By Michael Hirtzer
CHICAGO (Reuters) - Smithfield Food Inc [SFII.UL], the world's biggest pork producer, is buying grain elevators and purchasing grain directly from farmers, a move that hits grain handlers already reeling from multiyear lows in corn and soybean prices.
The Virginia-based company bought two Ohio grain elevators in September. For the first time, it can ship grain directly from Ohio to feed the pigs that Smithfield slaughters at its Tar Heel, North Carolina, packing plant - the world's largest, processing about 32,000 hogs daily.
Smithfield now buys 65 percent of its animal feed directly from farmers, up from the 10 percent of feed it directly bought in 2010.
The direct buying strategy aims to lower feed costs and could provide a model for other large meat companies that still largely rely on commercial grain handlers, such as Chicago-based Archer Daniels Midland Co. Grain can account for up to 60 percent of Smithfield’s costs. The company’s expenses in 2015 totaled $4.67 billion.
In 2014, Smithfield canceled a grain handling contract with CHS Inc, the largest U.S. farmer-owned cooperative, which had previously supplied a Smithfield feed mill in Yuma, Colorado. Smithfield has canceled contracts with other smaller grain handlers since 2010.
"They take the Walmart approach and go right to the source," said a CHS Inc employee who declined to be identified because he was not authorized to speak publicly.
A CHS spokeswoman declined to comment.
Smithfield also aims to work directly with farmers to influence farm management, from crop rotations to fertilizer and fungicide applications that could result in higher-quality grain that speeds weight gain in hogs. Smithfield could have a say in the seeds that are planted for the grain to feed the hogs it slaughters to produce the pork it sells.
“In a dirt-to-fork story, you have to start with the dirt," said Joe Kerns, president of animal agriculture consulting firm Kerns Associates. “This is the first foray.”
Smithfield, purchased by China's WH Group in 2013 for $4.9 billion, plans to continue reducing reliance on grain handlers, said Robbie Montgomery, Smithfield's grain origination manager.
"That's key to our strategy, our farmer relationships. It's not us buying from a dealer; it's us buying from a farmer," Montgomery said.
IMPACT ON GRAIN HANDLERS
Smithfield's push to go directly to farmers comes as ADM, Cargill and other leading grain handlers are facing sharp drops in corn and soy prices following record-large U.S. harvests. Handlers make money buying, selling, storing, transporting and processing grains around the world, typically earning small profit margins on each bushel they trade.
Trading fees for commercial grain handling can run to 20 cents a bushel in tight-supply markets, but drop to just a few pennies when grain prices are low.
Juan Luciano, chief executive officer for ADM in an August conference call said weak margins in grain handling contributed to a 26 percent fall in profits during the second quarter, before revenues improved in the third quarter.
He did not mention Smithfield in particular, and ADM declined comment on its relationship with Smithfield. Cargill did not respond to requests for comment on Smithfield’s efforts to bypass grain handlers.
U.S. farmers built up their elevator storage to better control their harvest, and hold back supplies when prices are low, cutting in to profits for handlers.
In the last quarter of 2016, ADM and others have tried to make up reduced returns on grain trading in the U.S. by selling grain overseas and making money on storage of abundant U.S. supplies.
The Smithfield move alone is probably not enough to hurt the big grain handlers immediately, said Kerns, the agriculture consultant. Smithfield is a long way from quitting the big grain handlers altogether, and still relies on ADM and Cargill to crush soybeans into soy meal, an animal feed.
But such companies could lose substantial business if other meat producers follow Smithfield’s lead, and smaller grain handlers are already feeling the impact.
Smithfield in 2015 exited a 20-year relationship with MaxYield Cooperative in Algona, in northern Iowa. MaxYield previously supplied a Smithfield-owned feed mill in Algona that can grind 50,000 bushels of corn per day.
"They want control from the ground up," said Karl Setzer, MaxYield's risk management team leader, who was told by Smithfield that the company was not renewing its contract.
Setzer declined to comment on how the loss of the contract affected MaxYield’s business.
Smithfield buys about 150 million bushels of corn, soybeans, wheat and sorghum per year to feed its 16 million hogs, according to a Smithfield spokeswomen. "Smithfield has always been uneasy about their dependence on feed," said Chris Hurt, an agriculture economist at Purdue University who has advised the hog industry.
The company also is using a port it helped build in 2002, in Wilmington, North Carolina, to import feed from South America and Europe.
It has imported soy from Brazil and Argentina and feed wheat from Europe when it is cheaper than supplies shipped out of the Midwest, most recently with a bulk vessel of Brazilian corn that arrived in June.
Smithfield's vice president for business development, Joe Szaloky, said the company has become a savvy buyer.
"We think we can buy from farmers just as well as anyone else can," he said.
(Reporting by Michael Hirtzer; editing by David Greising and Brian Thevenot)