
University)

Feedlots and packers presumably enter into captive supply arrangements because
of mutual potential gains.  Captive supplies may serve a useful economic
function for participants by arranging for future delivery of cattle.  Captive
supplies may improve orderly marketing, which can generally increase market
efficiency by smoothing price and quantity variation that can disrupt planning
and decision making by firms.  The greatest concern expressed about the use of
captive supply is that the arrangements may be used in a manner that enhances
the market power of packers.  There is particular concern that captive supply
arrangements may weaken the price discovery process used in spot markets.

Captive supply arrangements vary considerably among packers--ranging from no
or infrequent use, to extensive use.   Packers may also use captive supplies
to maintain plant capacity utilization, which helps hold down operating costs.
On an annual basis, use of captive supplies has been relatively low and stable
compared to the total number of cattle slaughtered, and does not appear to be
increasing.  Overall, captive supplies tended to have a moderating effect on
cattle prices.  Packers paid $1.75-$2.00 per cwt less (liveweight prices) for
cattle purchased through forward contracts than for cattle obtained through
the spot market.  On the other hand, packers paid higher delivered prices for
cattle obtained through marketing agreements.


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Effects of Concentration on Cattle Prices (Virginia Polytechnic Institute and
State University)

The price determination project discussed above found that prices in local
areas are affected very little by differences in concentration in those
regions.  This is consistent with the finding that market forces tend to
operate at the national level, as reflected by strong price linkages among
regions.  However, the project that examined the effects of concentration
nationally did not determine whether market power is used at a national level
to influence prices.  Data from packers' records revealed considerable
variation that was inconsistent with the requirements of the model originally
proposed for examining the effects of concentration.  Additional information
on packer behavior and more consistent data are needed to construct more
appropriate models of firms' behavior to determine if market power is
influencing prices.

                            Hog Sector

Vertical Coordination (Hayenga, Rhodes, Grimes, and Lawrence Partnership)

Contracting in hog production and marketing is, at present, small enough to
have little impact on the competitive environment in hog production and
marketing.  However, the importance of contracts is growing rapidly.  The
seven largest producers in 1993 sold most of their hogs through long term
marketing contracts.  Like captive supply arrangements, contracting appears to
offer economic advantages to both buyers and sellers.  Packers gain an
opportunity to improve hog quality and assure a steady supply of preferred
types of hogs.  Producers gain an opportunity to have an assured market for
their hogs and assurance of payment based on quality.  Contracts also provide
an opportunity for some new producers to gain the expertise, financing, and
other economic assistance needed to gain a foothold in the industry.  Most of
the respondents in this study fully expect contracting to increase rapidly
through the end of the 1990's and become a major marketing and production
tool.

Procurement in the Eastern Corn Belt (Economic Research Service, USDA)

As with fed cattle purchased for slaughter, the slaughter hog market tends to
be essentially national, with different regions linked sufficiently that price
adjustments occur rapidly throughout the nation.  Prices paid for hogs by
packers in the eastern Corn Belt increased slightly as distance to the source
of supply increased.  However, the price differences observed with distance
were too small to be interpreted as evidence of inefficient or noncompetitive
prices or procurement practices.

Procurement patterns in the eastern Corn Belt indicate relatively efficient
transportation of hogs.  Although actual hog movement patterns showed
considerable overlap among packing plants, if all hogs were shipped to the
nearest plant representing the least-cost delivery point, total transportation
costs would have been reduced by less than 1 percent.



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Literature Review (University of Nebraska)

An extensive body of literature was reviewed for the study.  The review
suggested that major changes in the meat packing industry over time have
resulted from technological change and rivalry among firms.  A careful review
of previous research on the effects of concentration did not support a finding
either that the industry is competitive or that it is uncompetitive.  The
researchers suggested that future research focus on the process of
competition, and competitors' strategies for responding to technological and
market forces.


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Committee Members

PRODUCERS

Rebecca Edington is a poultry grower from Maysville, Georgia.  She has been active in national
and state Contract Poultry Growers Associations.

John Hardin runs his family's farm in Danville, Indiana, where he raises corn, soybeans, and
hogs. He is an active member of several producer associations.

Karl Johnson, past president of the National Pork Producers Council, manages a hog farming
operation with his brother in Mankato, Minnesota.

Tyrone Moos,  a native of South Dakota has been a farmer and rancher for 30 years, raising
wheat, milo, millet and managing a cow-calf and hog operation.

Eddie Nichols has been in the cattle feeding business for 40 years.  He raises corn and wheat in
Nebraska and has been a member of the National Cattlemen's Association for more than 20 years.

Brent Porteus has been farming with father and brother since 1977 in Coshocton, Ohio.  They
raise wheat and feedgrains.  He is active in state and national producer associations.

Steve Raftapoulus is the president of the American Sheep Industry Association.  A native of
Craig, Colorado, he has been a sheep and cattle rancher since 1975.

Don Smith runs a farm, ranch, and feedlot business in Tribune, Kansas, that has been family-owned and operated since 1958.  He served on one of USDA's first technical assistance ventures
to Russia.

AGRIBUSINESS, RAIL, RETAIL, RURAL FARM INTERESTS

Ken Bull is currently vice president for cattle procurement for Excel in Wichita, Kansas. Before
coming to Excel, he directed economic research for Cargill.

Gary Evans is a vice president for Farmland Industries in Kansas City, Missouri. He has been
with Farmland for 25 years.

Tim Hammonds is the president and CEO of the Food Marketing Institute.

Ed Laur is vice president for Attebury Grain, Inc. in Amarillo, Texas.  He has worked for more
than 20 years as a grain merchant.

Herman Schumacher (VICE-CHAIR) of South Dakota is the co-owner and co-manager of the
Herreid Livestock Market.  For the past 26 years, he has been a farm and livestock auctioneer.

Marty Strange (VICE-CHAIR) is the co-founder and for the past 20 years the director of the
Center for Rural Affairs in Nebraska.

Phil Weaver of Fort Worth, Texas is vice president for agricultural commodities for Burlington
Northern-Santa Fe Railroad. He is a member of National Grain Car Council.

STATE REPRESENTATIVES

Graham Boyd is an assistant to North Carolina's Governor Jim Hunt. He leads the Governor's
Advisory Committee on Agriculture, Forestry, and Seafood.

Dale Cochran is the Secretary of Agriculture for Iowa.  He is a former farmer, county extension
director, farm editor, and elected state representative.

Paul Strandberg is Minnesota's Assistant Attorney General for Agriculture.  He is a former
assistant county attorney and law professor.

ECONOMISTS

Mike Boehlje is a professor of economics at Purdue University.

Mark Drabenstott is vice president for the Federal Reserve Bank in Kansas City, Missouri.  He
oversees bank research for the seven-state area covered by the Kansas City district.

Dan Padberg (CHAIR) recently retired as professor and head of the department of ag economics
at Texas A&M.  From 1965-1966, he served on the staff of the National Commission on Food
Marketing; and in 1968 he served on the White House Task Force on Farmer Bargaining.

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