April 22, 2019 - 12:24am EST by
2019 2020
Price: 73.50 EPS 0 0
Shares Out. (in M): 366 P/E 12.4 11.6
Market Cap (in $M): 26 P/FCF 0 0
Net Debt (in $M): 11 EBIT 0 0
TEV (in $M): 36 TEV/EBIT 11.9 11.3

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According to the Chinese calendar, 2019 is the Year of the Pig. It is turning into
quite the ominous year for swine.
African swine flu (ASF) is currently ravaging China, the world’s largest hog market,
and creating a global supply shock that will take several years to work through.
Pork represents about 40% of the global protein market, and China produces and
consumes about half the global pork volumes. As of now, official estimates indicate
that China has lost 15% of its pork supply, but there seems to be unanimous belief
that the actual figure is far worse.
As Chinese consumers shift consumption to other proteins (chicken mostly, but also
beef and fish) and global protein producers work to fill protein supply gaps, many
companies stand to benefit.
While VIC members may choose from a variety of names, Tyson Foods (TSN) makes
a compelling long in this environment. It is the largest, most liquid, and among the
most diversified of global protein suppliers. TSN also provides several other ways
for investors to win, making the long even more compelling than an ASF-only play.
ASF Outbreak:
ASF outbreaks were first reported in a few provinces in China in August 2018. Over
the next several months, ASF had spread to every province in China. And the
prognosis for continued spreading within China is not good. ASF is an airborne
virus, it can linger and spread within in area for several weeks after introduction
through farm equipment. It can also survive frozen in pork for several years. And
as of now, there are no known cures for the disease. The only known treatment for
farms infected is to cull herds.
Since August 2018, China Ministry of Agriculture estimates that the total Chinese pig
herd has fallen by 50 million (from 350 million) and sow herds (breeding female
pigs) have also fallen. Multiple media and expert sources suggest that the official
estimates are too low. And while the extent of impact on local Chinese hog
populations is unknown, there is no debate that this is a bid deal.
It is also clear that addressing this problem will take a long time. First, ASF
outbreaks need to stop. When this happens is impossible to predict, though late
2019 or early 2020 seems like a best case scenario for Chinese herds stabilization
and infection eradication. From there, the typical hog breading/production cycle
takes approximately 20 months from gilt to sow to breeding to weaner to pig for
slaughter. So late 2021 or early 2022 look to be best case scenarios for China herd
Hog Price Moves:
Hog and pork prices have started to react. Lean hog futures in the US have
increased by 35%+ (depending on contract used) over the last 2 months. Global
pork prices have seen similar moves recently as well.
However, the full magnitude will take time as herd culling is still in process, and AFS
infected pigs can still be eaten (i.e., we are in inventory liquidation phase, actual
supply deficits do not exist yet until the full impact of not being able to replace
slaughtered herds becomes more real and immediate.)
Protein Consumption Shifts:
How will China respond as pork supplies are reduced? Probably by eating more
chicken. Both logic and history suggest this to be true. First, everyone knows pork
as the other white meat. So go for the “one” when “the other” is not available.
Second, chicken and pork are similar price points and chicken is actually slightly
cheaper, so substitution of chicken for pork makes economic/budgetary sense (beef
in China costs about three times chicken and pork in China for equivalent weights).
Protein substitution also favors chicken over beef as it takes about 1 year to create
new poultry supply versus almost three years for beef. Finally, in the last swine
epidemic (not ASF but a lesser disease) in 2007-2008, chicken share of consumption
absorbed most of the lost pork with beef also benefiting some.
Protein Supply Shifts:
Exactly where the protein comes from to replace Chinese hog and pork production
is really not important. The US, EU, and Brazil can replace some of the Chinese pork.
Chicken and beef are available from the US and Brazil. But the exact shifts are not
critical, as supply chains globally are fairly tight and global agricultural products are
fungible. So for example, if more Brazilian pork goes to export to China, local and
export Brazilian pork, chicken and beef prices will all have upward pressure. And
this will have impact into all other markets.
All of this comes at an interesting and critical time for the US and China in their
trade negotiations. China has instituted tariffs on US beef and pork and has banned
import of US poultry. News reports have speculated that a US and China trade deal
could remove agricultural tariffs and shift import tariffs to other products (which
would further benefit US protein companies beyond the supply shock).
Long-Term Impacts:
A further interesting and longer term impact of ASF would be a permanent altering
of the global protein supply chain. Agriculture is one area where China is
uncompetitive versus the United States (and South America). Chinese protein costs
are almost double those in the US for example. And China is almost fully self reliant
in pork production. A re-thinking of this strategy to allow for lower cost imports
and possibly safer supply (or at least more diversified supply), would benefit global
protein players outside of China dramatically.
Tyson Positioning:
Tyson is broadly positioned across the protein space. It has similar exposures in
beef and chicken, and both are 50%-100% larger than pork (depending on whether
you are measuring sales or EBIT). Almost all Tyson production is in the United
States. And its recent purchase of Keystone gave Tyson near $1b of international
poultry foodservice exposure, much of it in Asia.
Whether directly supplying export to China, or filling out other supply gaps created
by ASF, Tyson is positioned well to benefit.
Impact on Financials:
This is the hardest part of this thesis. It is clear that global protein prices are set to
lift (as hog/pork prices already have in the last 2 months). The extent of lift is
dependent on many variables, and it would be hard to gain strong conviction in
numbers at this point. However, the bias is clearly higher for international protein
suppliers. The magnitude can be meaningful as price jumps to date have already
been large in the pork markets and this is before the real impact on protein supply is
felt in h2 2019 or h1 2020.
Further, to the extent that supply chains adjust more permanently in the case of
China import strategy, multiples also have room to adjust higher, as protein
companies globally (Tyson included) trade at undemanding multiples versus the
Tyson guided 2019 earnings assuming no benefit to either a positive outcome in a
China trade deal or any benefit from ASF to the protein complex
Tyson Valuation:
Tyson today trades at
10x to a high of 17x over the last 5 years.
The current multiple of Tyson is a 20% discount to peers including commodity
peers like Pilgrims Pride and branded and packaged food peers like Campbell,
General Mills, and Smucker.
Tyson has been slowly transitioning more of its commodity mix within beef and
chicken to prepared food and higher margin portions of the commodity business.
Clearly the multiple has yet to benefit.
While it is difficult to quantify at this point the extent of upside to numbers, the
risk/reward appears compelling from here with an opportunity for earnings upside,
relative valuation re-rating, and absolute value re-rating.
Global protein price moves
US/China trade deal


I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise do not hold a material investment in the issuer's securities.


Global protein price moves

US/China trade deal

Agriculture tariffs removed in China

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