PILGRIM'S PRIDE CORP PPC S
October 21, 2014 - 11:42am EST by
fiverocks19
2014 2015
Price: 29.28 EPS $0.00 $0.00
Shares Out. (in M): 260 P/E 0.0x 0.0x
Market Cap (in $M): 7,600 P/FCF 0.0x 0.0x
Net Debt (in $M): 500 EBIT 0 0
TEV ($): 8,100 TEV/EBIT 0.0x 0.0x
Borrow Cost: NA

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  • Poultry Production
  • Fragmented market
  • Sector Short
  • Meat Production
  • Industry short
  • Agriculture
  • Cyclical
 

Description

SHORT.  It is time to be short the chicken cycle.

We currently maintain material short positions in the three largest US chicken producers: Pilgrim’s Pride Corporation (“Pilgrim’s” or “PPC”), Sanderson Farms, Inc. (“Sanderson” or “SAFM”), and Tyson Foods, Inc. (“Tyson” or “TSN”).  This write-up was written with a focus on SAFM, but due to recent share price movements it is our view that PPC is now the most compelling and overvalued short of the three.  We believe PPC is worth $15 (vs. $29+ today), that SAFM is worth $55 (vs. $81 today), and TSN is worth sub-$30 (vs. $39 today).

Importantly, all three stocks are liquid with lots of market cap and are borrowable at GC.  We believe the stocks will revert to fair value or below fair value over the next 2-4 quarters.


Summary

The chicken cycle is one of the investment world’s great short themes.  The opportunity to short the chicken cycle reappears every 2-3 years as the chicken industry follows a repeating supply-side driven cycle.  While pundits and the sell-side wax enthusiastic about growing chicken demand, high pork and beef prices relative to chicken, rising exports, falling corn prices, operating efficiencies, supply constraints, animal diseases, a changing industry structure, etc., this is all “white noise”.  The chicken cycle is about one thing and one thing only: how much chicken is produced in the United States.  Keep your eye on the ball and you will have a lucrative trade on your hands.

At a high level, trading the chicken cycle is simple.  Go long the chicken names when there is oversupply, chicken companies are losing money, and capacity is beginning to be removed from the industry.  Go short the chicken names when there is undersupply, chicken companies are raking in profits, and capacity is beginning to be added to the industry.  Today, chicken producers are extremely profitable and we see clear signals that a large supply response is on its way that should lead to a massive oversupply of chicken by 2016 if not sooner.  It’s time to be short.

There are two ways to play this trade from the short side.

The first is to try and “call the top”.  We have been short the chicken names for a number of months now as we believe we came pretty close to nailing the peak of the trade.  This is difficult to do and involves higher risk and higher reward.

The second is to short the chicken cycle after the first crack.  One reason shorting the chicken names can be so remunerative is that you can “shoot them in the back” on the way down by aggressively pressing the short on bounces as the stocks revert to fair value.  Simple economics of supply and demand virtually mandate supply follow profitability – in an economically irrational industry like chicken, capacity is added when producers are profitable and it is removed when producers are unprofitable.  The only question is how long it takes the stocks to catch up.

We believe the first crack occurred on Thursday of last week.  On Thursday 10/16, Sanderson had its Investor Day in New Orleans.  Sanderson’s management team is outstanding – the best in the industry – and CEO Joe Sanderson, Jr. is as straight a shooter as they come.  The sell-side did everything but beg Joe and his team to say that the industry had changed, that a large supply response would not come this time, that buying back shares was an attractive use for SAFM’s rapidly-building cash reserves.

Joe shot them down every time – and in no uncertain terms.  It’s worth listening to a replay of the Investor Day here.  Though be warned: Joe has a voice like molasses and the SEC college football references are out-of-control.

Chicken company stocks fell sharply following the SAFM Investor Day – PPC was -18%, SAFM was -10%, TSN was -5%.  This was the crack we’ve been waiting for.  The sell-side defended the names and the bounce has been powerful with PPC +8% and then +5% on Friday and Monday; the chicken stocks are up slightly again today.  We think the bounce will prove ephemeral.  We have added to our shorts and – following the playbook – intend to press them as the stocks revert to fair value.

This write-up is divided into four sections.  We begin with an overview of the chicken cycle.  We then delve into the theory of cyclical industries and speak to rational industries vs. irrational industries and some of their characteristics.  The third section is a review of why this is not just a chicken cycle but a “chicken super-cycle”.  We conclude by laying out the investment thesis on the short side for PPC, SAFM, and TSN.


The Chicken Cycle

A supply-side protein cycle works as follows:

  • Bottom of the Cycle.  An oversupply leads to low protein prices and unprofitable producers.
  • Shift to Underproduction.  Marginal producers go bankrupt or shut production, reducing supply and causing protein prices to rise.  As protein prices increase, producers shift from loss-making to profitable.
  • Top of the Cycle.  An undersupply leads to high protein prices and profitable producers.
  • Shift to Overproduction.  Profitable producers add capacity, increasing supply and causing protein prices to fall.  As protein prices decline, producers shift from profitable to loss-making.
  • Bottom of the Cycle.  An oversupply leads to low protein prices and unprofitable producers.

The length of each protein cycle varies by commodity and is largely dependent on animal biology.

The longest of the protein cycles is the beef cycle, which generally lasts 5-7 years.  The pork cycle is twice as quick, lasting only 2-3 years.  The fastest is the chicken cycle, which can last as little as one year.  Additional detail on each of the cycles is included here, but a short review of each animal’s biology makes plain why the speed of a supply response can vary from protein to protein:

 

Protein

Birth to Reproductive Age (Female)

Gestation Period

Birth to Finish

(Slaughter Animal)

Total Time

Cattle (Beef)

13 to 20 Months

10 Months

16 Months

39 to 46 Months

Hogs (Pork)

8 Months

4 Months

6 to 7 Months

18 to 19 Months

Chicken

4 to 6 Months

Less Than 1 Month

2 Months

7 to 9 Months

 

 

 

 

 

 

 

 

The chicken cycle is a fascinating topic to study.  Historical data on the cycle is rich and readily available: the USDA provides a treasure-trove of chicken industry statistics going back more than five decades; our financial model of Sanderson Farms includes twenty-five years of financial statements.  Careful analysis of the data yields two important conclusions: (i) from peak-to-trough (or vice-versa) the chicken cycle lasts between one and three years, and (ii) the key driver of the chicken cycle is supply – other factors such as exports, demand, the price of competing proteins, etc., play a tangential role but are overwhelmed by simple supply-side economics.

From an investment perspective, it is critical to understand how the investment community reacts to each cyclical peak and trough.  When analyzing cyclical industries, we value companies via a two-step process.  First, we determine the company’s current production capacity.  Second, we assume a “normalized” level of profitability on that production by averaging-out historical peaks and valleys in profit margins.  By taking this two-step approach, we avoid falling into the trap of valuing the business on “peak earnings” or “trough earnings” and instead focus on the company’s “through-the-cycle” earnings power.  Our objective is to understand the go-forward profitability of the company through a complete industry cycle.

But that’s not how the market tends to treat cyclical industries.  Most investors (i) invest with a short-term time horizon and (ii) extrapolate current trends into the future.  When chicken producers do well, investors assume the good times will continue.  Conversely, when chicken producers do poorly, the investment community’s pessimism can be overwhelming.  Investors frequently value chicken producers at peak valuation multiples on peak earnings at the top of the cycle and at trough valuation multiples on trough earnings at the bottom.

And therein lies the opportunity.  By carefully weighing the data – and by maintaining a clear view of each company’s through-the-cycle earnings power – it is possible to purchase cyclical commodity businesses at a substantial discount when things are going poorly and to short them at a substantial premium when things are going well.  As valuation multiples and earnings concurrently expand (in an up-cycle) or contract (in a down-cycle), the double-effect can magnify investment returns in either direction of the cycle.


The Worst Hand in Poker

What is the worst hand in poker?

Ask any competent no-limit hold ‘em player and the response is automatic: “two-seven off.”  Examples of this hand include a two-of-hearts and seven-of-spades or a two-of-clubs and seven-of-diamonds.  This is the hand with the lowest high-card – the seven – that also (i) minimizes the odds of a flush (as the cards are “off” – i.e., of two different suits) and (ii) minimizes the odds of a straight (as the cards are five numbers apart).

Though this answer is technically correct, it is not actually the worst hand in poker.  The worst hand in poker is the second-best hand.  This is the hand that incentivizes the player to bet heavily without the odds in his or her favor.  It is the poker hand that offers the player the greatest risk of loss.  Competent players know to fold a two-seven off.  Gifted players know to fold the second-best hand.

A similar framework applies when thinking about industry structure in cyclical, commodity businesses.  The most profitable industry structure is a “rational” structure that has been consolidated to one or a few participants who together control pricing either explicitly (via a monopoly or cartel) or implicitly (by widely broadcasting pricing decisions such that the small number of industry participants can act in concert without directly coordinating their decisions).  A consolidated, rational industry structure allows up-cycles to last longer and down-cycles to be shortened.  Through-the-cycle profitability for each participant is meaningfully enhanced.

The next-best industry structure is a fragmented industry.  A fragmented structure is characterized by its many smaller, marginal participants.  In up-cycles, these marginal players often lack the capital to rapidly invest in additional capacity.  In down-cycles, these same marginal players lack the balance sheet strength to endure protracted downturns and so are relatively quick to shut capacity.  A fragmented industry is therefore marked by slightly longer up-cycles and demonstrably shorter (and shallower) down-cycles.

The worst industry structure is the second-best structure – an industry that is “almost-consolidated” with fewer participants, but not so few that pricing has become rational.  This structure leads to more violent cycles with (i) protracted downturns characterized by many well-funded large players each battling to outlast one another, followed by (ii) shorter, more-powerful upswings that are rapidly cut off as survivors rebuild financial strength and add capacity.  Through-the-cycle profitability is diminished as the industry consolidates toward rationality.

Over the last decade, the chicken industry has morphed from “fragmented” to “almost-consolidated.”  The top-3 players today have 45% market share; the top-10 have 79% share.  While these numbers are concentrated, we believe they are not concentrated enough to lead to rational pricing behavior.  As a result, the amplitude of the chicken cycle has dramatically increased.  In the thirteen years from 1993 to 2005, SAFM had negative operating profit only once (2000) and negative net income only twice (1996 and 2000).  In the eight years since, SAFM has already had negative operating and net income three times – with a fourth, we believe, on the way in 2016.


The Chicken Super-Cycle

In the last twenty-plus years, the chicken industry reached cyclical peaks in 1993, 1998, 2001, 2004, 2007, 2010, and 2014.  These peaks can be identified two ways.  First, they can be seen in chicken producer gross profit margins (either on a percentage-of-revenues basis or on a gross profit dollars per pound basis), which are high at cyclical peaks and low at cyclical troughs.  Second, they can be seen in broiler egg set data (broilers are chickens raised for consumption) – a good proxy for real-time industry profitability and a leading indicator of future supply.  Broiler egg sets are high at cyclical peaks and low at cyclical troughs.

Of the seven identified peaks, two can be described not just as chicken cycles but as chicken super-cycles.  The first of these extraordinary cycles occurred in 2004.  The second is happening today.

The story of the current chicken super-cycle begins in 2010 when the chicken cycle last reached a cyclical peak.  Sanderson set a company record that year with $130M in after-tax profits.  The company’s gross profit margin reached 15% versus a “normalized” gross profit margin of about 9%.  With chicken companies highly profitable, supply increased and broiler egg sets reached a cyclical peak of 212 million per week in mid-2010.  The writing was on the wall that as this supply reached the market, 2011 would be a down year for the chicken industry.

And so it was.  In 2011, Sanderson’s profitability flipped to an after-tax loss of $127M as the company’s gross profit margin plunged to -6%.  Chicken producer profitability reached cyclical lows and the industry – per usual – responded with capacity reductions.  Broiler egg sets bottomed out at 179 million per week in late-2011.

The 2011 capacity reductions set the stage for a renewed up-cycle.  As the calendar moved into 2012, a trend could be seen towards improving industry profitability.  2012 looked to be a good year for the chicken industry.

Then disaster struck.

Corn represents the single largest input cost for the chicken industry; for every one pound of chicken produced, two pounds of corn are required as feed.  In mid-2012, a drought hit the Midwestern US.  Typical corn yields in the US are 155-160 bushels per acre.  In 2012, the US average was 123.  Corn prices responded by doubling to more than $7 per bushel.

The surge in corn prices took a sledgehammer to chicken industry profitability.  Instead of a good year, 2012 proved a second poor year in a row for the industry – a “double-bottom” of the chicken cycle.  By the fall of 2012, weekly broiler egg sets had fallen back to 179 million, almost exactly where they had been one year earlier.

The double-bottom to the chicken cycle acted as a loaded spring, propelling the industry to fantastic results in 2013 and 2014.  The double-bottom removed substantially more marginal industry capacity than a typical cyclical bottom and pushed many chicken producer balance sheets into unusually weak financial positions.  With producers unable to quickly bring on additional capacity due to a lack of financial strength, chicken production was slow to rebound.  The industry benefited by reaping supernormal profits in an extended chicken up-cycle.

Three factors accentuated the up-cycle to create an unusually prosperous period for chicken producers:

  • Corn Prices in 2014.  Growing conditions in the current crop year have been ideal.  We project average US yields of 174 bushels per acre in 2014, which would set an all-time record and blow away the current record of 164.7 bushels per acre (2009).  Corn prices have fallen to less than $3.50 per bushel.
  • High Pork/Beef Prices.  Pork and beef prices have recently reached record highs.  The hog industry is currently wrestling with porcine epidemic diarrhea virus (“PEDv”) which has killed nearly 8 million piglets in the last twelve months.  Cattle prices are also reaching never-before-seen levels as calves that would normally be slaughtered are held back to increase herd sizes.
  • Rooster Infertility.  The world’s largest chicken breeder, Aviagen Group, has experienced issues with the genetics of its standard Ross male rooster.  A recent genetic modification led to a 2% decrease in successful hatches of fertilized eggs.  The standard Ross male is sire to roughly 25% of US broilers.

Though each of these factors has contributed to the chicken up-cycle, we believe none outweighs the importance of chicken production numbers in what remains a supply-side commodity cycle.   That said, we do believe the impact of all three factors is set to reverse.  The rooster genetic issues have been identified and resolved.  New cases of PEDv are in rapid decline as the hog industry gets its arms around the disease – we expect a substantial supply response in the pork market in 2015/2016.  The long, slow process of rebuilding cattle herds is now underway.  And changes to feed prices tend to impact the industry in the short-run but not have a long tail.  The crux of the cycle remains the supply of chicken.


The Best Cure for High Prices is High Prices

The closest analogy I can draw to the current chicken super-cycle is the wheat shock of 2008-09.

In the 2006-07 and 2007-08 production years, the global wheat market experienced concurrent weak harvests in Canada, Australia, Europe, and the United States.  The poor harvests led to a serious supply-demand mismatch and a one-third drawdown in wheat ending stocks.  The price of wheat, which had historically traded between $5-6 per bushel, skyrocketed to a peak of $12.50 per bushel in February of 2008.  Certain strains of high-quality spring wheat quadrupled to nearly $25 per bushel.  Consumers panicked and speculators piled in.

In early-2008, I spearheaded the research at the fund I previously worked for on the wheat market.  My conclusion was that the record-high wheat prices were incentivizing an unprecedented supply response.  Farmers across the globe switched from planting barley or potatoes or corn or sugar beets to planting wheat.  Extra fields were put in use for the first time in years.  In Europe, 15-year-old cultivation limits were scrapped to boost potential planted acreage by millions of acres.  Wheat was planted fence-to-fence across the globe.

My view was that the world was about to produce the largest wheat crop in human history – and that’s exactly what happened.  In 2008-09, global wheat production surged to 682 million metric tons.  The prior record was 625 million.  The price of wheat promptly collapsed.  Wheat today trades for $5.50 per bushel.

We think a similar supply response is in store today for the US chicken industry.  The industry-benchmark Georgia Dock chicken price recently hit an all-time high of $1.13 per pound.  Before this up-cycle, the price had never reached $1.00 per pound.  Two-plus years of strong profitability have rebuilt producer balance sheets.  And now, we believe, the supply response will soon arrive.  The record for weekly broiler egg sets is 222 million (during the 2007 cyclical peak).  Current USDA data shows broiler egg set numbers have passed 200 million per week and recently reached 207 million per week.  We think the record of 222 million will fall in 2015 as chicken producers scramble to add capacity.  A veritable tidal wave of chicken is on its way.

The best cure for high prices, after all, is high prices.


Investment Thesis

Our investment philosophy on the short side is “valuation plus a catalyst.”

From a valuation perspective, chicken producers currently trade for well above intrinsic value and at peak valuation multiples on peak earnings.  As a highly-cyclical commodity producer, we believe Sanderson should trade for 10-12x “normalized” earnings (in-line with SAFM’s historical valuations).  The company has also tended to trade for 2x book value.  We value SAFM at $55, which represents 11x our estimate of through-the-cycle earnings plus the company’s estimated $5-6 per share of net cash as of year-end 2014.

The catalyst is the imminent supply response that we believe will plunge the chicken industry into unprofitability by 2016.  Markets tend to revalue highly cyclical commodity companies such as Sanderson at the first sign of a substantial supply response in the industry data.  We believe this will occur within months.

Importantly, we believe we can already see signs of an imminent supply response in the data.

A female egg-laying chicken is a “hen” or a “layer”; when she is young and has not yet laid eggs, she is a “pullet.”  Industry data on pullets “placed” into production is therefore a double-leading indicator of supply growth – more pullets placed today imply more broilers tomorrow.  Year-to-date in 2014, pullet placements have grown at nearly 3% year-on-year, the quickest pace since the 1990’s.  The data can be choppy month-to-month, but our sense is that with chicken producers earning cyclically-high gross profit margins and cyclically-high gross profit dollars per pound, that this trend of rising pullet placements will continue.

Our chicken thesis applies to the entire chicken industry, but there are pro’s and con’s to shorting each of the three large publicly-listed chicken producers.

Tyson Foods, Inc.

Tyson is the #1 chicken producer in the US with 3x Sanderson’s market share.  That said, chicken sales represent only 35% of trailing TSN revenues.  We believe TSN is still an attractive short candidate as its chicken profitability fluctuates significantly with the chicken cycle and the company recently overpaid for an acquisition as it tried to further diversify away from chicken at a cyclical peak.  In 2013, chicken represented 47% of TSN’s operating profit.  In 2016, we believe chicken will be a negative contributor.  We use a sum-of-the-parts analysis to value TSN, separating its branded processed foods businesses from its commodity protein businesses, and arrive at a fair value between $25 and $30 per share.  We view TSN as an attractive short but the least attractive of the three listed in this write-up.

Pilgrim’s Pride Corporation

PPC is the #2 chicken producer in the US and is the largest pure-play chicken producer operating at more than twice the size of Sanderson.  Pilgrim’s went bust in late-2008 and was acquired out of bankruptcy by the Brazilian conglomerate JBS SA (BOVESPA: JBSS3) which assumed control of the company in 2009.  Since then, PPC has made substantial strides operationally and now is a top-quartile operator where five years ago it was in the bottom-quartile.  We believe the go-forward gains that can be achieved from operational improvements are slim relative to what they were 2-3 years ago.  PPC is a “pure-play” on the chicken cycle with normalized earnings power between $1.00 and $1.50 per share.

Sanderson Farms, Inc.

Sanderson is the best-run public chicken company with outstanding management and excellent corporate governance.  In 1997, the company made a strategic decision to shift its production from small birds (5-6 pounds) to big birds (8 pounds) which are more cost-effective to process; SAFM’s average live chicken weight is 7.6 pounds per chicken versus TSN and PPC at 5.6 pounds each.  As a result, Sanderson maintains a structural margin advantage over other producers with little room for improvement.  We view a SAFM short as a pure-play bet on the chicken cycle.

We believe fair value for TSN is sub-$30 per share (TSN shares trade near $40 per share).  We believe fair value for PPC is $15 per share (PPC shares trade close to $30 per share).  We believe fair value for SAFM is $55 per share.  We expect shares in all three companies to trade to below fair value in the 2016 chicken down-cycle.


Risks

The most important risk to our short thesis is the duration of the cycle.  Every quarter that the current cycle extends is an extra quarter of profitability for the companies we are short.  As a result, should the chicken cycle be prolonged beyond our expectations, the intrinsic value of each company may rise above our forecasts.

A second risk to our thesis is M&A activity.  We do not believe the companies we are short are likely acquisition candidates due to their cyclically high valuations.  However, TSN recently raised $2B in capital by issuing (in our opinion, overvalued) shares to help finance its acquisition of The Hillshire Brands Company (NYSE: HSH).  We think it possible that PPC will attempt to diversify into branded food products – and perhaps in the process combine with JBS SA’s US subsidiary (“JBS USA”) which controls pork and beef processing businesses.  Should PPC diversify away from chicken or merge with JBS USA’s units, the company may no longer be as attractive a short candidate.  We do not believe Sanderson is a likely acquirer as the company prefers to grow organically.

A third risk to our thesis is that we are wrong on the cycle and the industry has consolidated to the point where rational pricing is sustainable.  It is our strong view that the chicken cycle is alive and well and that the industry has not yet consolidated to the point of rationality.  If we are wrong, our short thesis may prove incorrect.

Finally, the most difficult aspect of the chicken short thesis is timing.  We believe a downward turn in the chicken cycle is inevitable – and that investors will sell shares in SAFM, PPC, and TSN at the first convincing sign of an industry supply response.  When that moment occurs is hard to predict, but we believe it is a near-term event.  Our investment portfolio is poised to benefit from any such change in investor sentiment.


Disclaimer

The author of this posting and related persons or entities (“Author”) currently holds a short position in this security.  Author may sell additional shares, or cover some or all of Author’s shares, at any time.  Author has no obligation to inform anyone of any changes to Author’s view of PPC US.  Please consult your financial, legal, and/or tax advisors before making any investment decisions.  While the Author has tried to present facts it believes are accurate, the Author makes no representation as to the accuracy or completeness of any information contained in this note.  The reader agrees not to invest based on this note, and to perform his or her own due diligence and research before taking a position in PPC US.  READER AGREES TO HOLD AUTHOR HARMLESS AND HEREBY WAIVES ANY CAUSES OF ACTION AGAINST AUTHOR RELATED TO THE NOTE ABOVE.  As with all investments, caveat emptor.

I do not hold a position of employment, directorship, or consultancy with the issuer.
Neither I nor others I advise hold a material investment in the issuer's securities.

Catalyst

The catalyst is the imminent supply response that we believe will plunge the chicken industry into unprofitability by 2016.
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    Description

    SHORT.  It is time to be short the chicken cycle.

    We currently maintain material short positions in the three largest US chicken producers: Pilgrim’s Pride Corporation (“Pilgrim’s” or “PPC”), Sanderson Farms, Inc. (“Sanderson” or “SAFM”), and Tyson Foods, Inc. (“Tyson” or “TSN”).  This write-up was written with a focus on SAFM, but due to recent share price movements it is our view that PPC is now the most compelling and overvalued short of the three.  We believe PPC is worth $15 (vs. $29+ today), that SAFM is worth $55 (vs. $81 today), and TSN is worth sub-$30 (vs. $39 today).

    Importantly, all three stocks are liquid with lots of market cap and are borrowable at GC.  We believe the stocks will revert to fair value or below fair value over the next 2-4 quarters.


    Summary

    The chicken cycle is one of the investment world’s great short themes.  The opportunity to short the chicken cycle reappears every 2-3 years as the chicken industry follows a repeating supply-side driven cycle.  While pundits and the sell-side wax enthusiastic about growing chicken demand, high pork and beef prices relative to chicken, rising exports, falling corn prices, operating efficiencies, supply constraints, animal diseases, a changing industry structure, etc., this is all “white noise”.  The chicken cycle is about one thing and one thing only: how much chicken is produced in the United States.  Keep your eye on the ball and you will have a lucrative trade on your hands.

    At a high level, trading the chicken cycle is simple.  Go long the chicken names when there is oversupply, chicken companies are losing money, and capacity is beginning to be removed from the industry.  Go short the chicken names when there is undersupply, chicken companies are raking in profits, and capacity is beginning to be added to the industry.  Today, chicken producers are extremely profitable and we see clear signals that a large supply response is on its way that should lead to a massive oversupply of chicken by 2016 if not sooner.  It’s time to be short.

    There are two ways to play this trade from the short side.

    The first is to try and “call the top”.  We have been short the chicken names for a number of months now as we believe we came pretty close to nailing the peak of the trade.  This is difficult to do and involves higher risk and higher reward.

    The second is to short the chicken cycle after the first crack.  One reason shorting the chicken names can be so remunerative is that you can “shoot them in the back” on the way down by aggressively pressing the short on bounces as the stocks revert to fair value.  Simple economics of supply and demand virtually mandate supply follow profitability – in an economically irrational industry like chicken, capacity is added when producers are profitable and it is removed when producers are unprofitable.  The only question is how long it takes the stocks to catch up.

    We believe the first crack occurred on Thursday of last week.  On Thursday 10/16, Sanderson had its Investor Day in New Orleans.  Sanderson’s management team is outstanding – the best in the industry – and CEO Joe Sanderson, Jr. is as straight a shooter as they come.  The sell-side did everything but beg Joe and his team to say that the industry had changed, that a large supply response would not come this time, that buying back shares was an attractive use for SAFM’s rapidly-building cash reserves.

    Joe shot them down every time – and in no uncertain terms.  It’s worth listening to a replay of the Investor Day here.  Though be warned: Joe has a voice like molasses and the SEC college football references are out-of-control.

    Chicken company stocks fell sharply following the SAFM Investor Day – PPC was -18%, SAFM was -10%, TSN was -5%.  This was the crack we’ve been waiting for.  The sell-side defended the names and the bounce has been powerful with PPC +8% and then +5% on Friday and Monday; the chicken stocks are up slightly again today.  We think the bounce will prove ephemeral.  We have added to our shorts and – following the playbook – intend to press them as the stocks revert to fair value.

    This write-up is divided into four sections.  We begin with an overview of the chicken cycle.  We then delve into the theory of cyclical industries and speak to rational industries vs. irrational industries and some of their characteristics.  The third section is a review of why this is not just a chicken cycle but a “chicken super-cycle”.  We conclude by laying out the investment thesis on the short side for PPC, SAFM, and TSN.


    The Chicken Cycle

    A supply-side protein cycle works as follows:

    The length of each protein cycle varies by commodity and is largely dependent on animal biology.

    The longest of the protein cycles is the beef cycle, which generally lasts 5-7 years.  The pork cycle is twice as quick, lasting only 2-3 years.  The fastest is the chicken cycle, which can last as little as one year.  Additional detail on each of the cycles is included here, but a short review of each animal’s biology makes plain why the speed of a supply response can vary from protein to protein:

     

    Protein

    Birth to Reproductive Age (Female)

    Gestation Period

    Birth to Finish

    (Slaughter Animal)

    Total Time

    Cattle (Beef)

    13 to 20 Months

    10 Months

    16 Months

    39 to 46 Months

    Hogs (Pork)

    8 Months

    4 Months

    6 to 7 Months

    18 to 19 Months

    Chicken

    4 to 6 Months

    Less Than 1 Month

    2 Months

    7 to 9 Months

     

     

     

     

     

     

     

     

    The chicken cycle is a fascinating topic to study.  Historical data on the cycle is rich and readily available: the USDA provides a treasure-trove of chicken industry statistics going back more than five decades; our financial model of Sanderson Farms includes twenty-five years of financial statements.  Careful analysis of the data yields two important conclusions: (i) from peak-to-trough (or vice-versa) the chicken cycle lasts between one and three years, and (ii) the key driver of the chicken cycle is supply – other factors such as exports, demand, the price of competing proteins, etc., play a tangential role but are overwhelmed by simple supply-side economics.

    From an investment perspective, it is critical to understand how the investment community reacts to each cyclical peak and trough.  When analyzing cyclical industries, we value companies via a two-step process.  First, we determine the company’s current production capacity.  Second, we assume a “normalized” level of profitability on that production by averaging-out historical peaks and valleys in profit margins.  By taking this two-step approach, we avoid falling into the trap of valuing the business on “peak earnings” or “trough earnings” and instead focus on the company’s “through-the-cycle” earnings power.  Our objective is to understand the go-forward profitability of the company through a complete industry cycle.

    But that’s not how the market tends to treat cyclical industries.  Most investors (i) invest with a short-term time horizon and (ii) extrapolate current trends into the future.  When chicken producers do well, investors assume the good times will continue.  Conversely, when chicken producers do poorly, the investment community’s pessimism can be overwhelming.  Investors frequently value chicken producers at peak valuation multiples on peak earnings at the top of the cycle and at trough valuation multiples on trough earnings at the bottom.

    And therein lies the opportunity.  By carefully weighing the data – and by maintaining a clear view of each company’s through-the-cycle earnings power – it is possible to purchase cyclical commodity businesses at a substantial discount when things are going poorly and to short them at a substantial premium when things are going well.  As valuation multiples and earnings concurrently expand (in an up-cycle) or contract (in a down-cycle), the double-effect can magnify investment returns in either direction of the cycle.


    The Worst Hand in Poker

    What is the worst hand in poker?

    Ask any competent no-limit hold ‘em player and the response is automatic: “two-seven off.”  Examples of this hand include a two-of-hearts and seven-of-spades or a two-of-clubs and seven-of-diamonds.  This is the hand with the lowest high-card – the seven – that also (i) minimizes the odds of a flush (as the cards are “off” – i.e., of two different suits) and (ii) minimizes the odds of a straight (as the cards are five numbers apart).

    Though this answer is technically correct, it is not actually the worst hand in poker.  The worst hand in poker is the second-best hand.  This is the hand that incentivizes the player to bet heavily without the odds in his or her favor.  It is the poker hand that offers the player the greatest risk of loss.  Competent players know to fold a two-seven off.  Gifted players know to fold the second-best hand.

    A similar framework applies when thinking about industry structure in cyclical, commodity businesses.  The most profitable industry structure is a “rational” structure that has been consolidated to one or a few participants who together control pricing either explicitly (via a monopoly or cartel) or implicitly (by widely broadcasting pricing decisions such that the small number of industry participants can act in concert without directly coordinating their decisions).  A consolidated, rational industry structure allows up-cycles to last longer and down-cycles to be shortened.  Through-the-cycle profitability for each participant is meaningfully enhanced.

    The next-best industry structure is a fragmented industry.  A fragmented structure is characterized by its many smaller, marginal participants.  In up-cycles, these marginal players often lack the capital to rapidly invest in additional capacity.  In down-cycles, these same marginal players lack the balance sheet strength to endure protracted downturns and so are relatively quick to shut capacity.  A fragmented industry is therefore marked by slightly longer up-cycles and demonstrably shorter (and shallower) down-cycles.

    The worst industry structure is the second-best structure – an industry that is “almost-consolidated” with fewer participants, but not so few that pricing has become rational.  This structure leads to more violent cycles with (i) protracted downturns characterized by many well-funded large players each battling to outlast one another, followed by (ii) shorter, more-powerful upswings that are rapidly cut off as survivors rebuild financial strength and add capacity.  Through-the-cycle profitability is diminished as the industry consolidates toward rationality.

    Over the last decade, the chicken industry has morphed from “fragmented” to “almost-consolidated.”  The top-3 players today have 45% market share; the top-10 have 79% share.  While these numbers are concentrated, we believe they are not concentrated enough to lead to rational pricing behavior.  As a result, the amplitude of the chicken cycle has dramatically increased.  In the thirteen years from 1993 to 2005, SAFM had negative operating profit only once (2000) and negative net income only twice (1996 and 2000).  In the eight years since, SAFM has already had negative operating and net income three times – with a fourth, we believe, on the way in 2016.


    The Chicken Super-Cycle

    In the last twenty-plus years, the chicken industry reached cyclical peaks in 1993, 1998, 2001, 2004, 2007, 2010, and 2014.  These peaks can be identified two ways.  First, they can be seen in chicken producer gross profit margins (either on a percentage-of-revenues basis or on a gross profit dollars per pound basis), which are high at cyclical peaks and low at cyclical troughs.  Second, they can be seen in broiler egg set data (broilers are chickens raised for consumption) – a good proxy for real-time industry profitability and a leading indicator of future supply.  Broiler egg sets are high at cyclical peaks and low at cyclical troughs.

    Of the seven identified peaks, two can be described not just as chicken cycles but as chicken super-cycles.  The first of these extraordinary cycles occurred in 2004.  The second is happening today.

    The story of the current chicken super-cycle begins in 2010 when the chicken cycle last reached a cyclical peak.  Sanderson set a company record that year with $130M in after-tax profits.  The company’s gross profit margin reached 15% versus a “normalized” gross profit margin of about 9%.  With chicken companies highly profitable, supply increased and broiler egg sets reached a cyclical peak of 212 million per week in mid-2010.  The writing was on the wall that as this supply reached the market, 2011 would be a down year for the chicken industry.

    And so it was.  In 2011, Sanderson’s profitability flipped to an after-tax loss of $127M as the company’s gross profit margin plunged to -6%.  Chicken producer profitability reached cyclical lows and the industry – per usual – responded with capacity reductions.  Broiler egg sets bottomed out at 179 million per week in late-2011.

    The 2011 capacity reductions set the stage for a renewed up-cycle.  As the calendar moved into 2012, a trend could be seen towards improving industry profitability.  2012 looked to be a good year for the chicken industry.

    Then disaster struck.

    Corn represents the single largest input cost for the chicken industry; for every one pound of chicken produced, two pounds of corn are required as feed.  In mid-2012, a drought hit the Midwestern US.  Typical corn yields in the US are 155-160 bushels per acre.  In 2012, the US average was 123.  Corn prices responded by doubling to more than $7 per bushel.

    The surge in corn prices took a sledgehammer to chicken industry profitability.  Instead of a good year, 2012 proved a second poor year in a row for the industry – a “double-bottom” of the chicken cycle.  By the fall of 2012, weekly broiler egg sets had fallen back to 179 million, almost exactly where they had been one year earlier.

    The double-bottom to the chicken cycle acted as a loaded spring, propelling the industry to fantastic results in 2013 and 2014.  The double-bottom removed substantially more marginal industry capacity than a typical cyclical bottom and pushed many chicken producer balance sheets into unusually weak financial positions.  With producers unable to quickly bring on additional capacity due to a lack of financial strength, chicken production was slow to rebound.  The industry benefited by reaping supernormal profits in an extended chicken up-cycle.

    Three factors accentuated the up-cycle to create an unusually prosperous period for chicken producers:

    Though each of these factors has contributed to the chicken up-cycle, we believe none outweighs the importance of chicken production numbers in what remains a supply-side commodity cycle.   That said, we do believe the impact of all three factors is set to reverse.  The rooster genetic issues have been identified and resolved.  New cases of PEDv are in rapid decline as the hog industry gets its arms around the disease – we expect a substantial supply response in the pork market in 2015/2016.  The long, slow process of rebuilding cattle herds is now underway.  And changes to feed prices tend to impact the industry in the short-run but not have a long tail.  The crux of the cycle remains the supply of chicken.


    The Best Cure for High Prices is High Prices

    The closest analogy I can draw to the current chicken super-cycle is the wheat shock of 2008-09.

    In the 2006-07 and 2007-08 production years, the global wheat market experienced concurrent weak harvests in Canada, Australia, Europe, and the United States.  The poor harvests led to a serious supply-demand mismatch and a one-third drawdown in wheat ending stocks.  The price of wheat, which had historically traded between $5-6 per bushel, skyrocketed to a peak of $12.50 per bushel in February of 2008.  Certain strains of high-quality spring wheat quadrupled to nearly $25 per bushel.  Consumers panicked and speculators piled in.

    In early-2008, I spearheaded the research at the fund I previously worked for on the wheat market.  My conclusion was that the record-high wheat prices were incentivizing an unprecedented supply response.  Farmers across the globe switched from planting barley or potatoes or corn or sugar beets to planting wheat.  Extra fields were put in use for the first time in years.  In Europe, 15-year-old cultivation limits were scrapped to boost potential planted acreage by millions of acres.  Wheat was planted fence-to-fence across the globe.

    My view was that the world was about to produce the largest wheat crop in human history – and that’s exactly what happened.  In 2008-09, global wheat production surged to 682 million metric tons.  The prior record was 625 million.  The price of wheat promptly collapsed.  Wheat today trades for $5.50 per bushel.

    We think a similar supply response is in store today for the US chicken industry.  The industry-benchmark Georgia Dock chicken price recently hit an all-time high of $1.13 per pound.  Before this up-cycle, the price had never reached $1.00 per pound.  Two-plus years of strong profitability have rebuilt producer balance sheets.  And now, we believe, the supply response will soon arrive.  The record for weekly broiler egg sets is 222 million (during the 2007 cyclical peak).  Current USDA data shows broiler egg set numbers have passed 200 million per week and recently reached 207 million per week.  We think the record of 222 million will fall in 2015 as chicken producers scramble to add capacity.  A veritable tidal wave of chicken is on its way.

    The best cure for high prices, after all, is high prices.


    Investment Thesis

    Our investment philosophy on the short side is “valuation plus a catalyst.”

    From a valuation perspective, chicken producers currently trade for well above intrinsic value and at peak valuation multiples on peak earnings.  As a highly-cyclical commodity producer, we believe Sanderson should trade for 10-12x “normalized” earnings (in-line with SAFM’s historical valuations).  The company has also tended to trade for 2x book value.  We value SAFM at $55, which represents 11x our estimate of through-the-cycle earnings plus the company’s estimated $5-6 per share of net cash as of year-end 2014.

    The catalyst is the imminent supply response that we believe will plunge the chicken industry into unprofitability by 2016.  Markets tend to revalue highly cyclical commodity companies such as Sanderson at the first sign of a substantial supply response in the industry data.  We believe this will occur within months.

    Importantly, we believe we can already see signs of an imminent supply response in the data.

    A female egg-laying chicken is a “hen” or a “layer”; when she is young and has not yet laid eggs, she is a “pullet.”  Industry data on pullets “placed” into production is therefore a double-leading indicator of supply growth – more pullets placed today imply more broilers tomorrow.  Year-to-date in 2014, pullet placements have grown at nearly 3% year-on-year, the quickest pace since the 1990’s.  The data can be choppy month-to-month, but our sense is that with chicken producers earning cyclically-high gross profit margins and cyclically-high gross profit dollars per pound, that this trend of rising pullet placements will continue.

    Our chicken thesis applies to the entire chicken industry, but there are pro’s and con’s to shorting each of the three large publicly-listed chicken producers.

    Tyson Foods, Inc.

    Tyson is the #1 chicken producer in the US with 3x Sanderson’s market share.  That said, chicken sales represent only 35% of trailing TSN revenues.  We believe TSN is still an attractive short candidate as its chicken profitability fluctuates significantly with the chicken cycle and the company recently overpaid for an acquisition as it tried to further diversify away from chicken at a cyclical peak.  In 2013, chicken represented 47% of TSN’s operating profit.  In 2016, we believe chicken will be a negative contributor.  We use a sum-of-the-parts analysis to value TSN, separating its branded processed foods businesses from its commodity protein businesses, and arrive at a fair value between $25 and $30 per share.  We view TSN as an attractive short but the least attractive of the three listed in this write-up.

    Pilgrim’s Pride Corporation

    PPC is the #2 chicken producer in the US and is the largest pure-play chicken producer operating at more than twice the size of Sanderson.  Pilgrim’s went bust in late-2008 and was acquired out of bankruptcy by the Brazilian conglomerate JBS SA (BOVESPA: JBSS3) which assumed control of the company in 2009.  Since then, PPC has made substantial strides operationally and now is a top-quartile operator where five years ago it was in the bottom-quartile.  We believe the go-forward gains that can be achieved from operational improvements are slim relative to what they were 2-3 years ago.  PPC is a “pure-play” on the chicken cycle with normalized earnings power between $1.00 and $1.50 per share.

    Sanderson Farms, Inc.

    Sanderson is the best-run public chicken company with outstanding management and excellent corporate governance.  In 1997, the company made a strategic decision to shift its production from small birds (5-6 pounds) to big birds (8 pounds) which are more cost-effective to process; SAFM’s average live chicken weight is 7.6 pounds per chicken versus TSN and PPC at 5.6 pounds each.  As a result, Sanderson maintains a structural margin advantage over other producers with little room for improvement.  We view a SAFM short as a pure-play bet on the chicken cycle.

    We believe fair value for TSN is sub-$30 per share (TSN shares trade near $40 per share).  We believe fair value for PPC is $15 per share (PPC shares trade close to $30 per share).  We believe fair value for SAFM is $55 per share.  We expect shares in all three companies to trade to below fair value in the 2016 chicken down-cycle.


    Risks

    The most important risk to our short thesis is the duration of the cycle.  Every quarter that the current cycle extends is an extra quarter of profitability for the companies we are short.  As a result, should the chicken cycle be prolonged beyond our expectations, the intrinsic value of each company may rise above our forecasts.

    A second risk to our thesis is M&A activity.  We do not believe the companies we are short are likely acquisition candidates due to their cyclically high valuations.  However, TSN recently raised $2B in capital by issuing (in our opinion, overvalued) shares to help finance its acquisition of The Hillshire Brands Company (NYSE: HSH).  We think it possible that PPC will attempt to diversify into branded food products – and perhaps in the process combine with JBS SA’s US subsidiary (“JBS USA”) which controls pork and beef processing businesses.  Should PPC diversify away from chicken or merge with JBS USA’s units, the company may no longer be as attractive a short candidate.  We do not believe Sanderson is a likely acquirer as the company prefers to grow organically.

    A third risk to our thesis is that we are wrong on the cycle and the industry has consolidated to the point where rational pricing is sustainable.  It is our strong view that the chicken cycle is alive and well and that the industry has not yet consolidated to the point of rationality.  If we are wrong, our short thesis may prove incorrect.

    Finally, the most difficult aspect of the chicken short thesis is timing.  We believe a downward turn in the chicken cycle is inevitable – and that investors will sell shares in SAFM, PPC, and TSN at the first convincing sign of an industry supply response.  When that moment occurs is hard to predict, but we believe it is a near-term event.  Our investment portfolio is poised to benefit from any such change in investor sentiment.


    Disclaimer

    The author of this posting and related persons or entities (“Author”) currently holds a short position in this security.  Author may sell additional shares, or cover some or all of Author’s shares, at any time.  Author has no obligation to inform anyone of any changes to Author’s view of PPC US.  Please consult your financial, legal, and/or tax advisors before making any investment decisions.  While the Author has tried to present facts it believes are accurate, the Author makes no representation as to the accuracy or completeness of any information contained in this note.  The reader agrees not to invest based on this note, and to perform his or her own due diligence and research before taking a position in PPC US.  READER AGREES TO HOLD AUTHOR HARMLESS AND HEREBY WAIVES ANY CAUSES OF ACTION AGAINST AUTHOR RELATED TO THE NOTE ABOVE.  As with all investments, caveat emptor.

    I do not hold a position of employment, directorship, or consultancy with the issuer.
    Neither I nor others I advise hold a material investment in the issuer's securities.

    Catalyst

    The catalyst is the imminent supply response that we believe will plunge the chicken industry into unprofitability by 2016.

    Messages


    Subjectgreat write-up
    Entry10/21/2014 12:25 PM
    Membermrsox977
    Some great work here, and I will agree re 'fascinating'.  Can you talk about the demand side a little bit more?  Clearly there has been a monotonic rise in demand for 'white meat' versus red, and every new health concept (and those masquerading as healthy) prominently features some sort of grilled chicken product.  Is there a risk in that 'this time things are different'?

    Subjectnormalized eps
    Entry10/22/2014 06:10 PM
    MemberMason
    thanks for the writeup.  i am new to this industry.  can you give a little more color on how you get to your normalized earnings?  at its analyst day, SAFM alluded to 3.5c per pound as normal, which i believe would imply higher earnings power than your numbers at their projected capacity.  also, i know nothing is going on in DC right now, but I think there were some bills being proposed about giving much more space for each bird.  i also think something to this effect is occuring in California.  how do you think about potential regulation?  on one hand, one could argue, that it could take out a lot of supply in the industry.  on the other hand, it would probably increase longer term capital intensity and increase the fixed costs vs variable costs.  didnt seem like SAFM was holding off on capex due to potential regulatory uncertainty, but is this a legitimate risk for supply growth?  

    SubjectRE: channel checks
    Entry10/30/2014 08:35 AM
    Memberjso1123
    fiverocks,
    can you expand more on what you are hearing regarding capex for new capacity (given this is so central to the thesis)?   when should we expect this to show up in higher pullet placements and subsequent higher egg sets?
    Thanks

    SubjectUSDA Corn Crop Forecast Revised
    Entry11/11/2014 12:40 AM
    Membermrsox977

    Surprise cut for the corn crop sending corn prices higher.  I don't think any body was predicting this.  How could forecasts be so off? Anyhow it bodes well for shorts.


    SubjectRe: HUGE increase in pullet placements - USDA report just out
    Entry11/25/2014 11:58 AM
    Memberjso1123

    fiverocks,

    How do you translate pullet placement increases into slaughtered boiler meat growth?  In other words, October broiler pullet placements are +10% (6.8mm chicks).  The overall # of broiler layers is ~53mm (from the same report).  Correct me if I"m wrong but the 53mm # of layers is what actually drives meat output (with a ~3 month lag from birth to slaughter).  So I guess the question is how quickly does that 53mm grow relative to pullet placements?  If pullet placements were 10% each month going forward, how long would it take until # of layers is +10% (and therefore supply growth is +10%)?  

    and btw if I'm thinking about this totally wrong feel free to tell me thx


    SubjectIndustry structure and Quant Funds
    Entry11/27/2014 12:30 PM
    Memberrjm59

    Going through the holders list, it seems like this is almost entirely held by quant funds which is comforting to the thesis.  Saw the same thing with RGR where insiders sold stock as quant type funds bought it as the trailing numbers looked good...

    Fiverocks - re your industry structure "second best hand is the worst" analogy, which I found quite novel, what other industries can you point to that had a similar, as they were consolidating towards rationality went through an INCREASINGLY choppy phase of intense competition?

    Thanks


    SubjectRe: Re: update?
    Entry12/03/2014 01:56 AM
    Membertdylan409

    Thanks for the color.  And certainly agreed on the shareholder base and the industry cycle.  I concur with your thesis/writeup btw.  Good job.


    Subjectpork & chicken processing
    Entry12/11/2014 02:17 PM
    MemberMiamiJoe78

    fiverocks - thanks for the great write-up - I had three general industry questions:

    1. how can processors (which I define as the part of the value chain that slaughters the animal and divides and sells the component parts) add value to their products, exclusive of becoming a consumer goods company?  send overseas?
    2. given the Canadian poultry processing market is regulated - are there opportunities in Canada to consolidate operations and achieve reasonable margins without the price volatility inherent in the US?
    3. why did pork belly prices increase in price fairly dramatically post 2009 (reference graph is BOXPBE85 in bloomberg - USDA Boxed Pork Belly Cut 200 lbs spot price)

    Thanks again for your thoughts.


    SubjectRe: Re: pork & chicken processing
    Entry12/12/2014 03:26 PM
    MemberMiamiJoe78

    thanks very much for you answers - one more question if you don't mind - 

    where do you think we are in the pork cycle and if we are at the start of a "benevolent" stage of the cycle for processors, how long does this stage last on average before the margin between hog price and pork components compresses meaningfully?


    SubjectCheap Corn?
    Entry12/15/2014 06:19 PM
    Memberrjm59

    fiverocks,

    As a contrary view - if corn prices stay cheap or keep getting cheaper over the next year or two, could that lead to even higher margins / ROA here?  Or is the chicken supply a much more dominant factor in the pricing and margins?


    SubjectRe: Re: special dividend
    Entry01/15/2015 02:11 PM
    Memberzzz007

    I love it when my shorts go up, because it lets me short additional shares at even more attractive prices.  I don't pay any attention to the silly mark-to-market.


    SubjectShort interest
    Entry01/15/2015 03:35 PM
    Membervarna10

    Fiverocks,

    Thanks for the write-up, informative and it shows you are on top of the subject. It seems to be a fascinating industry.

    I have one question that only seems to be touched on very lightly on the messages thread. The short interest is 60%(!!) of the float. This is a huge risk of a major squeeze. Not sure if you followed the Volkswagen situation in late 2008 but its shares went up 380%+ in a matter of months because of a short squeeze, for nothing related to fundamentals... I am not saying that this is going to be the same, but considering (as some of the messages say) that there are a lot of quant funds in the name, what stops them from keeeping buying and testing all the shorts in the name? At the end of the day the bull trend is still intact... And the risk you run on this short is that you may end up (unwillingly) being the guy who will have to come in and create some buying by way of capitulation...

    This seems to be the achilles heel of this short thesis, and unless JBS is lending their shares of PPC out via their custodians (something that I am pretty sure they wouldn't be doing) this situation is highly dangerous. What stops JBS from learning from the Porsche lessons on Volkswagen in 2008 and start buying call options and/or stock outright to squeeze everyone out and create a nice little profit for them (to offsett the 2016 low on the chicken cycle....). http://priceonomics.com/porsche-the-hedge-fund-that-also-made-cars/

    Something to think about in my view....

    Best,

    Varna 


    SubjectRe: Long way down to the floor
    Entry01/30/2015 09:35 AM
    Memberelehunter

    TSN was pretty bullish on chicken prices and margins - you sure you'd want to hold a short through PPC's earnings on 2/12?  Seems the Street is actually pretty easy to beat for 4Q14 and the outlook on 2015 will be pretty bullish.


    SubjectChicken supply
    Entry01/30/2015 11:01 AM
    Memberelehunter

    Arguments against the supply issue, will keep this source anonymous but take my word it is from someone knowledgeable about the industry - it looks to me that the supply argument is deeply flawed:

    1)      Pullet placements will not all go towards domestic capacity growth:

    a.       The current breeder flock is 65 weeks old, very high by historical standards. Part of the growth will go towards replacement, as the industry is targeting a younger breeder flock

    b.      Not all of the net pullet growth will go towards production domestically, as the top Mexican producer, Bachoco (~35% share) is now sourcing all of its eggs from the US due to continued avian influenza in Mexico. Therefore US head growth should track below pullet placement growth

     

    2)      There is currently inadequate processing/bird housing capacity in the US to increase head growth by more than a low single digit rate both this year and next


    3)      Demand

    a.       Limited beef supplies and high prices (likely through 2017) are expected to keep demand for chicken strong through 2016- TSN expects demand growth per annum to exceed 3% over the coming years as a result

    b.      Better restaurant traffic trends due to a better consumer are driving higher demand

     


    SubjectRe: Chicken supply
    Entry01/30/2015 11:14 AM
    Memberjso1123

    I struggle with the argument that there isn't enough processing/bir housing capacity - if you look at Sanderson's slides on the broiler hatchery supply stock, it's down 8% over the last several years as hatchery supply was reduced.  Why won't that be able to ratchet up?  Also processing capacity is operating below historical capacity utilization I believe.  

     


    SubjectRe: agree w/ jso1123
    Entry02/02/2015 11:17 AM
    Memberelehunter

    fiverocks - I looked over the SAFM calls and what I found actually supports the feedback I received from my source and is not nearly as bearish as you suggest.  Specifically, from the Q4 call on 12/18:

    "It's running about 2% to 3% right now, I believe, on egg sets and the last egg sets we saw were...about 2.9%, and I think they're pushing the flocks right now.  And if you go back and look into breeder flocks in 2011 and that's the kind of size of the breeder flock we're looking to have, say, about the spring of this year 2015.  And then you look at the egg sets off of that breeder flock, that would indicate to me egg sets of 207 million, 208 million, 209 million and that kind of matches what we think is close to processing capacity and it also might be housing capacity.

     

    We think there is a little constraint with housing capacity.  We don't think there is a lot of extra housing out there.  We think people are having trouble getting houses built.  It's difficult to get houses built.  There are not a lot of people out there that have extra houses and not lot of people building houses...I think it's going to take the industry that long to get all the infrastructure in place.  I think the primary breeders will be ready.  But I don't know that the industry will be ready to really ramp up too much."


    SubjectRe: pork prices keep collapsing
    Entry02/03/2015 02:18 PM
    Memberelehunter

    Pork has its own supply/demand, the move in 2014 was erased, so what?  Iron ore has absolutely nothing to do with protein prices, but that was brought up as a relevant data point.  Here's another example, just as relevant: crude oil.  Anyone notice what is happening to one of the most heavily shorted commodities?  Everything that touches crude is rallying, the higher the beta, the better.  What happens when a stock with over 60% short interest gets a whiff of good news?  Just saying, watch out shorts...


    SubjectRe: reply to sugar
    Entry02/12/2015 11:52 AM
    Memberelehunter

    Protein prices

    Fiverocks, with all due respect, I'm struggling with your thesis that protein prices correlate.  The attached chart should shed some light on this - pork and beef prices do tend to correlate, chicken has its own supply/demand function as mentioned in the PPC call today.  By the way, that call was bullish!  they pretty much nailed every short thesis out there.  Excess supply is headed to Mexico, demand is structurally higher, I think the bear thesis is difficult at best, and with TSN and SAFM up today, it's pretty clear that shorts are manipulating PPC stock here.  Fundamentally, this makes little sense - good quarter, great conference call, I struggle to see the short thesis here - I actually think PPC and TSN have very solid arguments that we are seeing structural change and the supply/demand balance for chicken will get even tighter. 


    SubjectChart
    Entry02/12/2015 01:19 PM
    Memberelehunter

    Can't seem to post a chart, but here is a long term view of demand - not

    http://www.thepoultrysite.com/poultrynews/31986/cme-meat-poultry-prices-continue-to-rise-faster-than-general-inflation-rate

    And here's an article that sheds a little more light on the secular change in demand for chicken vs other proteins.  It's pretty compelling in my opinion.

    http://www.huffingtonpost.com/2014/01/02/chicken-vs-beef_n_4525366.html


    SubjectRe: Re: reply to sugar
    Entry02/12/2015 01:34 PM
    Memberbanjo1055

     

    "it's pretty clear that shorts are manipulating PPC stock here"

    Please, elaborate.  I have maintained a single-stock short portfolio for thirteen years, and I have no idea how one would "manipulate" a stock price with $100m of volume (in the first half of the day) even if one wanted to (and I definitely don't!)  There is only one explanation for why the stock is down today: at yesterday's close, there are currently more sellers than buyers! 

     


    SubjectRe: Chart
    Entry02/12/2015 01:39 PM
    Memberjso1123

    When I look at the per capita consumption figures in that chart you reference (huffington post), it shows chicken demand/per capital flat for the last ~8 years after a long period of growth.  Pork has been flat for a long time.  Turkey has been flat as well after a period of growth.  Beef is in decline (which we all know - bad for the arteries).  So basically I read this as protein demand/capita is stable across all meats except beef where it is falling.  Population grows 1% per year so isn't that basically demand growth (1-2% perhaps)?  

     

     

     


    SubjectRe: Re: Re: reply to sugar
    Entry02/12/2015 01:46 PM
    Memberelehunter

    Very clear: watch competitors: SAFM and TSN today - if this were an industry-wide problem, all 3 stocks would be down.  Yet only PPC is down - you are right though, more sellers than buyers.  It seems this can be turned around pretty easily though.


    SubjectRe: Re: Chart
    Entry02/12/2015 01:48 PM
    Memberelehunter

    Yes you are exactly right - chicken has been gaining against the other protein substitutes and it is a secular change - if anything it is accelerating.  This is totally lost in the short thesis. 


    SubjectRe: Re: Chart
    Entry02/12/2015 02:04 PM
    Memberelehunter

    jso1123,

    Just want to make another important clarification - chicken demand per capita is actually growing which means demand is above population growth.  Here's a link to the exact numbers:

    http://www.nationalchickencouncil.org/about-the-industry/statistics/per-capita-consumption-of-poultry-and-livestock-1965-to-estimated-2012-in-pounds/


    SubjectRe: Re: Re: Re: Chart
    Entry02/12/2015 02:47 PM
    Memberelehunter

    I think you are missing a few key points here... 

    1. PPC is not the same company it was went it went bankrupt - much healthier balance sheet and operations

    2. Your estimates of "normalized" earnings may be way too low given structural demand shift to more chicken consumption, PPC cost reduction initiatives, etc.  

     

     

    3. Supply growth will track below pullet placements because increasing number of pullets being exported to Mexico (again another structural shift publicly addresed by multiple companies)


    SubjectRe: one other point
    Entry02/12/2015 03:08 PM
    Memberelehunter

    The recent move in pork prices is not a fair comparison because its a totally different situation - the swine influenza last year created massive shortage that the market is now recovering from.  If the recent move in pork was so terrible, why wouldnt TSN be in trouble since they are the one actually exposed to that market?


    SubjectWow
    Entry02/12/2015 03:51 PM
    Memberelehunter

    Amazing, shorts, are you familiar with econ 101?  You seem to be missing a major structural demand shift towards Mexico.  Feel free to keep believing that there's an oversupply situation here - the reality is far different.  We're seeing a structural demand shift that will overwhelm supply.  The incessant focus on pork prices suggests you do not understand this industry.  Good luck with that thesis!


    SubjectRe: Re: Re: Re: one other point
    Entry02/12/2015 04:23 PM
    Memberelehunter

    By the way, Katana, as Biffins can attest, "we" as "elehunter" destroyed the HCA short thesis of which many including Biffins were naively on the wrong side (shorts in that case were very helpful to us). 

    So your comment that we are "unforgiveably naive" is offensive, but ironically naive.  Your training at McKinsey (which you so proudly trumpet) surely has taught you to analyze facts, so please indulge us with the facts which lead you to your short thesis.  We would love to hear them.


    SubjectRe: Wow
    Entry02/12/2015 05:13 PM
    Memberjso1123

    Elehunter,

     

    Thanks for your participation in this debate.  It's generally not helpful to hear a bunch of people vehemently agreeing with each other.  I haven't found anyone out there who is long this (other than you, apparently) who views this as anything other than a trade.  The longs you share this position with are basically a bunch of momentum-driven hedge funds (at least that's who I see at all the events).  So kudos for having a different view.  I'd like your opinion on a few things that lie outside of what PPC management says or USDA data.

     

    1) Aviagen will tell you they are growing supply by 10%.  How do you square this with the non-existent supply growth you see?

    2) I am afraid you are mistaken on Mexico.  The vast majority of the "new" birds going there are being re-routed from Morris, which was previously sending its birds to Canada.  This means the net "loss" of birds from the US is effectively zero.  Bachoco did expand a bit through OK Foods, but this has been going on for many months, so the y/y difference, again, is effectively zero.  Have a chat with Bachoco on this and let me know if you hear differently.  This is just the latest smoke screen thrown up by the industry.  First it was "no supply growth" then it was "3% but we need it" then it was "more than 3% but we need it" and now it's "we actually aren't getting any growth!"

    3) How do you measure per capita chicken consumption?  Is it just through a chicken industry trade group?

    4) Can you please show me on PPC's income statement or elsewhere where their "cost cuts" are?  All I see are increasing operating expenses.  What is your evidence they are a "better company"?  I have spoken with recent formers and they all say the cost cuts are a mirage.  Agri Stats is also highly misleading and you will find a number of people who will openly say PPC games the system because they now directly compensate many managers for their performance on Agri Stats (SAFM historically has done this too, so don't want to only single them out).

    5) What is your view of normalized earnings/margins?  SAFM is generally the best run business in the industry and they do about 4c EBIT/lb normalized.  If PPC were to achieve this best-in-class level sustainably, they would earn much less than $1/share.  

    6) I am afraid you are also mistaken on the independence of chicken prices vs. beef and pork.  If you run a regression, what you'll find is that competing protein prices are actually the MOST predictive of anything when predicting chicken prices.  Even more predictive than pullet placements (which are the next most important).

    Again, thanks for the debate.

     


    SubjectRe: Re: Re: Chart
    Entry02/12/2015 05:57 PM
    Memberjso1123

    elehunter,

    Are we looking at the same chart?  I see chicken demand largely flat for 11 years (growing until 2003 to 82 lbs/capita and last year (2014) was 83 lbs/capita.  U.S. population growth rate is 0.5-1.0% per year.  So doesn't that mean chicken demand grows ~1-2% year (and that assumes ~0.8 lb/capita increase per year going fwd which hasn't happened)?  Sorry if I'm dense and missing something but I"m referencing the chart you showed. 


    SubjectRe: Re: Wow
    Entry02/13/2015 02:26 PM
    Memberelehunter

    Let me provide some more detail behind the Mexico point because its an important one.  I'm not sure how you conclude the "net loss of birds from the US is effectively zero" because the actual data I see shows quite the opposite.  You're correct that the export of hatching eggs to Canada has slown a bit, but this has been more than offset by the massive increase in exports to Mexico.  Total worldwide US exports of hatching eggs increased 17% in 2014 compared to only 2% in 2013.  You're right in that this has been going on for many months, which it makes it all the more suprising the pace has actually shown a dramatic acceleration over the past 5 months.  Last month showed a 220% increase in Mexico exports and total exports grew 69%. The Mexico effect on total export numbers has been staggering - the 5 months from August through December total exports grew 20%, 55%, 37% 26% and 69%.   Bachoco has publicly stated they see this as a long term structural shift.  I would encourge you to check the data yourself, which is from the USDA Global Agricultural Trade System (GATS) and not some "chicken industry trade group".  http://apps.fas.usda.gov/gats/default.aspx

                  January February March April May June July August September October November December Total
      Partner   HS Code Product Year UOM Qty Qty Qty Qty Qty Qty Qty Qty Qty Qty Qty Qty Qty
    1 World Total 1.2 4.07E+08 CHKN EGGS/HATCH 2012-2012 DOZ 4,454,016.00 4,116,121.00 3,729,007.00 3,735,432.00 3,675,595.00 3,796,045.00 3,696,372.00 3,896,486.00 4,232,405.00 3,830,043.00 3,547,629.00 3,190,559.00 45,899,710.00
    1.1 Canada 1 4.07E+08 CHKN EGGS/HATCH 2012-2012 DOZ 973,026.00 821,124.00 912,424.00 1,204,797.00 969,995.00 912,679.00 977,350.00 858,882.00 1,014,725.00 616,794.00 831,923.00 898,388.00 10,992,107.00
    1.2 Mexico 1 4.07E+08 CHKN EGGS/HATCH 2012-2012 DOZ 1,062,962.00 962,930.00 786,389.00 520,586.00 398,400.00 136,650.00 512,331.00 504,065.00 908,500.00 564,301.00 537,770.00 469,287.00 7,364,171.00
                                           
    1 World Total 1.2 4.07E+08 CHKN EGGS/HATCH 2013-2013 DOZ 3,591,747.00 3,074,844.00 3,316,722.00 3,767,119.00 4,013,919.00 3,845,048.00 3,931,182.00 3,636,212.00 4,237,247.00 4,907,080.00 4,535,269.00 3,818,263.00 46,674,652.00
    1.1 Mexico 1 4.07E+08 CHKN EGGS/HATCH 2013-2013 DOZ 541,773.00 422,366.00 489,226.00 858,650.00 1,286,063.00 1,315,331.00 1,072,114.00 851,257.00 1,079,441.00 1,180,941.00 1,411,728.00 1,062,990.00 11,571,880.00
    1.2 Canada 1 4.07E+08 CHKN EGGS/HATCH 2013-2013 DOZ 1,056,514.00 801,660.00 869,772.00 850,879.00 910,507.00 729,135.00 917,182.00 888,903.00 1,021,018.00 1,091,342.00 931,871.00 886,812.00 10,955,595.00
                                           
    1 World Total 1.2 4.07E+08 CHKN EGGS/HATCH 2014-2014 DOZ 3,567,698.00 3,497,735.00 3,661,337.00 3,504,546.00 3,512,681.00 3,390,265.00 3,645,791.00 4,347,150.00 6,552,559.00 6,699,213.00 5,712,216.00 6,468,316.00 54,559,507.00
    1.1 Mexico 1 4.07E+08 CHKN EGGS/HATCH 2014-2014 DOZ 1,000,299.00 1,132,866.00 1,206,856.00 808,555.00 913,646.00 868,139.00 957,208.00 1,731,609.00 3,744,255.00 3,797,140.00 3,364,835.00 3,401,010.00 22,926,418.00
    1.2 Canada 1 4.07E+08 CHKN EGGS/HATCH 2014-2014 DOZ 992,682.00 909,813.00 973,724.00 1,018,818.00 904,106.00 857,049.00 951,082.00 904,265.00 812,465.00 825,585.00 786,744.00 921,385.00 10,857,718.00
                                           
      2013 y/y % change                                  
      Total           -19% -25% -11% 1% 9% 1% 6% -7% 0% 28% 28% 20% 2%
      Mexico           -49% -56% -38% 65% 223% 863% 109% 69% 19% 109% 163% 127% 57%
      Canada           9% -2% -5% -29% -6% -20% -6% 3% 1% 77% 12% -1% 0%
                                           
      2014 y/y % change                                  
      Total           -1% 14% 10% -7% -12% -12% -7% 20% 55% 37% 26% 69% 17%
      Mexico           85% 168% 147% -6% -29% -34% -11% 103% 247% 222% 138% 220% 98%
      Canada           -6% 13% 12% 20% -1% 18% 4% 2% -20% -24% -16% 4% -1%

    SubjectRe: Re: Re: Wow
    Entry02/13/2015 03:20 PM
    Membermrmgr

    Thanks for the data elehunter, it's helpful. How much do you expect exports to grow? If I'm reading the chart correctly, total 2014 exports were 55M dozen, or 660M eggs, compared to the ~12B broiler-type eggs produced in 2014, or 5.5%.

    In the face of HSD supply growth coming on, is growth in exports going to make a meaningful dent? Wouldn't it have to double or something?

    Also, how much of the 2H 2014 Mexico exports is one-time in nature due to the Marek's disease outbreak in that country?


    SubjectRe: Re: Re: Re: Wow
    Entry02/13/2015 03:32 PM
    Memberelehunter

    katana, its currently more of a one way street in that hatching eggs exported to Mexico are not coming back to the US in the form of live chickens or broilers due to disease issues.  This is from the most recent USDA GAIN report on Mexico:

     

    "Numerous export destinations closed their doors to Mexican poultry after the mid-2012 HPAI outbreak in the state of Jalisco. Moreover, the January/February 2013 HPAI outbreaks in the states of Jalisco, Aguascalientes and Guanajuato worked against Mexico gaining international market access in new locations. Mexico’s current exports are generally limited to processed products that have received thermal treatment such as food preparations (e.g., chicken hot dogs) and egg products. Mexico has not completed the necessary requirements for equivalency in poultry slaughter nor does it have U.S. recognition as disease free for exotic Newcastle disease (END) or avian influenza (AI)."


    SubjectRe: Re: Re: Wow
    Entry02/13/2015 04:24 PM
    Memberjso1123

    Thanks elehunter, I appreciate your clarification.  We are talking about different things.  I am talking about the impact of Mexico on the reported pullet placement figures.  I am interested in whether that implies supply will grow significantly in H2 when these pullets mature.  You are talking about the absolute # of hatching eggs that have been exported over the past few months.  Would you agree that any change in the hatching egg export figures that occurred mid-year would imply that the associated pullet placement numbers would have grown many months in advance of that change?

    On Bachoco’s comments on structural change, are you referring to their recent earnings call?  What they said on that call was that they acquired operations in AR, MD and GA to supply fertile eggs to Mexico.  They said they expected that to continue.  Nowhere did they say that this was responsible for the recent acceleration in pullet placements.  Morris was purchased in 2013 and OK Foods was purchased in 2011.

    You did not address any of my other questions.  I will reiterate them here again:

    1) Aviagen will tell you that they are growing supply by 10%.  How do you square this with the non-existent supply growth that you see?

    2) How do you measure per capita chicken consumption?  Is it just through a chicken industry trade group?

    3) Can you please show me on PPC's income statement or elsewhere where their "cost cuts" are?  All I see are increasing operating expenses.  What is your evidence that they are a "better company"?  I have spoken with recent formers and they all say the cost cuts are a mirage.  Agri Stats is also highly misleading and you will find a number of people who will openly say PPC games the system because they now directly compensate many managers for their performance on Agri Stats (SAFM has historicall done this too, so I don't want to single them out)

    4) What is your view of normalized earnings/margins?  SAFM is generally the best run business in the industry and they do about 4c EBIT/lb normalized.  If PPC were to achieve this best-in-class level sustainably, they would earn much less than $1/share.

    5) I am afraid you are also mistaken on the independence of chicken prices vs. beef and pork.  If you run a regression, what you'll find is that competing protein prices are actually the MOST predictive of anything when predicting chicken prices.  Even more predictive than pullet placements (which are the next most important).

    Again, I very much appreciate the debate.  Thanks in advance for your thoughts.

     

     


    SubjectCircling back on demand
    Entry02/13/2015 07:51 PM
    Memberjso1123

    elehunter,

    I don't mean to belabor this and sincerely am looking for the right answer, but again when I look at this chart you sent it shows per capita chicken demand flat for 12 years.  population grows 0.5-1.0% per year.  So isn't that growth in chicken demand (assuming exports stay a constant proportion of demand)?  To me these cycles are always driven by supply because demand is constant +1-2% with small fluctuations.  But I want to make sure I'm not missing anything.  

     


    SubjectInsider sales....
    Entry02/23/2015 05:15 PM
    Memberlindsay790

    Looks like the CEO and CFO sold almost a quarter of their respective holdings....


    SubjectRe: Re: Avian Flu
    Entry03/11/2015 03:31 PM
    Memberjso1123

    I think you are burying the lead a bit.  AI has been confirmed in turkey flocks in AK and MO (2 big chicken states).  Countries typically ban meat from states/regions automatically when this happens.  Most importantly, Mexico is banning imports from affected states.  AK is where a lot of Bachoco's hatching eggs are located... so the (weak imo) opinion that Mexico was going to somehow save the US from oversupply gets a lot weaker with this news.  I think it's only a matter of time before you see AI in other key growing states now that the disease is in the key flyway.


    SubjectRe: Re: Re: Avian Flu
    Entry03/11/2015 03:32 PM
    Memberjso1123

    AK = AR... oops!


    SubjectPricing - fiverocks
    Entry03/24/2015 02:25 PM
    Memberjso1123

    Fiverocks,

    Why do you focus on GA dock pricing?  It is my understanding that Urner Barry and EMI provide far better pricing data.  Fwiw, EMI data is showing y/y declines in boneless breast pricing already and has been for about two weeks now.


    SubjectRe: Re: Pricing - fiverocks
    Entry03/24/2015 02:54 PM
    Memberjso1123

    Thanks for your thoughts, however I disagree.  I think GA Dock prices are probably the least accurate of all options given they are based off of small birds and extrapolated.  It is no coincidence that the extrapolation coincides with the steady rise in GA dock prices.  Urner Barry is generally what sales are indexed off of, but EMI is gaining share in that department.  

    If you want whole bird pricing you can easily get that through Urner Barry and EMI, too.

    Further, whole birds are a relatively small percentage of the market.  As I'm sure you're aware, BS breast and leg quarters are the two most important determinants for both SAFM and PPC.  

    I think you'll be misled focusing on GA Dock.  As a great example of this, we are already seeing price movements that support what you are saying, but people don't realize it yet because they aren't looking at the right pricing indices.  Leg quarter pricing is down mid-teens y/y and BS breast is down MSD y/y.  But the stocks haven't really moved.


    SubjectPPC M&A chatter
    Entry04/01/2015 04:58 PM
    Membersocratesplus

    http://www.bloomberg.com/news/articles/2015-03-31/beef-or-chicken-pilgrim-s-pride-weighs-its-next-move-real-m-a?cmpid=yhoo


    SubjectRe: Re: PPC M&A chatter
    Entry04/01/2015 09:08 PM
    Memberjhu2000

    fiverocks-this is a little off topic, but you seem very knowledgeable on the space.  Do you have a view on Maple Leaf Foods? The Company is the largest remaining North American pure-play pork-focused protein business, which is a fairly good position given the growing international (particularly Chinese) demand for pork as well as increasing demand for pork in foodservice.  The business has a substantial net cash position (i.e. $500mm on ~$3.3B EV), no debt, and projected 2015E EBITDA of ~$300mm.  Trading at a steep discount to the Hillshire takeout multiple (not a direct comp,but not so far off).  With the Canadian dollar depreciating to levels not seen since 2010, this seems like an interesting situation given growing demand for pork exports and the insulation that a strong US dollar provides against US pork exports into Canada.  Is this the type of business that JBS might look at in an effort to expand into branded packaged meat and grow pork exports?  Appreciate your thoughts.   


    Subjectturkey head fake?
    Entry04/06/2015 12:27 PM
    Membersocratesplus

    apparently there is avian flu among turkey stocks in minnesota.  do people think this is a complete head fake re applicability to poultry demand, or is there some read through to PPC and others. in other words, is this normal poultry business conditions, or is there some likelihood that fed/state depts of ag/health get involved in a way that affects PPC etc.  thanks in advance.


    SubjectRe: more horrendous chicken data
    Entry04/23/2015 01:55 PM
    Memberobvious617

    How do you handicap the risk that the avian flu seen in the egg laying hens recently will spread? There have been a significant number of cases recently in Wisconsin, Minnesota, and Iowa.


    SubjectRe: more horrendous chicken data
    Entry04/23/2015 02:28 PM
    Memberavahaz

    what is the ratio of at which current pullet placements convert into actual supply growth? i.e. does the 6-7% run-rate increase in pullet placement mean industry supply will grow 6-7% in a few months from now or is there some kind of ratio as the pullets become broilers etc? How large of a supply increase do you expect later this year in light of the various data points we have seen in recent months?


    SubjectRe: Re: Re: more horrendous chicken data
    Entry04/24/2015 10:53 AM
    Memberbafana901

    Eventually it will enter the broiler flock as well.  Just a matter of time.  

    How long before you think we find out if this spreads? I see bloomberg tv is squawking about this. When tv presenters get hysterical I prefer to take the other side?


    SubjectRe: Re: Re: Re: more horrendous chicken data
    Entry05/01/2015 04:10 PM
    Memberelehunter

    Just to balance out this board a little (and let's face it, I think we all know the bear case well), here's something for the bulls: JP Morgan put out a pretty interesting note today explaining why whole bird prices are Rising despite this bearish pullet placement data.  The correlation between pullet placements and young chickens slaughtered has broken down over the past year or so.  Why?  The US has been shipping a great deal of hatching eggs to Mexico (as mentioned in PPC's call yesterday).  This has been a controversial issue on this board, I'm just bringing it up again because it seems to be bearing out, and it may be the reason why this wall of apparent supply is not driving chicken prices down. 

    It's actually pretty amazing to see whole bird prices rising to new highs despite all these bearish elements (rising pullet placements, strong dollar hurting chicken exports, bird flu escalating, etc) which gets me to my second point - what happens if the dollar reverses course, bird flu deescalates as it always does, and pullet placements (which per JP Morgan actually do Not lead supply, they are coincident with young chickens slaughtered which is the more relevant indicator for supply) start to dial back down? 


    SubjectThoughts/Questions on Bull Case
    Entry05/11/2015 08:53 PM
    Memberblaueskobalt

    elehunter--thanks for pointing out the JP Morgan note.  However, it mainly addresses why pullet placements have not yet led to an increase in supply.  I found it weaker in arguing why an increase in supply is not coming.  Has anyone heard a good response to this?

    The note also pointed to the export of hatching eggs to Mexico (a point also covered by PPC management), which spiked in the fall of 2014--what was behind this spike?  It also appears to be waning into the start of 2015--was the spike a spike or a shift?

    PPC has talked about their decision to focus CapEx on dark meat deboning and a "portfolio approach", a point that I have seen picked up on by others. In principle, any CapEx that is not focused on increasing industry capacity should lead to less cyclical returns. Is this line of reasoning flawed?

    Finally, the avian flu is going to have a major supply impact on the egg industry; the odds that it impacts broilers similarly are growing. Does anyone have a model (or case study) for thinking about how long it will take to build back up?  Do the breeders have capacity constraints that could restrict the ability to rebuild flocks?


    SubjectRe: Chicken Prices
    Entry06/19/2015 02:36 PM
    Memberelehunter

    Let's face it folks, the short was flawed. Chicken prices, which Fiverocks continues to harp on as the crux behind the short thesis, continue to drift higher (fact: USDA Georgia Dock Chicken Ready-To-Cook Whole Birds Spot price now $1.16/lb vs $1.14/lb when this pitch was posted on 10/21/14).  PPC is up 4% on a total return basis since then, despite an impressive campaign by the shorts.  Does anyone have any new information or will we continue to get the same old recycling of irrelevant information? 


    SubjectRe: Re: Chicken Prices
    Entry06/19/2015 02:56 PM
    Memberjso1123

    I'll offer a few datapoints using EMI pricing data (actual transactions):

     

    Chicken breast prices as of yesterday are -29% y/y

    Tender prices are -23% y/y

    Wing prices are +28% y/y

    Leg quarter prices are -47% y/y

    The total chicken cutout is -14.5% y/y.

     

    So, prices are down... a lot.

     

    And we're going to run into a period starting in July where feed costs are no longer the huge tailwind to feeder margins.  In fact, by August they might not be a tailwind at all.

     

    At that point, feeder margins should fall by a lot (>20% y/y).  And it's also worth mentioning that the large supply increases haven't even hit yet... that's not until H2. 

     

     

     

     


    SubjectRe: Re: Re: Chicken Prices
    Entry06/19/2015 03:38 PM
    Memberjso1123

    oh, and I almost forgot:  on the small birds that PPC claims are immune:

     

    Small boneless breast is down 21% y/y

    Small WOGs are down 8% y/y

     

    and my cutout calculation from the previous  message includes the Georgia Dock Whole Bird you mentioned in your note.

     

    Cheers


    SubjectRe: Corn? Fundamentals finally starting to roll?
    Entry07/16/2015 07:56 PM
    Memberobvious617

    Are bird weights likely to back off these very high levels with feed costs going up?


    Subjectfwiw - chicken prices
    Entry07/27/2015 10:07 PM
    Memberrjm59

    Was just talking to a friend today who has a pretty big chicken distribution business and he said prices are down since April from 1.70 or so /lb to 1.20 and falling hard


    SubjectRe: Re: Re: Re: the chicken stock that hasn't broken yet
    Entry08/09/2015 08:47 AM
    Memberxds68

    IBA has a large net cash position (just glancing at Yahoo looked like about a quarter of cap is cash)? Ex-cash this would be a single digit PE on current estimates. You're saying estimates are coming down. Do you have  target for how much? 


    SubjectPricing
    Entry08/20/2015 02:12 PM
    Memberavahaz

    The supply growth has now been happening for several months and the chicken stocks have indeed taken a hit, but it seems that other than a one-off leg down in pricing last month (which can at least partially be explained by the drop in input costs) chicken prices continue to be resilient. I track Urner Barry prices which are not declining since the initial drop and georgia dock which is still at the highs. 

    When do you think we will finally see pricing break down which should be the catalyst for the next singificant leg down in the chicken stocks?


    SubjectRe: PPC earnings
    Entry01/14/2016 11:57 AM
    Memberzipper

    Curious if folks have any update on this saga, with stock prices having roundtripped and export/feed cost upside seeming to have overtaken the chicken pricing story.


    SubjectRe: Question for elehunter/biffins - whither from here?
    Entry08/26/2016 10:12 AM
    Membersnarfy

    Agreed on all counts.  The stock is more or less fairly valued.  Take out the ~$10/sh net cash and it's priced at $87 vs. replacement cost of ~$77, or 2.2x book value of $40/sh net of cash.  Alternatively, it's priced at 9.2x normalized earnings of ~$9.50 based on net income per pound of 6 cents on 3.6bn pounds of fully operational capacity.

    I think what has probably surprised the bears is how well the bullish thesis around the muting of the industry's supply response has held up.  The industry does indeed have more discipline now that the egomaniacs who used to run PPC and Tyson are gone.  Aside from SAFM, no new plants have been built since 1993 and nobody else has the institutional knowledge to do it right.  Somebody else is trying to build one right now in Arkansas and it is not going well.  Line speeds aren't exactly poised for additional increases, and industry bird weights are maxing out due to woody breast and consumer shock when they put a chicken breast on the grill and it's the size of a frisbee - just doesn't look right!  

    These guys rock.  I am biased towards owning them over time but I don't want to buy the stock at these prices.  The next catalyst I am hoping for is a spike in grain prices.  Crop prices have been a tailwind for so long they're almost due for a shock.

    For what it's worth I'm always down to listen to a Sanderson conference call.  The level of candor is a refreshing departure from the types of programmed robots that make up most management teams.


    SubjectRe: Re: Re: Question for elehunter/biffins - whither from here?
    Entry08/26/2016 05:51 PM
    Membersnarfy

    I missed that article.  I'll have to look it up - thanks for pointing it out.  The "this-breast-is-too-big" dynamic has got to be one of my favorite thesis pillars.  It's funny but it's also true.  People just don't want to eat Jurassic Park-looking cuts of meat.

    I had the same question about whether the industry will continue to allow SAFM to capture 100% of the capacity expansion.  It's a little too hard to believe.  Here's the issue though - these plants are like refineries - nobody wants them in their backyard.  There's a reason why no greenfield refineries have been built since the early 1980s (at least that's my recollection - somebody correct me if I'm wrong).  So there is an analogous situation from another industry that shows the constraint is real.  I think PPC and TSN will add capacity in forms other than greenfield, e.g. debottlenecking projects/reconfigurations, brownfield expansions, de-mothballing older plants that have been idled as demand warrants.  So will other producers.  By and large though the smaller players will not build greenfield though.  It's very easy to screw up these plants because you have to site them in places that check the box on a number of issues including acceptance by the local community, water access, proximity to grain markets, and access to labor. They are also huge capital commitments to the tune of $125 million or more, and newbuild costs have been going up a lot with concrete prices.  SAFM built the Waco plant in 2007 for $83 per head per week of capacity; Kinston in 2010 cost $108 per head per week and Palestine in 2014 cost $123 per head per week.  The latest plant (St. Paul's) will cost $122 per head per week.  Moreover, there is a lot of institutional knowledge required to do these things correctly and basically nobody else besides SAFM has it any more.

    In summary we may see the occasional greenfield plant but it will probably be a rare thing.  


    SubjectRe: WaPo: "Internal document shows U.S. chicken prices may have been artificially inflated for years
    Entry11/17/2016 02:03 PM
    Memberci230

    Does this mean chicken prices will be coming down?  Besides the producers, who benefits and who is hurt?


    SubjectRe: Re: WaPo: "Internal document shows U.S. chicken prices may have been artificially inflated for y
    Entry11/17/2016 02:52 PM
    MemberBiffins

    What a joke. So asking some random farmers what is the price of chicken is leading to an average price higher than market price. What a shock!

     

    The root of the trouble with the Georgia price estimate, as Schronce sees the matter, is that it is based on a price survey of eight anonymous chicken companies in the state, and he raised doubts whether those companies have been giving him accurate information. The chicken companies are not asked to show receipts or other documentation proving that their figures are accurate.

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