Apr 17, 2012

If Selling Is In Your Future Move Quickly

There are many reasons why middle market owners wanting to sell their companies during the next ten years should consummate a sale no later than 2014, preferably sooner. Although most points discussed in this article pertain with equal relevance to all companies regardless of size, the article is primarily directed at middle market companies, which are firms with transaction values between $5 and $250 million.

I am more optimistic about the prospects for the short and intermediate-term (the next two to three years) acquisition market than I was last year, when I syndicated an article on the then current state of acquisitions. 2012 should be the best time to sell a company because of the likelihood that market conditions will be strong. They will probably continue that way through 2013 and quite possibly 2014. After that, the market becomes problematical. However, I am much more negative about the long-term than last year. I expect a severe downturn to occur that will have a devastating impact on the U.S., and probably the global, acquisition and financial markets sometime before the end of the decade. Its impact is likely to be far worse than the Great Recession and will be triggered by either a major event or a confluence of events. The impact will probably exceed any business collapse since the Great Depression. The economic conditions it creates are likely to remain for an extended period of time, much longer than from the Great Recession. These conditions will have a significant damaging impact on the market value ofU.S. companies. When it happens it will start suddenly and unexpectedly, just like in 2008. The public will express shock and amazement as they did then. No one saw that coming either.

The major reason why these significant negative events always occur so unexpectedly is because it is in none of the major financial firm’s self-interest to forecast catastrophic economic or financial market conditions that are on the horizon. It would severely impact their business. And, as we all know, the major financial firms think first and foremost of their self-interest.

Why You Should Sell Promptly

The following are certain reasons why you should consummate a sale by not later than 2014, and preferably by the end of 2012 or 2013:

  1. Acquisition pricing is very strong now. I would anticipate it will remain this way through the end of 2013.
  2. It is likely there will be a second Obama Administration. In order for them to start significantly reducing the deficit, it will require more than spending cuts, as there are not enough spending cuts to make without harming the very structure and fabric of the U.S. Correspondingly, it will necessitate an increase in taxes. These revenue raising measures will primarily be focused on increasing the taxes on the wealthy, possibly significantly. One of the taxes almost certain to be increased is the capital gains tax. I expect it to be increased to at least 20%, if not 25%. If it is increased to 25%, your net after-tax sale proceeds have just been reduced by 10%. This is a sizeable hit.
  3. Numerous private equity (PE) acquirers have a pressing need to invest capital promptly. Many of these funds received money from their investors in 2008 before the market crashed. That money basically sat idle for 2½ years. The PE firms are now under tremendous pressure from their investors to get that money invested. This is driving these firms to invest that money quickly. For certain good companies they are willing to overpay if they have to, rather than risk losing the deal. This has produced some attractive selling opportunities.
  4. U.S. corporations are flush with cash and have extremely strong balance sheets. This makes strategic acquirers very aggressive in the acquisition market and willing to pay strong multiples.
  5. The stock market performance during the first two months of 2012 has been extremely good. This has been a contributing factor to an increasing level of optimism and buoyancy in the business community.
  6. The interest rates are low and should remain low through the foreseeable future. I don’t anticipate the Federal Reserve deviating from its stated policy of keeping interest rates low until 2014. The majority of the Fed Governors don’t feel it is worth the risk to implement a restrictive monetary policy, as they believe that the premature implementation of a restrictive monetary policy was a major factor causing the depth and length of the Great Depression.

Why A Catastrophic Event Is Likely To Occur In The Long-Term

The following are certain reasons why theU.S.is likely to be faced with a catastrophic economic and financial scenario by the end of the decade. This scenario will probably be much longer and worse than any we have endured in our lifetime.

  1. Although the European economy and financial mess has not been in the news as much during the past few weeks, the problem is far from receding. The European Union (EU) is basically dysfunctional in this situation due to its structure. There are too many countries that have to make decisions that then must be sold to their own disparate domestic constituencies. This negates the dramatic action necessary to begin extracting many of these countries, such as, Greece, Spain and Portugal from their disastrous situations. Furthermore, it appears the EU is trying to defer the problem basically hoping it will go away or they will discover a painless solution to it. However, that is not going to happen. The European banks are also in a very weakened condition. This will impact the world economy, as these banks have financial relationships with the world’s major financial institutions.
  2. The combination of problems the U. S. faces including its huge budget deficit, the economic stimulus still required to get the economy back in a self-sustaining mode, the disparity of income between the “haves” and “have-nots” and the gridlock between the warring political parties creates a situation that becomes an almost intractable problem. The U.S. must find a way to bring its deficit under control over the next three years without doing anything precipitous that would push the economy back into a recession. This will be very difficult with our dysfunctional political system that is gridlocked. If these problems are not solved promptly, the country’s economy and financial markets will be in very precarious shape.
  3. The emerging markets have driven the world’s economy for more than a decade. However, current problems and others on the horizon will diminish the positive impact of the emerging markets on the global economy. The growth in China has slowed. In addition, the four major banks are all state-owned. They have been propping-up many failing state-owned companies. In turn, these banks have been supported by the national government. Correspondingly the Chinese financial system is not as healthy as it appears to be. The slowdown in China’s growth will have a substantial negative effect on all countries, but especially the resource exporting ones. Brazil will be one of the most affected, as China is its major trading partner. This coupled with Brazil’s uncompetitive and dying industrial sector could cause a major slowdown in Brazil.India is now facing its highest unemployment rate since 1983, its lowest growth rate in two years and an ineffective and corrupt government incapable of solving the country’s fundamental problems. Overall, the emerging markets are not going to be the world’s growth engine they used to be. This could have a major impact on the developed world’s economies.
  4. There are numerous geopolitical hot spots.

As you look at the many significant negative things facing the world, it is very unlikely that enough of these problems can be avoided to avert not having a dramatic negative impact on the acquisition and financial markets.

The Necessity For Expert Advice On Planning And Timing The Sale During This Risky Period

You should retain an investment banking (IB) firm that can position your company and guide and time its sale. You do not want to do this yourself or use a firm that doesn’t have unique and specialized acquisition market knowledge.

It is essential that you do not miss the “window of opportunity” that you have to realize a premium transaction price during the next 2 or possibly 3 years. This becomes even more critical, when we remember the devastated acquisition market conditions caused by the Great Recession from late-2008 through the third quarter of 2010. You need an IB firm, whose fundamental philosophy is to consummate a sale only when their clients have obtained the optimum price, not one that just wants to close a deal quickly at any price. Your advisor should be willing to spend the time to position and time the sale, so that it generates the maximum transaction price.

Summary

The current period presents a window of opportunity to obtain a premium price. However if this window is missed, there is a substantial long-term and likely long-lasting risk that the company’s value will be significantly reduced due to events beyond the seller’s control.

It takes an extremely perceptive and sophisticated executive to understand the incredible level of risk lurking over the global economy and correspondingly their company’s value for the remainder of the decade. If these risks come to fruition, it could have a catastrophic effect on the economy and financial markets. The best time to cash-out for anyone that expects to sell their company in the next ten years is by doing so no later than 2014, and preferably by the end of 2012 or 2013.

Mar 15, 2012

Tying The Islands Of Automation Together

As automation continues to grow in grain storage facilities, it can be challenging — for many reasons — to implement the right automation plan. Many facilities have operated for years with existing infrastructure and disparate control systems from days of the past, such as pushbuttons, switches and lights.

Typically, automation systems grow little by little over time and become a hybrid of antiquated hardwired controls along with programmable logic controllers and human machine interfaces. Without a solid automation road map, the disjointed automation system focuses only on the task at hand, creating several “islands of automation.”

It seems that conventional thinking supports the islands that are spread throughout the facility, leaving facility operators to “run around the facility” rather than “run the facility.” The primary objective should be to unify the facility automation system and create a facility central command, where the automation system gives the operators insight to the entire facility and visibility to what is happening with each supporting system through a common interface. This concept requires a challenge to conventional thinking and the development of a strong automation road map and implementation plan.

What systems are oftentimes standing as islands? This question alone challenges longstanding paradigms and is the root of identifying a plan and the development of your facility central command system. By examining some specific functions, you may identify some islands at your own facility. Think about the following examples and how much benefit it would be to have complete facility visibility from a central command station:

1. Hazard Monitoring:

• Visibility into live bearing and rub-block temps and speed sensors through live temperature readings and trend charts

• Automatic interlocking for controlled shutdowns on alarm sensing

• Automatic emailing to selected roster on alarm conditions

• Complete reporting for setpoint modifications and alarm data (when occurred, when cleared, when acknowledged and by whom)

2. Grain Temperatures

• Visibility into live grain temperatures and alarms when they reach alarm levels or rate of rise notifications

• Complete trend charts for temperatures over time 3. Motor Currents

• Live motor current values on the operational screens along with complete trend charts

• High current alarms activated based on specific commodities being run 4. Dust Collection

• Complete control of all dust systems and visibility into differential pressures across dust filters

These are just a few examples of value that can be realized by tying together your islands of automation. The objective is to decrease the cost of operating your facility by maximizing your investment and power of your automation infrastructure. Challenge paradigms of the past and examine what you can do at your facilities.

Mar 9, 2012

Industry Reaction to USDA Office Closures

The U.S. Department of Agriculture ushered in the new year at the American Farm Bureau Federation Annual Meeting on January 9, with Secretary Tom Vilsack's announcement of USDA's "Blueprint for Better Services." This initiative will close 259 USDA offices across the country in 2012. Vilsack explained that the closures were required because the operating budget for USDA has been cut by $3 billion between 2010 and 2012. He assured the nation that the closures in the food safety area "are about administrative personnel, not inspectors" and "will have no impact whatsoever on our responsibility to ensure the safety of the food supply."

A month after the closures were announced, the reactions of American agriculture have varied among different industry segments and the various USDA programs that serve them. We look at three of the most important reactions.

Farmers and FSA Closures

The largest and most heated response has been farmers' reaction to closure of 131 Farm Service Agency (FSA) offices in 32 states. The offices to be closed are small facilities scattered throughout rural areas, where one or two USDA employees provide farmers with information about, and assistance in applying for, a number of USDA programs, including disaster assistance, farm loans, and crop subsidies. All are within 20 miles of another USDA facility that will not be closed. The network of small, dispersed offices was created because (1) decentralized personal assistance was deemed helpful to farmers' participation in USDA programs; and (2) many rural congressmen earmarked these offices to spread "pork" throughout their districts. USDA asserts that internet technology now permits farmers to apply for programs at significant cost savings without face-to-face meetings with USDA personnel, and that today's politics makes deficit reduction more important than maintenance of local offices.

A number of congressmen and county commissioners representing rural areas have objected to the reduction of particular FSA offices in their neighborhoods. They argue that most farmers complete program applications by hand and that federal regulations imposing fines on farmers for improperly-filled-out forms make it extremely risky to use less reliable internet systems. They predict that the result of the closures will be decreased participation in federal agriculture programs. USDA admits its current computer programs are complex but promises more state-of-the-art, user-friendly software by 2013, when updates that are part of its MIDAS ("Modernize and Innovate the Delivery of Agriculture Systems") initiative become effective.

Scientists and ARS Labs

USDA's plan to close twelve research programs at ten Agriculture Research Service (ARS) locations have drawn some reasoned objections from the scientific community. Scientists at labs scheduled for closure and nearby farmers growing crops affected by their research argue that research programs have been purposely located near the crops and pests they study, and that the programs will not be feasible—either economically or technically—if they are relocated to distant, different climate and crop environments. This complaint has been asserted, for example, against the closures of a South Texas lab studying invasive insect and weed species crossing over the Rio Grande from Mexico; a research facility in Florida studying subtropical diseases; and a cotton research station in Kern County, California, studying serious threats to the California cotton crop.

Food Processors and FSIS District Offices

The most dramatic change—from a bureaucratic standpoint—in USDA's plan is the closure of five Food Safety Inspection Service (FSIS) district offices in Minneapolis, Minnesota; Madison, Wisconsin; Lawrence, Kansas; Beltsville, Maryland; and Albany, New York. These five district offices currently oversee FSIS work in 20 states—a tier of 14 northern states from Montana to Maine and six border states: Kansas, Missouri, Maryland, Delaware, Virginia, and West Virginia—which will have to be reassigned to one of the ten remaining district offices.

Despite the importance of FSIS's food safety mission, these closures have generated little objection from industry or its critics. There appear to be two principal reasons for this silence. First, much of U.S. food production is not regulated by FSIS. FSIS oversees only meat, poultry, and processed egg product plants. All other food processors are inspected by the Food and Drug Administration (FDA) and, therefore, are unaffected by restructuring at FSIS.

Second, meat packers, poultry processors, and food safety advocates have not challenged Secretary Vilsack's statements that the closures will affect only "administration" and not "inspection." A typical plant already has an everyday, on-site FSIS inspector at the plant who has two levels of supervisors (a supervisory veterinarian medical officer, who reports to a front line supervisor) between him and the FSIS district office. Thus, consolidation of functions at four-level distance from the plant should have little impact on day-to-day operations.

A Precursor of Bigger Reorganization to Come?

The current emphasis on cost-cutting and deficit reduction should result in USDA's office closures being put into effect. Other recent developments indicate that the same budget pressures may force a much more significant reorganization of federal food safety agencies, and that USDA's closure of FSIS offices may be only a first step.

The possibility of major reorganization was raised on March 2, 2011, in the General Accountability Office report that proposed consolidating USDA's FSIS with FDA (in the Department of Health and Human Services) and 15 other agencies with food safety functions, to form a unified food safety agency. This proposal has recently been revived.

In January 2012, the Obama Administration asked Congress for authority to consolidate federal agencies in order to create efficiencies and save costs. It stated that its first effort would be to combine six business and trade-related agencies. White House Office of Management and Budget (OMB) officials stated that consolidation of FSIS, FDA, and other food safety agencies was second on their list. After some adverse comments from agriculture industry and consumer advocates, OMB modified this statement on January 26, 2012 by saying that it had not yet confirmed any proposals for agency consolidation beyond the initial combination of trade organizations, and that it would not do so until Congress has given President Obama the authority to consolidate agencies.

Reading these tea leaves, it appears that the FSIS-FDA consolidation has been seriously, and favorably, studied by OMB, but is "not confirmed." However, it may well take place if Congress grants the President authority to reorganize. If this dramatic reorganization advances, it will create a new order of food safety oversight in the U.S. and raise significant regulatory and budgetary issues. All interested parties should stay tuned.

Mar 7, 2012

Risky Business

Everything we do has some risk. Walking down the street you could get hit by a car, or an asteroid for that matter; eating an ice cream cone you could choke on the cone or get sick from bacteria in the ice cream. There are risks in investing in a new feed mill — the technology may change, sales may drop such that your payback period lengthens, or the crane installing new bins for the feed mill could fall over and destroy some of your existing grain storage — but some risks can have a bigger impact on your business, and the prudent feed and grain manager analyzes risk appropriately and manages accordingly.

All risks don’t have to be all bad. For example, what is the risk of significantly increased demand for a newly developed horse feed you are selling (which is a good problem to have) but are these risks lost sales or erosion of goodwill if you can’t meet demand, and how would this affect your business? Probabilities come into play here also: in other words what are the chances “so and so” will happen? Do you have historical data which can help you determine how often a certain event or occurrence happens in your business? Do you need to check with your insurance agent to help you assess risk? In fact, that is exactly why actuarial tables were developed historically — to give businesses the chance to better understand what might happen in given situations and the probability associated with certain events.

Methods to reduce, mitigate risk

Our purpose in covering risk in this column is not to make you an expert on everything involving risk and how to handle it, but rather to ask some important questions and provide some management ideas on a topic we don’t often dwell on. Risk makes most people uncomfortable, and the uncertainty associated with it causes people to worry. As such, the (mostly) rational nature of the general population and business managers generally leads them to do something to mitigate and minimize risks (though we do have to be careful about making broad generalizations as there are always the thrill-seeking adrenaline junkies that thrive on risky activities such as sky diving or bull riding).

Basically, people deal with risk in five basic ways: avoiding risk, retaining risk, transferring risk, sharing risk and reducing risk.

Avoiding Risk

As an individual or as a manager, you can avoid some risks altogether by refusing to accept a particular risk, though this may not possible for all choices. Risk avoidance can be accomplished simply by not engaging in the action that gives rise to the risk. If you want to avoid the risks associated with the ownership of property or a piece of equipment — do not purchase the asset, but lease or rent it instead; however, it is generally well understood in economics that the greater the risk taken, the greater the potential for return — thus if total risk avoidance were utilized extensively, both individuals and society would suffer.

Retaining risk

Risk retention may be the most common method of dealing with risk. As we mentioned at the beginning of this column, individuals and businesses face an almost unlimited array of risks, and in most cases nothing is done about them because we may see the probability of an event occurring to be very small. Thus, when an individual or firm does not take a positive action to avoid, reduce, or transfer a risk — then that risk is retained. This risk retention may also be conscious or unconscious. Conscious risk retention takes place when the risk is recognized but not transferred or reduced. When the risk is not recognized, it is unconsciously retained. The result in both cases is the same — the risk is retained. Risk retention is a reasonable strategy — firms must decide which risks to retain and which to avoid or transfer based on their margin for contingencies and ability to bear loss.

Transferring Risk

Risk may be transferred from one entity to another, where the other entity is more willing to bear the risk. A great example in the grain industry is the process of hedging, where a farmer or elevator guards against the risk of price changes in one asset by buying or selling another asset whose price changes in an offsetting direction. Risk may also be transferred or shifted through contracts. A “Hold-Harmless” agreement in which an entity assumes another entity’s possibility of loss is an example of such a transfer. For example, a tenant may agree under the terms of a lease to pay any judgments against the landlord which may arise out of the use of the premises. Insurance is a means of shifting or transferring risk (insurance is also an example of “sharing risk” as described below). In consideration of a specific payment (a premium) by one party, a second party contracts to indemnify (pay for hurt, loss or damage) the first party up to a certain limit for the specified loss that may or may not occur.

Sharing risk

Believe it or not, the corporation is one method/tool of sharing risk. In this form of business, the investments of a large number of people are pooled — thus each bears only a portion of the risk that the enterprise may fail. Insurance is another method for dealing with risk through sharing — and in fact it only works if a group of people participate and due to the laws of averages/probabilities that certain events will occur.

Reducing risk

Risk may be reduced in two ways — the first is in preventing or managing loss and the second is in controlling loss should it occur. There are almost no sources of loss where some efforts are not made to avert the loss — these include safety practices and other strategies we will touch on below. Unfortunately, no matter how hard we try, it is impossible to prevent all losses. In addition, in some cases the loss prevention may cost more than the losses themselves. The second method of reducing risk is controlling the severity of loss once it occurs. Examples here are sprinkler or alarm systems.

A Risk Management System

Risk management involves five basic steps:

Identifying risk: Brainstorming sessions initially amongst management and then involving your staff and other employees can allow you to develop lists of possible risks your feed mill or elevator faces.

Measuring the risk: This can involve developing a risk analysis matrix — further discussed below, where you take the risks you have identified in step one above, and simply rate the probability of their occurrence in a “high, medium, low” fashion.

Formulating strategies to limit your risk: As we will discuss in more detail below, management must determine how to address the risks your firm faces. Insurance, contingency plans and education such as safety training are useful tools here.

Carrying out specific tactics to implement your strategies: This step of your risk management plan involves carrying out your plans and putting them to work.

Continuously monitoring your efforts: As with any aspect of management (i.e. strategic planning, human resource management, financial management) — constant monitoring of performance is needed to insure that your strategies are appropriate and are accomplishing the intended goals. This can be especially important with risk management — for example, it is one thing to develop a set of safety protocols/standard operating procedures, it is another thing entirely to make sure these are utilized properly and consistently by your employees.

Risks specific to the feed and grain industry

As with any industry, there are certain risks specific to the grain and feed industry. We cannot list all of the risks you face, but hope to highlight some of the key ones and suggest some possible management strategies. Market risk is faced by firms in any industry, and grain markets face volatility due to weather and associated supply shocks, exchange rates, the vagaries of transportation (fuel prices, etc.) and in recent years the effects of swings in demand for energy as a result of government ethanol legislation as well as other policy interventions. Hedging in the futures market is one strategy for dealing with grain price risk. Effective utilization of numerous and varied information sources is another strategy to deal with market risk, as information helps you manage this type of risk.

Grain quality and/or feed spoilage is another source of risk faced by our industry. Good management here means proper aeration of stocks, grain turns as appropriate, and fumigation for mold or insects (see sidebar). Dust explosions — we all know that grain dust can be dangerous due to its potential for explosion. Thus, good dust suppression practices are a great risk management strategy.

Falls and grain bin suffocation are definite hazards of the grain and feed business. Safety training and enforcement of confined space rules are very important approaches to risk mitigation. Al Tweeten with Berkley Agribusiness Risk Specialists, states in a recent presentation on insurance risk control in the grain industry that focus on safety is perhaps one of the easiest approaches to managing risk and must be a priority. He feels that training should never have a day off and is everybody’s responsibility. As manager, you should give appropriate rewards for following the rules and you should dispense appropriate discipline for breaking them. Creating a culture around safety is important and in general having rules and training is not enough — it just takes a constant effort. OSHA has a reasonably informative page regarding safety in the grain and feed industry, located at: http://www.osha.gov/SLTC/grainhandling

Another risk management topic of current interest and concern is the recently enacted Food Safety Modernization Act signed into law by President Obama on January 4, 2011, which includes some coverage for feed manufacturers (see http://www.fda.gov/Food/FoodSafety/FSMA ), and for which the Food and Drug Administration (FDA) has oversight. Our intent is to devote a future Manager’s Notebook column specifically to dealing with this new law.

Insurance and contingency planning

The most common tool used to manage risk is insurance. Individuals and firms can purchase insurance for almost any situation. Pretty much anything that has a potential risk for loss or damage can be insured. Insurance works as we have mentioned above — funds from policy holders’ premiums are combined into an insurance pool. Insurance companies use statistics to predict what percentage of those insured will actually suffer a loss and file a claim. Claims are then paid from the insurance pool — with the balance accruing to the insurance company as profit.

Contingency plans are strategies your feed or grain business draws up in anticipation of certain events. They can cover any of the risks or possibilities that might occur to your firm: a competitor going out of business, a fire or flood, a product recall or contamination problem, the death or departure of an owner or key employee. How or whether you engage in developing these sorts of plans depends on your view of the severity of the impact of a particular event and the probability of it happening. The important point here is the conversation: it is far better to have considered a potential risk and decided that no action is required, than to not have the conversation and suffer the consequences when something unexpected happens with no contingency plan in place.

Key components of a contingency plan include a response phase focused on a quick and immediate response to an incident, a resumption phase which targets “getting back to work,” a recovery phase which allows for rebuilding critical infrastructure if destroyed by a disaster and finally a restoration phase which implements procedures for normalized operations. A very detailed contingency plan template (meant for Federal Agencies — so some of the parts of the plan will not apply to the grain and feed industry) can be found at: www.csrc.nist.gov/groups/SMA/fasp/documents/contingency_planning/contingencyplan-template.doc.

This plan is worth looking at because it has some good, thought provoking elements such as a “risk analysis matrix,” discussion of contingency plan contact information, an outline of “team staffing and taskings” — who is responsible for what in the event of an emergency — and suggests developing a succinct listing of all vendors and contractors that currently provide support or will provide support in a post-disaster environment, among other components.

Your insurance and your contingency plans are part of your risk management system. Don't just put them in a ‘safe place’ and forget about them however. Make it an annual commitment to review your risk management system and strategy and update it as necessary. No business is a static venture. Involve your employees as much as possible. They, more than anyone, can spot the flaws/gaps in your operation that can be tomorrow's disaster.

Unavoidable yet manageable

There are lots of things that can happen in life and business and while we may not want to think about these negative outcomes and occurrences, it makes good business sense to carefully consider risks and prepare for contingencies. It may be instructive to engage professionals such as an insurance agent or a risk management specialist to assist with your strategies. A well-thought out plan can definitely make your life easier should an unexpected disaster strike. Risk is unavoidable but is manageable.

Feb 3, 2012

IFEEDER Raises $1 Million

On Jan. 25, at the International Poultry Expo /International Feed Expo in Atlanta, IFEEDER conducted a luncheon to update the media, donors and industry stakeholders about IFEEDER’s progress on its two year anniversary. IFEEDER, The Institute for Feed Education and Research, was launched at IPE/IFE in 2010 with great interest to the U.S. feed and food industries.

The mission of IFEEDER is “To Sustain the Future of Food and Feed Production Through Education and Research.” After two years of existence, it was time we came back and gave an update on the status of our endowment, and more importantly, what projects we have funded to date and how those projects are going. Remember, the need for someone to focus on education or research in our industry is critical. The American Feed Industry Association (AFIA) has its hands full with legislative and regulatory issues — all that it can handle. However, without significant increases in private research and education spending, we will never feed the projected 9.1 billion-plus population projected by 2050. The majority of that demand will come from the United States.

At this year’s luncheon, we shared some new facts. The USDA’s Economic Research Service (ERS) simulations indicate that if U.S. public agricultural R&D spending remains constant (in nominal terms – not adjusting for inflation) until 2050, the annual rate of agricultural TFP* growth will fall to under 0.75% and U.S. agricultural output will increase by only 40% by 2050. By comparison, average TFP growth over the last 50 years was 1.5% annually.

Under this scenario, raising output beyond this level would require bringing more land, labor, capital, materials, and other resources into production, and we know that’s unlikely to happen. Additional agricultural R&D spending will raise U.S. agricultural productivity and output growth. Raising R&D spending by 3.73% annually (offsetting the historical rate of inflation in research costs) would increase U.S. agricultural output by 73% by 2050. Raising R&D spending by 4.73 percent per year (1% annual growth in inflation-adjusted spending) would increase output by 83% by 2050 — in line with the need to double our food production by 2050.

The projects that IFEEDER has sponsored to date will make an impact. Consider the following projects, where IFEEDER has made a total of $195,000 of investments, leveraging another $1.5M of investments to move the research and education needle forward:

  • National Academies’ Nutrient Requirements for Swine (Swine NRC)
  • National Academies’ Nutrient Requirements for Beef (Beef NRC)
  • Funded research to better define the impact of Salmonella and/or other pathogens in feed.
  • Funded research for FAO Life Cycle Assessment (LCA) Model for Livestock.
  • The ABC’s of Farming Coloring Book
  • Adopt-a-Teacher Program to help educate school-aged children about animal agriculture

IFEEDER is very proud to announce that at our luncheon in Atlanta we received another $99,000 in donations to take our total to-date to over $1 million, well on our way to our two-year goal of $1.25 million in total donations. Our sincere ‘thank you’ goes to all those individuals and companies that have agreed to help sustain the future of food and feed production through education and research.

Visit www.ifeeder.org for more information about IFEEDER's education and research goals.

*TFP = Total Factor Productivity, an indicator of technological change and, thus, output.

Dean Warras is the President of Prince Agri Products and the Chair-Elect of IFEEDER. Previously he served as the Vice-Chair for IFEEDER.

Jan 19, 2012

Lessons Learned from MF Global

On October 31, 2011, MF Global Holdings, Ltd. and certain affiliates (“MF Global”) declared the eighth largest bankruptcy in U.S. history, claiming assets of approximately $41 billion and debt of approximately $39.7 billion. Immediately thereafter, the Securities Investor Protection Corporation initiated a Securities Investor Protection Act (“SIPA”) liquidation proceeding against MF Global, Inc. The SIPA liquidation proceeding directly impacted over 150,000 customers of MF Global and sent shockwaves throughout the futures industry.

The SIPA liquidation proceeding had an immediate and dramatic effect on many agricultural producers, grain elevators and processors who utilized MF Global as a clearing house for the hedging of their products. The inability of customers to access their accounts in the immediate aftermath of the liquidation proceeding temporarily prevented customers from entering or exiting hedging transactions and accessing equity in their accounts.

While MF Global’s SIPA trustee caused the transfer of customers’ open U.S. commodities positions to other Futures Commodity Merchants (“FCMs”), the trustee only allowed the transfer of a portion of the required collateral for such positions. This resulted in customers needing to quickly post additional margin collateral or liquidate their open hedging and trading positions.

In light of the MF Global liquidation, this article offers considerations for producers who rely on futures to manage their commodity price risks and for lenders who may be asked to quickly advance funds to cover margin calls. Both producers and lenders have an interest in understanding why, and how, funds posted to a customer’s brokerage account may be segregated or invested by FCMs before those funds are used to settle trades.

Segregating and Investing Customer Funds

The Commodity Futures Trading Commission (“CFTC”) regulates how FCMs use and invest customer funds. While FCMs are required to keep customer funds segregated on an accounting basis, the CFTC allows FCMs to maintain customer funds in a single account rather than maintaining a separate account for each of its customers. Also, in certain situations FCMs may deposit their own assets into such a combined account.

The CFTC permits FCMs to invest customer funds in certain investments described in CFTC Rule 1.25. At the time of the MF Global liquidation, Rule 1.25 authorized FCMs to invest in U.S. government securities, municipal securities, government sponsored enterprise securities, certificates of deposits, commercial paper, corporate notes or bonds, money market mutual funds and certain foreign government bonds. Not all foreign government bonds qualified as permitted investments; such bonds must have been rated AAA by at least one rating agency, therefore any investments by MF Global of customer funds in bonds issued by Greece, Italy and certain other distressed European countries would have been prohibited by CFTC regulations.

Effective February 17, 2012, the CFTC will no longer permit FCMs to invest customer funds in foreign government bonds. As a result of the MF Global liquidation, the CFTC adopted an amendment to Rule 1.25 which will only permit investments in U.S. government securities, municipal securities, U.S. agency obligations, certificates of deposits, money market mutual funds and commercial paper, corporate notes and corporate bonds guaranteed by the U.S. under the Temporary Liquidity Guarantee Program.

While the ability of FCMs to invest, and earn a rate of return on, customer funds is an integral part of the futures system, it is important for participants in the futures markets to understand how FCMs are investing customer funds. The CFTC amendment to Rule 1.25 narrows the type of permitted investments, but customers may also want to review the specific investment policies of their FCMs and ensure they correspond with the customers’ risk management policies.

Credit Structures and Risk Management Strategies

The SIPA liquidation proceeding of MF Global resulted in customers being required in many instances to post additional collateral to maintain their open commodity positions, and caused uncertainty as to the availability of funds already on deposit with MF Global. To give producers, grain elevators and processors additional liquidity and reduce their concentration of risk, the following credit structures and risk management strategies may be considered by producers, elevators, processors and their lenders:

Accordion and Protective Advance Features in Revolving Credit Facilities

The sudden and unexpected need to post additional collateral in the days after MF Global required quick action and coordination between producers and lenders. Credit facilities that featured “accordion” provisions — provisions that permit a borrower to request an increase to a credit facility on an expedited (and often paperless) basis — allowed producers to quickly increase the maximum amount of credit available to them. Accordion provisions can be drafted in a manner that permit quick lender approval and do not require a borrower to incur any additional fees until the accordion increase is exercised. Although lenders are not required to grant a borrower’s request for an increase, the accordion feature provides a structure for responding to rapid market changes and the need for increased liquidity, for example, to cover margin calls. In addition, syndicated credit facilities may also include provisions that allow an administrative agent to make protective advances exceeding the borrowing base in certain situations. Accordion and protective advance provisions are not only useful in unusual situations such as the MF Global liquidation, but can also be important tools during periods of market volatility.

Borrowing Base Advance Rates for Commodity Accounts

The net equity maintained in commodity accounts is an integral part of the borrowing base for many producers with revolving credit facilities. Producers should work with their lenders to ensure that the advance rates under their revolving credit facilities provide them with sufficient working capital. Lenders may want to review their valuations of various commodity accounts to ensure they are adequately protected in the event they need to foreclose on such accounts. In addition, lenders may want to explicitly reserve the discretion to reduce advance rates on accounts maintained at any “ineligible” FCM or remove such accounts from the borrowing base in their entirety.

Periodic Sweeps of Excess Equity

Many producers keep excess equity in their commodity accounts to avoid the time and expense associated with coordinating daily wires in and out of their commodity accounts. As described above, this excess equity may be a component of a producer’s borrowing base. To encourage producers to limit the amount of equity maintained in their commodity accounts, lenders may want to limit the maximum amount of net equity that may be valued in a borrowing base (or consider imposing a covenant wherein the producers agree they will not maintain net equity in excess of this maximum amount). Producers may also want to examine whether the convenience and cost savings of maintaining excess equity in their accounts is worth the additional risk, or whether they want to employ periodic sweeps of their excess equity.

Maintaining Additional Accounts

Being locked out of the futures markets for even a short period of time can expose producers to unacceptable levels of price risk. The ability to hedge inputs and outputs is a vital part of a producer’s business model and relying solely upon one FCM to serve this function can be risky. Producers should examine whether this risk can be reduced by maintaining commodity accounts with additional FCMs. Lenders may also want to consider whether to limit the percentage of futures contracts its borrowers may maintain with any one FCM.

Risk Management Policies

The MF Global liquidation should be a catalyst for producers to review their current risk management policies and ensure the policies are appropriate for their current business. Lenders should also review their borrowers’ risk management policies and work with their borrowers to revise any policies that may not be acceptable to the lender.

As part of producers’ risk management policies, producers should examine the financial condition of their FCMs to ensure they are financially stable. The MF Global liquidation has shown that conditions can deteriorate quickly and rating agencies and regulators may not necessarily be able to keep pace with the financial vagaries of the market. Early detection of financial instability could result in producers avoiding future problems.

Conclusion

While the causes of MF Global’s bankruptcy and related liquidation proceeding, and the $1.2 billion of missing funds, are still under review, these proceedings provide an opportunity for producers, elevators and processors to review their risk management strategies and FCM relationships. The CFTC has taken steps to limit the investments FCMs may make with segregated funds. Producers, elevators and processors should also review how their FCMs handle investments, and should work closely with their lenders to develop credit facilities that are flexible enough to handle both commodity price volatility and unforeseen shocks to the futures markets.

Jan 18, 2012

How to Manage Multiple Locations

The “new norm” in the feed and grain industry is for managers to have multiple locations. Fifty years ago, it was not uncommon for each country elevator to be a separate business with a manager, grain buyer, accounting staff, warehousemen, etc. But just as the farmers being served have consolidated, so have the elevators and feed mills. Through mergers and acquisitions, many managers now oversee the daily operations of multiple locations at once. This has made businesses more efficient and (hopefully) more profitable, but along with these changes come a number of additional challenges. Our column will provide you with some thoughts on how to overcome these challenges.

Team culture

When managing multiple locations, it is important to develop and maintain a team culture. You don’t want these locations to suffer from “Out-of-Sight, Out-of-Mind” syndrome. Each location will have a culture of its own. As the manager you will need to develop your team.

One way to develop your team is to include off-site employees in activities such as lunches, birthday parties, etc. Make sure they are invited and have the means to get there (time off, etc.). Another good way to pull people together (not just physically, but psychologically too) is to have meetings at other locations periodically so the world doesn’t revolve around the “main office.” In addition, rotate your staff around to various locations so they get to know the facilities, customers and challenges of each of your branches. This will help in emergencies (so you have more staff trained to run the other locations) as well as change the perspective of the other employees (this process really is challenging, no wonder there is so much emphasis put on it.)

Structure

Make sure you have a specific chain of command with your offsite (and on-site for that matter) employees. You need to know who your main contact is and your other employees need to know who to go to for information. A chain of command (organizational chart) is good for everybody. It reduces ambiguity. An idea here is to maintain a binder with your organizational chart and job descriptions for all of you employees (see below). Having multiple grain elevators or feed mills increases the need for people to understand the hierarchy of your company.

Make sure each employee has a job description that clearly defines not only their role but also who they report to. We have discussed job descriptions in previous Manager Notebook columns — suffice it to say that having job descriptions forces you to think about what your employees do, who they report to and gives you great information for performing evaluations.

Communication

Communication needs to be deliberate and planned. Because your employees are offsite there is a dramatic decrease in “spontaneous” communication. You don’t pass most of your employees “in the hall on the way to the water cooler,” — or more realistically — as you pass each other going about your work in the mill or elevator — so you can’t say “oh, by the way….” You need to specifically seek out communication opportunities with your offsite employees — you need to be proactive! Don’t be hesitant to pick up the phone to check in. It is also easy to set up a simple email distribution list, so that every location can get important notices. Another relatively inexpensive technology to employ is to have a fax machine installed at each of your branches. An additional idea is to have a monthly or weekly email that comes from you as manager. Make sure it has value in it; don’t just send one to be sending it; if people do not find the information in your email valuable, they will not pay attention to these weekly/monthly updates and will then miss when there truly is something important in one of them.

Technology

Eric Bloom, president of Manager Mechanics, a management-training firm based in Ashland, Massachusetts and quoted recently in INC. Magazine, feels that technology has become an integral part of the backbone for any organization with multiple locations. He states that with the advent of the Internet, there has been a prolific surge in the number of collaborative tools that have spawned from it.

While many organizations rely on custom-built software platforms and intranets as collaborative platforms, some of the most commonly-used tools are either free, cheap or available as a software-as-a-service, which means you can access these tools over the web for a monthly fee. Some of the best and cost-effective options include:

Dropbox: An internet based file system that allows you to upload and share documents easily with others.

Google Documents: Gmail and Calendar for internal training and communication.

Basecamp: A popular web-based project management and collaboration tool.

Facebook: The now ubiquitous social networking tool is just as useful for business as it is for personal applications.

Skype: The surge in VOIP (Voice Over Internet Protocol) technology and software means that you can communicate with remote employees cheaply and effectively. All you need is a good internet connection and a relatively inexpensive webcam. Small group meetings can be held easily and quickly, you can see and talk to your team and it certainly saves time and money. Many Smart Phones have an app for Skype also.

Delegate

Many managers of multiple locations have been promoted because they are “Super Stuff Doers.” Early in your careers supervisors relied on you to get things done. You bagged more feed, bought more grain, loaded more rail cars, or did more of whatever tasks were assigned! This made you stand out and you were promoted, so then you ended up selling even more feed, supervised several warehousemen, etc. Finally you were promoted to a position where you now oversee multiple locations. This presents an interesting challenge — you have to learn to delegate, which for many of you - is against your natural instinct (ie., you like to do things yourself).

What should you delegate? The short answer – EVERYTHING! The day-to-day specifics of your feed or grain business will determine the exact answer, but the more you can have others help you accomplish, the more successful you will be. Managing isn’t about doing things, but motivating others to do things. A great definition of management is “the process of getting things done through other people.”

How do you successfully delegate? Delegate in blocks of tasks, not one line item at a time. Communicate about the task or project in advance…mid-afternoon the day before instead of the morning of. Delegate with a specific time in mind and don’t tell your employees “ASAP” unless it truly is an emergency.

The five steps to delegation are:

1) Tell: “This is the project we will be doing.”

2) Sell: “This is why we are doing it and how it relates to the big picture needs of the company/team/our customers.”

3) Consult: Ask what the employee’s thoughts are.

4) Participate: Talk about what will work and what won’t. Remember, many innovations come from the bottom up in companies. A good example here is the story of the Post-It Note from 3M, a product that was invented a bit by accident, but also definitely came from the bottom up.

5) Delegate: Send them on their way.

This isn’t a static list of how to delegate, but like most things, is dynamic. The complexity and importance of the task will determine where in the list you start and how much time you spend on each step.

Set goals

Setting clear goals becomes more important when working with multiple locations. Everyone needs to know what you expect and how they are moving forward in your vision of the business. When setting goals, set SMART goals:

Specific: The goal should be able to be told in 30 seconds or less, or be able to be written on the back of a business card.

Measurable: If the goal can’t be measured you don’t know when it is reached. Sell 500 tons of feed this month, decrease processing time by 10%, etc. are measureable goals. “Improve” isn’t measurable.

Agreed upon: All the stakeholders in the project have agreed to the goal. Here is where one sided, dictatorial leadership doesn’t work.

Realistic: The goal needs to be in the realm of possibility.

Time-frame: A timeline or deadline needs to be set.

By setting SMART goals your employees will be more successful.

Meetings

Face-to-face meetings are critical for your dispersed team. Bring your key employees together on a regular basis. Schedule a “Department Head” meeting where supervisors from various locations come together to discuss challenges, opportunities, etc. Do a lot of listening at these meetings, and always ask the question “What do you need from me?” Make sure the meetings are productive and concise. Don’t have a meeting just for a meeting’s sake, but make it productive. Meetings are expensive so they should produce value for you and the team.

Visit

Nothing beats an on-site visit. With several branches, you should schedule regular site visits. It may seem that a surprise visit would be advantageous, but in our experience, this just serves to make everyone nervous and can sometimes create an adversarial relationship. If you visit so often that you are seen as a “fixture” this may not be a problem.

No matter what your paperwork may say or what people tell you, there is no substitute for seeing, hearing and smelling for yourself. Walk through the facility and take a few minutes to speak with each employee. This can help to smooth the barrier created by off-site management. A consistent schedule for site visits works best. Employees can come to count on leadership to be present. Managers need to put their name on the schedule and show up ready to work. Managers working the front line, helping with clients, taking phone calls or dumping a truck can make a big impression on your employees. Your willingness to participate in the daily activities helps to foster the team atmosphere you are striving to create. Be ready to learn from your employees.You can learn as much from them as from any formal continuing education program. This will have a positive effect on many aspects of the business as well as your professional growth.

Deal with problems quickly

When working with off-site locations, the temptation is to wait if there are problems that need attention. It is easy to put off something until the next time you are there. But when the manager is off-site, a little problem can blow up into a major issue right quickly. Be willing to jump in your pickup and drive to the location if necessary, and address any issues immediately.

Multiple locations, multiple challenges

As we mentioned in the introduction to this column — multiple locations for feed and grain firms have become commonplace. These branches may be dispersed regionally rather than nationally or internationally, but many of the same challenges apply — regardless of the distance separating these locations. As manager, a big part of your job is to build and manage your team — and with multiple locations you still have to have everyone on the same team even if they are not sitting in the same “locker room” on a daily basis. We trust that this column has given you some ideas and techniques which will help you manage your “far-flung empire!”

Jan 18, 2012

Post MF Global

Nobody likes to lose money — least of all when it occurs in a system long considered safe. Regulators, exchanges, futures firms, and individual brokers have all taken pride and advertised that futures customer funds are segregated from any monies or positions of the clearing member holding customer funds. As CME Clearing’s Financial Safeguards document states: “The (segregation) regulations are designed to protect customers in the event of insolvency or financial instability of the clearing member through which they conduct business. CME Group’s Audit Department routinely inspects the books and records of the clearing members to ensure among other thing, their compliance with segregation requirements.” Prior failures of Futures Commission Merchant firms posed little to no disruption to the firm’s futures customers — the entire book of accounts, positions, and funds were typically transferred intact to another firm or firms that seamlessly integrated that business. “Business as usual” had been the mantra in the past; customers were literally segregated from the financial losses of the firm that had held their account(s).

Then came October 31. The collapse of MF Global and the discovery that something in excess of $1 billion of customer segregated funds were unaccounted for in the final days before the MF Global bankruptcy filing shook the futures industry to its core. MF Global ’s demise wasn’t just about one firm’s failure; this exposed systemic weaknesses in these regulations and laws governing the protection of customer funds held in all futures and options accounts at all firms. Customers and brokers alike discovered that the ‘letter of the law’ and the perceived customer protections were quite different. Some accounts found their positions transferred to other firms by November 4, while other accounts remained at MF Global which was no longer able to handle transactions. But much of the customer segregated funds, including Treasury Bills, remained either missing or seemingly in ‘limbo.’

MF Global became mired in both an S.I.P.A. liquidation and the 8th largest bankruptcy in the US (bigger than Chrysler). The actions are governed under separate laws and regulations, and encompass 38,000 futures customers (and 400 securities accounts) from London to Los Angeles. The SIPA Securities & Investors Protection Act liquidation is overseen by Trustee James Giddens, with the Chapter 11 reorganization of MF Global Holdings overseen by Trustee Louis Freeh. The end result has been a legal tug of war, crossing continents and jurisdictions with customers caught in the crossfire at times. It wasn’t until mid-December, and after three transfers of cash, that customers have a reasonably complete record of movement of their funds to date. Approximately 72% of customers’ account balances have been returned with the remainder showing as an unrecovered asset and a claim against MF Global. Even by mid-January, the remaining dollars have not officially been located, let alone recovered.

Bankruptcies aren’t resolved quickly, and there’s reason to hope more customer dollars will be recovered, or that other resources may assist in covering customer losses. But the core issue remains: How could this happen and what’s being done to ensure it doesn’t happen again?

The weakness in the system is that the protections are sufficient, but only if an FCM does not remove customer segregated funds for any purpose other than those allowed for under law. For instance, FCMs may hold and invest Seg Funds in certain instruments authorized under CFTC regulations, with the interest earnings accruing to the FCM. If an FCM fails but all Seg Funds are held as required, regulators can quickly ‘sell’ and move the accounts and funds to other firm(s). But it came to light there is no insurance coverage, nor other protections against outright shortfalls in customer Seg Fund balances.

Customers are furious, Congress is up in arms, and lenders are reviewing their potential exposure in providing margin monies to fund hedge accounts. Hearings are important to get at the bottom of what happened and to hold accountable those who may have done wrong. But equally urgent is changing the system to protect customer funds. The safety of customer collateral — including your working capital and the margin money your lenders send to Chicago or KC or Minneapolis — has been what has allowed agriculture to offer the wide array of marketing alternatives to farmers, and to rapidly and easily trade cash grain among commercial firms with pricing via exchange of futures. If lenders are reluctant or won’t completely fund margin requirements, borrowers will have to reassess how far forward they’ll buy grain. Everyone recalls the margin demands the industry faced in 2008 and again in 2011 as prices skyrocketed!

Rapid change is essential and CFTC Commissioner Bart Chilton summed it up well in the introduction to his January 11 statement to that day’s Commission hearing on swaps regulations: “When Things Go Wrongfor so many years, we had the confidence that customer funds were so very well protected by the federal commodities segregated account statutes and regulations. But MF Global was a stone-cold, Sumatra-bold, no-holds barred wake-up call — this was a hit to the very heart of who we are as regulators and who we are as an industry.”

Now the hard work is underway

The CFTC just finalized customer collateral protection regulations for swaps customers as required under Dodd-Frank legislation. Trillions of dollars of swaps business will be moving to clearing on exchanges in the years ahead, and swaps customers are equally concerned about their collateral. CFTC adopted an LSOC regulation: “Legally Segregated, Operationally Commingled”, where all customer funds are commingled but accounted for individually, the same as for futures and options. But there are some differences in how swaps funds would be handled in a bankruptcy situation. The key to the protections is what might constitute “Legally Segregated.” In private over the counter swaps, for example, some big participants demand their dollars be held in a 3rd party bank of their choice for extra security. That is not an option under LSOC.

Brave New World

In a Post-MF Global world for both futures and swaps, “Legally Segregated” might involve the creation of an entirely new model, such as a Central Depository, that would receive and hold all funds for all customers — entirely separate from the futures firms. Customers of Abracadabra Futures, in that case, would wire funds to the C.D. — not to Abracadabra’s bank. Or a Central Depository might actually be an existing bank, but one that handles no ‘house accounts’ for any futures firm, does no proprietary trading, and in no way would put customer Segregated Funds at risk. Any earnings on such Seg Funds would likely be managed by the CD and divided proportionally among all of the futures firms whose clients funds are deposited.

Another previously unrecognized risk facing both futures and swaps customers is outlined in confusing verbiage covering the event of a default by a customer which in turn triggers a default by a Clearing Member to the CME: “…if a default occurred in either segregated accounts or customer secured accounts, CME Clearing has the right to apply all performance bond deposits; ….performance bond deposits and positions deposited by customers not causing the default are potentially at risk.” In plain English, if MF Global had not been able to meet margin calls at CME because an MF Global customer failed to meet their obligation, CME could come back to other customers.

The Devil’s always in the details, and any dramatic overhaul will require regulatory change at the CFTC level, and perhaps legislative change. And for every risk that’s eliminated another may be found that has to be tackled. Insuring customer funds sounds like an easy solution, for example; skeptics counter that raises ‘moral hazards.’ But a lot of people are already hard at work behind the scenes, swapping ideas and finding the weaknesses as well as the strengths, to quickly craft a better system so agriculture can get back to the business of managing risk and feeding the world.

You can help by writing or calling your Representatives and Senators, and writing or emailing the CFTC, telling them that your willingness and ability to use futures and options, and your lenders’ willing to finance hedging, depend on your money being safe — regardless of what firm you deal with.

Nov 30, 2011

Youth Advocate for Agriculture

It almost goes without saying

Nov 21, 2011

Full-Service Food Safety Navigation

The ever-changing face of food safety and regulation has has prompted Leavitt Partners, Faegre & Benson and B&D Consulting to join forces in providing companies involved in the global food supply chain with a collaborative solution to food safety management. This joint effort offers guidance to companies seeking to navigate the shifting food safety challenges of today’s systems, and the new regulations resulting from the passage of the 2011 Food and Drug Administration Food Safety Modernization Act (FSMA).

The three collaborating partners have created a hypothetical situation for Feed & Grain magazine to describe how they would help companies effectively manage risk and meet the challenges in the food safety arena. When working with a joint client, the three organizations will operate together and through this synergism are able to provide a unique and powerful set of solutions to cover all aspects of a potential food safety issue.

Imagine this situation: A feed additive in the swine chain has some contaminant/adulterant that could impact the ultimate meat product, and may have entered into the consumer supply chain.

Faegre & Benson: A Legal Perspective

Potentially contaminated or adulterated animal feed fed to swine can have varying legal implications ranging from customer management and regulatory compliance to complex litigation. Experienced legal counseling and representation is critical given the broad and varied implications of food safety issues, including regulatory enforcement and private litigation.

As soon as the client is aware of the feed additive that may have been contaminated or adulterated, Faegre & Benson works with that client to create a response plan and engage in risk management. Faegre & Benson is prepared to advise the client on supply chain management issues, counseling and reporting requirements, recall plans, avoiding or preparing for potential FDA enforcement actions, handling commercial claims and litigation arising from food contamination, addressing recall labeling issues, and advising on food labeling and recordkeeping requirements. Particularly important in this scenario, Faegre & Benson will assist in navigating the complex jurisdictional and regulatory issues that arise when both US Food and Drug Administration (FDA) (which regulates feed) and the United States Department of Agriculture’s (USDA) Food Safety and Inspection Service (FSIS) (which regulates meat) are involved in a food safety issue.

The first step would be to work with the client to fully understand the background and facts surrounding the potential contamination to estimate the breadth of the legal implications involved. From there, Faegre & Benson experience with the relevant statutory scheme and agency guidance statements, and its deep experience with handling these crises for clients, will help the client understand what issues it may face in dealing with regulators. This evaluation is critical in assisting the client to determine what steps come next.

The next step would be to review the immediate required actions; for example, whether there are reporting requirements to FDA, such as to the Reportable Food Registry. Faegre & Benson will also help the client assess the likelihood of a recall — to know if recall is necessary and, if so, to guide the client through each step of that recall procedure. This includes counseling on necessary steps during the process to minimize exposure to commercial and consumer claims, working with agencies to negotiate the least costly actions moving forward, and helping to obtain insurance coverage, if available.

Faegre & Benson also assists in appropriate communication of the legal issues with customers of the potentially adulterated product. This is critical in managing downstream risk. If other litigation arises, such as food-borne illness litigation, consumer lawsuits, or other commercial claims, Faegre & Benson is able to handle each step through the litigation process.

After the situation is under control and all regulatory and safety concerns have been handled to the greatest extent possible, Faegre & Benson is available to assist the client in further developing its recall and crisis response documents and in devising solutions to assure the problem never happens again. This may include reviewing a HACCP plan or creating a more comprehensive hazard analysis plan required under FSMA, perhaps with more detailed preventive controls and hazard-based analysis.

Faegre & Benson will be there for the client through each step of any food safety issue to advise on legal and regulatory issues, working closely when appropriate with team members from Leavitt Partners and B & D Consulting. The holistic approach maximizes the overall risk management to minimize costs and disruption to the company.

Leavitt Partners: Technical, Scientific and Regulatory Services

Contaminated animal feed fed to swine can have multiple veterinary and human health implications. It also represents the challenge of navigating a regulatory situation that bridges both the U.S. Food and Drug Administration and the Department of Agriculture’s Food Safety and Inspection Service. As such a situation evolves, there are two significant angles that have to be addressed. The first is managing the immediate crisis and the second is finding ways to ensure that appropriate preventive controls are put in place to minimize the likelihood of a recurrence.

Managing the acute crisis situation requires a combination of skill sets that include understanding the real risk to humans and animals, making the right company decisions based on those risks and regulatory requirements, interacting with regulators as the process unfolds, and communicating company actions to customers and the public in general.

Leavitt Partners has expertise and experience in assessing public health risk by quickly analyzing the science behind the adulterant and how it can impact human health, and then presenting that information to our client in a way that is easily understood in the context of regulatory impact and potential brand damage linked to human illness and deaths. This allows the client to make informed decisions regarding next steps. Should there already be human illness that has led back to the client’s product, Leavitt Partners has the capacity to rapidly review the epidemiology linking the human illness with the client’s product to determine the strength of the association. Our relationships with federal and state investigators can be leveraged as this unfolds. Leavitt Partners’ personnel have held senior positions at both the FDA and FSIS and thus know how the agencies operate and think, and in this capacity can interact directly with the regulators along with the company to address the ongoing crisis as well as potential regulatory and enforcement actions.

Should the need arise to issue press or media communication concerning the crisis, Leavitt Partners has substantial experience in developing accurate, appropriate public health messages and can help the company communicate with the media, either via written press statements, on-camera interviews, or by other means.

History shows that once a firm is hit with a crisis, its future takes one of two paths: it suffers irreparable damage and often goes out of business, or it uses the situation to demonstrate to customers and the public that it has learned from the experience and, through communication and action, positions itself as an industry leader. Once the crisis is behind the client, it is easy to try to forget potential lessons; however, our experience has taught us that these are the perfect opportunities to examine risks that may have contributed to the likelihood of the crisis occurring in the first place. This should be addressed even during the crisis situation in which new preventive strategies are identified and communicated to customers to ensure them that the client is addressing any future risks. Leavitt Partners would work with the client in this situation to examine upstream supply chain risk and how to control it. This may require a change in approach to required specifications, certificates of analysis or supplier audits. It may involve changes in product tracking and lot control, or it may focus on internal processing using both HACCP principles and targeted prerequisite programs. It may require a reassessment of product testing as regards sampling plans, use of accredited laboratories or testing strategies. Whatever the underlying cause, situations such as these can and should be leveraged with a client to focus on the key question of “what do I need to do differently to prevent this from happening again.” Leavitt Partners has the skills to guide the client through this process.

B&D Consulting: Handling Federal Affairs, Coalition-Building

The crisis will trigger (in a well-run federal agency and department) establishment of a government crisis-response team whose actions will directly impact the company. Agency subject matter experts and political leaders may literally gather in a war room-like setting and by teleconference to gather situation-status information, identify problems and solutions, and impose their view of the best federal response.

The crisis is also likely to trigger highly political activity, as various members of Congress take advantage of the situation, either by defending a local company that they represent or by using the situation to demagogue, seek media attention, call for hearings and push policy reforms.

It is essential that the company have a government affairs and public communication strategy that incorporates extensive knowledge of food safety law, policy, and regulations to maximize communication and confidence in the company's own response, minimize demonization of the company, use government support constructively, and protect company revenue in the long run.

Working closely with our partners in this collaboration, B&D Consulting would immediately take some of the following steps:

  • Work with USDA, HHS, and FDA political leadership (and the White House if this were a serious national-level crisis) to keep them apprised of developments and ensure an open line of communication, making sure the company could avoid surprises associated with politically motivated retaliation. A well-run agency will take advantage of the additional information from the company as a good way to have cooler heads prevail if the media are stirring up wild scenarios.
  • Work with congressional representatives/senators of the company to ensure they have full information and are positioned to support the company’s in its response.
  • Work with congressional committees that have jurisdiction over Agriculture and FDA issues to keep them similarly apprised of developments and to defuse the immediate rush to new legislative solutions. The committees also will consider setting up "oversight and investigation" inquiries that will involve subpoenas of documents or company management for congressional briefings or public hearings. Early engagement with the committees to defuse overreactions will be essential. If hearings are in fact held, the company will need additional assistance in drafting written testimony and preparing a witness to answer questions on the record.
  • Work with the government affairs and communications teams of the company to ensure that public communications/messaging to all audiences (including the media, public generally, social media) is consistent with the government messaging.

It is essential that the company establish a federal affairs crisis response that is rooted in a deep knowledge of the food safety-related issues at hand, that understands the agency's own crisis team and the other federal actors’ response in such a situation, and that delivers timely information, credibility, and results.

Sep 26, 2011

The Incredible Shrinking Margin

“I’m taking my soybeans down the road this year – their bid is a nickel higher than yours most days anymore, and their moisture discounts are better too.”

Sound familiar? Managers always dread when farmers say they’re going elsewhere — whatever the reason. Sometimes a customer does leave because of price; that farmer is commonly known as a ‘transaction customer.’ This customer typically has little loyalty and always has an eye for the better deal, and may come and go with the crop years. A ‘relationship customer’, on the other hand, may consider such ‘cruising’ a waste of time and looks more at the big picture. He recognizes service and remembers when you stayed open late for his last load at harvest. Chasing transaction-customers with higher bids or easier discounts may provide a small boost in volume but at the expense of overall revenue. Bidding up cuts your margin on all the other bushels you’d have bought anyway! It’s time for a reality check

Your handling costs rise with commodity prices: A ½% handling loss on soybeans costs 6-7¢ per bushel. A 1% moisture discount on $6 corn costs 12¢ per bushel at many processors. Soybean crushers discount moisture at 1.5% to 1.75% of contract price each ½%, figured to the 1/10%. That’s as much as a 23¢/bushel hit on 13.1% moisture soybeans at current prices!

Procedures or mistakes in grading inbound receipts can chew up revenue in a hurry. Some elevators may not discount a load of soybeans that test just over 13% moisture if that farmer’s other loads for the day were below 13%, for example. But a destination test on your outbound load might contain a spot of those 13+% soybeans that ding you for a hefty discount. Moisture discounts on corn are also costly this year — 15.6% corn could cost you 2% of contract price — that’s 14¢ on $7 corn!

This is the year to analyze your actual handling costs and reconsider how you set your bids and to be sure your staff is properly trained on grading procedures. That 10¢ per bushel ‘back to back’ margin that worked in the past on soybeans seems woefully short in 2011. And 5¢ per bushel on corn or 8¢ on wheat won’t go far. Basis appreciation and skillful ‘mix and blend’ can help on the revenue side, but even those don’t guarantee a profitable year. Be realistic about your costs and set aside those fears of losing customers if you lower your bids a little. Now’s a good time to widen those margins; farmers are seeing record or near record prices, and their 2011 income is already high.

USDA monthly farm prices set record highs late in the 2010 crop, and August 2011 prices were 19-32% higher than the previous records set for harvest-time on corn and soybeans, and almost tied the highs on wheat. (Note: Monthly soybean prices topped $13 in the summer of 2008, but elevators typically were handling small quantities at that point)

Market volatility is another reason to widen margins and give yourself a bigger cushion. Futures price swings are big and fast these days. It’s easy to buy a few loads and lose 5-10¢ in soybeans in the brief time before you can get them hedged. (The theory that you’ll average out with some winners and some losers never seems to hold up in practice.) Even a small mistake on your Daily Position Report can be costly if not caught quickly when corn’s over $6. Markets can, and will, sell off of course, and it’s possible short-term price tops have been made. But een a 10% correction these days makes for a hefty swing. It’s prudent to assume high prices are here to stay — regardless of whether they go any higher — and to plan around high costs and volatility.

The US and global balance sheets are tight in the major ag commodities with foreign coarse grain usage rising despite high prices and stocks declining. This chart of total foreign coarse grain consumption excludes imports/exports — this is net consumption. Within the total usage of coarse grains, foreign feed consumption has been rising steadily despite high prices and plentiful wheat supplies. Foreign feed usage will post a record high 534M tonnes this year, 63% of total foreign disappearance of coarse grains. The global soybean S&D is tight, but slightly more comfortable than for corn or coarse grains. Soybean futures, however, are relatively low compared to corn, at a price ratio of under 2:1.

The heat-ravaged US corn crop is forcing US corn disappearance to decline by around 500M bushels, through both reduced exports and feed use, and our ending stocks/use ratio will still be the lowest since 1996. The pressure will be on to ensure acreage here and abroad in 2012 crop and to keep the brakes on demand growth. Low prices won’t do that.

Some will argue a global slide back into recession will reduce demand, but history doesn’t support that. This chart of foreign coarse grain consumption shows that despite the severe 2008 economic downturn, demand continued to rise. Consumers may change their menus, but they still eat, and animals are no different. The demand growth in China accounts for a large percentage of total foreign demand growth, which points to steadily rising imports of corn in the years ahead, as well as soybean imports, with the United States one of the few exporters of size. The only question may be the pace of China’s rising imports and their notoriously clever, but crafty, buying patterns may well add to futures market volatility.

Another factor to consider is the role of “Big Money” (speculative or investment capital) in US commodity futures. Index funds were targeted in recent years as a major factor in rising prices and volatility, but perhaps surprisingly, data doesn’t support that. Index fund longs in corn and wheat have been relatively flat for nearly two years, with soybean longs peaking in early 2011. Some of the swings in Big Money net positions have come from the Managed Funds sector, where their positions can be net long or short. Managed funds can shift quickly, for fundamental, technical, or any other reason, fueled at times by volume from computer trading models. The changes in “Managed Funds” net positions since early 2010 have been dramatic and swift — especially in corn — which has been reflected in volatile, dynamic price swings. (One interesting aspect has been the shift from net-long to net-short in fund holdings in Chicago wheat, exchanging Chicago for modest longs in KC wheat.)

The combined impact of active speculative money in ag futures, along with tight S&Ds and rising global demand for coarse grains, wheat and soybeans, may be volatility and high prices that will be our companions more often than not for the next few years. Take steps to ensure that your business doesn’t fall prey to high costs and “The Incredible Shrinking Margin” syndrome.


Sep 8, 2011

A Common Message for Agriculture

These days it seems there is a negative campaign going on, one that says agriculture is bad: bad for the environment, animals and people. It’s a matter of attitudes, and from these attitudinal roadblocks come unreasonable regulatory ones.

This is why we need to create a common message for agriculture. Unfortunately, we’re in danger of getting in our own way. Ag groups are duking it out over tight resources and market pressures. And while we’re fighting each other, who’s communicating with the public?

It’s time for ag interests to put their differences aside and work out a clear, comprehensive message of what today’s agriculture really is. Here’s three steps:

1. Find the message. What we need first is a clear, positive message about agriculture that counteracts the negatives and myths that are out there. As our older generation of farmers passes away, the public’s connection to animal production and farming is disappearing quickly. People who aren’t connected to agriculture need to see the face of farming. But it needs to be one or a few clear, unifying messages that all (or most) ag groups can get behind.

For example, one of the top concerns today about agriculture is food safety. With the disconnect from the farm, today’s shopping public has almost no control over where their food comes from, and they need to be reassured that their food is safe. Showing the public how farmers are stewards of the land and of their food can go a long way toward creating a positive message.

2. Get the word out. There are numerous ways to do this. Farmers Feed Us and the California Dairies campaigns are good examples. And social media is a powerful new tool. One statement on Facebook or a tweet on Twitter can be forwarded along until it reaches thousands, even millions. Once you have your message, figure out its best use in the social media sphere. It’s not just for kids.

3. Be involved. It’s easy to stay busy and not take time to get involved in promoting the positives of agriculture. But as the saying goes, the world is run by those who show up. If no one from agriculture steps up to speak up, guess whose voice will be heard? Policy makers, including members of Congress and state legislators, thrive on information, and they would rather hear from you than from lobbyists.

Remember, the best antidote for misinformation is real information.

Sep 7, 2011

Managing Talent for Success: Today and Tomorrow

Leading a successful feed and grain business today is no small task. With commodity prices at or near historic highs, a world economy perched on the edge of another recession, and a political process so divided and contentious that few real solutions have been forthcoming, ‘planning for the future’ can sound a bit like a pipe dream. Despite these challenges, most would argue that these are heady times for agriculture, especially the crop related industries. Livestock looks a bit different, but even the livestock industry can get excited about the prospects for global demand of animal protein. Long term issues such as feeding and enhancing the diets of nine billion people, addressing energy security issues, providing substitutes for petroleum-based industrial products, and doing all this on existing acreage and with even more modest environmental impacts and resource utilization suggests a bright future for the agricultural industries.

But, no matter how positive the long term story, firms must survive (and thrive) in the short run. Balancing this need to adapt for the long term, with the need to execute in the short run is not an easy thing to do. A McKinsey Quarterly article by Eric Beinhocker quotes work done at the University of Memphis and the University of Texas-Austin that looked at 6772 companies over 23 years (E. Beinhocker, “The Adaptable Corporation”, McKinsey Quarterly, 2006). Only 5% were able to deliver ‘superior performance’ for 10 years or more. Most firms studied enjoyed short bursts of strong performance, but lost their way once the business environment shifted.

Why is it so hard to balance the need to execute today with the need to innovate for tomorrow? Part of the story is that it takes different skills and capabilities to do these two things well. Think about a successful innovator and you think of flexibility, research, creativity, experiments, failures, risks, and so on. Think about a firm know for execution and you think of process, focus, efficiency, standardization, limited choice, scale, etc. Just a quick review of these skills and capabilities starts to explain the challenge.

But, Beinhocker takes a deeper look. He would also suggest that another reason innovation for the future is hard is what he calls “the double-edged nature of experience.” As we grow as managers we accumulate more and more experience with different situations. We then draw on these collected experiences for guidance in new situations. This works well as long as the new situation is somewhat similar to the current situation. But, put us in a ‘brave new world’ where everything/most things are different, and our experience can become a burden and limit our creativity as we struggle to apply our experience base to a situation where it does not fit. An example might be determining how to use social media to connect with our customers (see recent Manager’s Notebook column — “How to Work with the Facebook Generation,” June/July, 2011). The set of technologies, the generational issues with utilization, and the interface with more traditional marketing, among others, make navigating here difficult for the veteran marketer.

Another issue here is something that management scholars call “path dependence.” The idea is pretty simple: who we are affects who we can be. If we operate a string of country elevators scattered over the western part of our state, those physical assets say a lot about our future strategy. It is certainly true that given enough time and money, anything can be changed. However, for most organizations, this idea of path dependence does put some bounds around what we can and cannot do as we adapt to an evolving marketplace.

While obviously challenging to do well, this idea of doing things right today while laying the foundation for tomorrow is a fundamental goal of feed and grain firms that want to be successful today and tomorrow. And, balancing these somewhat competing ideas does come down to human talent. What can you do as a leader in your organization to insure your team is not only successful today, but laying the foundation for a successful future? Let’s take a look at some ways you can help your team be great today and tomorrow.

Talent makes a difference

Every leader of a successful feed and grain firm understands the importance of great talent. A McKinsey study (E. Axelrod, H Handfield-Jones, T. Welsh, “The War for Talent, Part Two”, McKinsey Quarterly, 2001) took a look at just what great people mean to an organization in financial terms. The difference in impact generated by the top 20% of a firm’s employees and average employees is staggering. The top 20% of employees in operational roles boost productivity 40% over average employees. For general managers, the top 20% increase profitability 49% over their average counterparts while the top 20% of those working in sales generate 67% more revenue than average employees. Previous “Manager’s Notebook” columns have addressed issues around recruiting and retention of employees, so we won’t focus on those issues here. Rather, we want to focus on some new (preliminary) survey results on the desired skills and capabilities in leadership team members for agribusiness firms and what these results mean for helping your team manage for today and tomorrow.

The survey

Some 59 CEO’s of cooperatives responded to a survey focused on key success factors for the future, and on leadership competencies needed by their employees to be successful in the future. The CEO’s came from Corn Belt and High Plains states primarily, with some form the Mid-South and South. The study was conducted by the Center for Food and Agricultural Business at Purdue University in partnership with Land O’Lakes Cooperative. (For more information on the survey, contact Allan Gray, [email protected], 765-434-4323) at the Center for Food and Agricultural Business.

While the survey explored several issues, our focus is on ‘leadership competencies needed by senior management to effectively lead the organization in the future’. Based on a review of previous work in this area, PDI Ninth House developed a set of four general leadership competencies:

  • Thought Leadership: using insightful judgment, applying financial acumen, innovative thinking, displaying a global perspective, and thinking strategically.
  • Results Leadership: focus on customers, lead courageously, driving for results, ensuring execution
  • People Leadership: building relationships, promoting collaboration, influencing others, building talent, engaging and inspiring
  • Personal Leadership: inspiring trust, adapting and learning

The cooperative CEOs were asked to rank these four capabilities from least important to most important according to how important each is for a senior management team member to be an effective leader in the future. (Before reading on, you might take your own pulse on this question: how would you rank these four items in terms of importance for your leadership team?)

Skills and capabilities for the future

The 59 CEOs ranked people leadership the most important, followed closely by results leadership. Personal leadership and thought leadership were ranked almost identically, and were substantially less important than people leadership and results leadership to this group of CEOs.

We would suggest this is an important exercise: what you believe to be important in senior leaders in your organization will say a lot about who you promote into these roles, how you coach and train, your definition of success, etc. What do these preliminary survey results suggest to us?

It is hard to argue with people leadership taking the top spot in this ranking. The leadership competencies included under the umbrella of people leadership are important in the short term and long, in large and small organizations. Capabilities such as building relationships, promoting collaboration, and building talent really embrace much of what it means to be a manager, to be a leader in a feed and grain organization.

The fact that results leadership follows relatively closely and that thought leadership is last deserves a closer look. At some level, these CEOs are managing for today and are focused on senior leaders that can execute. Given the uncertainty and volatility in today’s environment, a focus on executing and operations sure seems appropriate. But, the fact that thought leadership and the capabilities it includes such as thinking strategically and innovative thinking is ranked last suggests that these firms are vulnerable to the shifts of a rapidly evolving market. If the focus of the leadership team is on making sure that the mill is operating at peak efficiency, that timeliness of grain unloading is enhanced, that delivery costs are as low as possible, that.... who is asking the bigger questions around structural changes in the marketplace and the resulting implications for the business?

Finding a balance here is not easy as we have indicated. But, in the end, the senior leadership team is responsible for making sure the longer term questions are getting asked, that the firm is taking steps to adapt to an evolving future, that strategic options are being considered.

Some thoughts

Please note that we are not arguing that the here and now is unimportant — far from that! As indicated earlier, any successful feed and grain firm has to be successful in the short run to even get a shot at the longer run. We are saying that your organization’s leadership team needs to ultimately be good at both managing for today, and adapting for tomorrow. What can you do to cultivate such a perspective in your organization?

  • Can we do it better? Creating a leadership team that regularly asks the question “can we do it better” can go a long way toward creating the climate of innovation and adaptation you are looking for. This does not mean every hare-brained idea blurted out in a brainstorming session will be explored. But, it means that your senior team is constantly on the lookout for new and better ideas.
  • Take a look around. Make sure you push the team out of their offices and into your customer’s business, to industry seminars and conferences, to local Chamber of Commerce events, etc. Our agricultural business environment is moving fast, but so are most other sectors of the economy. Taking a look outside the organization into the world of your customer, into other parts of the industry, and into other industries may seed creative thinking on the question “can we do it better.”
  • Make time for the future. Make sure you create opportunities to discuss the longer term at your firm’s regular meetings, at planning sessions, retreats, etc. We don’t worry about the short run, you will spend plenty of time in meetings on how do we get through the next few weeks, or months. But, dedicating time to what changes do we need to make today to be successful in five years is a different question all together. If you don’t make time to discuss it, we are pretty confident it won’t come up.
  • Invest in professional development. Sending key managers to professional development programs intended to extend their time horizon, build planning skills, and hone strategic decision making can be a great investment. This is especially true when you ask them to report on their experiences at a senior staff meeting. Such a report can be a great way to kick off some of the discussions outlined above.
  • Coach for the future. You in your role as President/CEO/general manager can support a longer run perspective by reinforcing these ideas whenever an opportunity arises. Some managers will have more skill here than others. And, frankly, those who will move to the top of your organization ultimately will need both sets of skills. So, how your folks respond to your coaching, and which managers can begin to balance the short and long run, will say much about who has the ability to take your place some day.

Upshot of employment

Getting through the next harvest, the next downturn or upturn in prices, the next competitor initiative can absorb every bit of managerial brain power an organization has. But, the most successful feed and grain organizations find a way to invest some of that managerial talent in longer-term questions. Take a few minutes and assess the kinds of conversations you have in your organization. Are they focused only on tomorrow, next week, next month, or do you find time to talk about next year or the next three years? Are your people not only working hard to execute your processes and procedures flawlessly, do they regularly bring you suggestions on how those processes can be improved? Dynamic and successful feed and grain organizations will keep certainly be successful at getting it done right day in and day out. But, they will also keep their managerial talent focused on adapting to whatever tomorrow brings. As John Wooden, UCLA’s legendary basketball coach, and a Purdue University alumnus, said, “things turn out best for the people who make the best of the way things turn out.”

Sep 2, 2011

Biotechnology: The Debate, and the Litigation, Continues

The United States Department of Agriculture defines agricultural biotechnology as “a range of tools, including traditional breeding techniques, that alter living organisms, or parts of organisms, to make or modify products; improve plants or animals; or develop microorganisms for specific agricultural uses. Modern biotechnology today includes the tools of genetic engineering.” The breath and variety of the plants, animals and other products currently available on the market that fit this definition is truly impressive, especially considering the relatively short time since biotech products were introduced, and their relatively high cost of development.

Since biotech seeds first appeared on the market approximately 15 years ago, debate has raged on topics ranging from environmental impact to labeling and proper use and just about everything in between. What’s interesting though, is despite the length of time that biotechnology has been used in the U.S. and around the world, the large percentage of acreage utilizing the technology and the dramatic impact on the U.S. crop production industry, scrutiny of the use of biotechnology in food production has remained steady. Increasingly, those who challenge the introduction of biotechnology have turned to litigation to challenge the regulatory approval and use of biotech products. Cases challenging regulatory approval of biotech alfalfa and sugar beets have made headlines over the past year. So 15 years later, where are we really when it comes to use and the regulatory process for the approval of biotech plant products? We’ll take a quick look at some of the current issues facing the industry, including the animal feed industry and international markets, and review some of the most recent litigation.

Use of Biotech Crops

Biotechnology has already had a significant impact on several major U.S. crops including, corn, soybean, cotton, canola, sugar beet, alfalfa, papaya, and squash. According to the National Agricultural Statistics Service, between 85% and 95% of the corn, cotton, soybeans, and sugar beets grown in the United States are genetically engineered (GE).

While the first GE crops were developed with goals of reducing use of chemicals such as insecticides or herbicides and for specific related traits, companies are now looking towards developing GE crops resistant to environmental conditions. This could expand the land available for agricultural growing purposes, as well as potentially reduce yield losses that occur each year due to drought or other inclement weather. Other crops are also being developed with the goal of enabling animals to more effectively use the nutrients found in animal feed.

Considering the amount of corn, soybeans, alfalfa and other crops that are used in the feed industry, biotech has had a major impact on the U.S. feed industry. There continue to be a number of challenges though, that face the industry as a whole, but particularly the feed industry.

Rules, Regulations and Legal Challenges

Exports

International acceptance of GE crops continues to be one of the major challenges facing the industry. As noted above, the majority of biotech crops are grown in the U.S. Europe maintains a strict, and slow, approval process for biotech crops, and currently allows only a few varieties. They have a zero tolerance policy for the presence of unauthorized GM material in food, and a “technical zero” of 0.1 percent for the presence of unauthorized material in imported feed. This presents challenges to those exporting feed products to Europe, as not only must feed and grain be segregated, in most cases, to keep GE and non-GE feed crops separate, but a distinction must also be made between approved and non-approved GE crops.

But other issues may lead to more questions for feed exporters, such as concern over cross-pollination and the potential for unapproved (or any) genetic material to be detected in what was designated as a GE-free crop. The essentially zero tolerance for the presence of unauthorized material severely limits the feed that can be exported. This is causing some in the EU to call for an increase in the speed of authorizing GM products for use in animal feed, as there is a real concern over a feed shortage in parts of the EU.

What does this mean for exporters? Here are a few items to keep in mind. First, grain segregation is key. Ensure you have systems and regulations in place to keep GE feed and grain segregated from non-GE feed and grain, if you source or store both. If you are receiving grain from growers, knowing what is coming in and when is key to ensure proper storage. Second, understand your supply chain. Know where your feed and feed ingredients are sourced from, and work with the suppliers to ensure that records are properly kept and where appropriate, that refuges were properly used if GE crops were grown nearby. Third, evaluate your testing protocol. If you are exporting grain and feed products to Europe, ensure that you have proper protocols in place to test for the presence of GE organisms in the feed and that you maintain the proper documentation to support those results.

For growers, recordkeeping is likely going to be of even more importance, as the feed and grain industry is seeing increased regulation, not just on the GE plant issue. Ensure that you are maintaining the necessary records so that your buyers can verify the type of seed used, and also that proper planting guidelines were observed, if necessary. While grain traceability is difficult, and is currently not required, increased regulation is continuing to make traceability more of a necessity than an option likely down the road.

Deregulation Litigation

The past year has seen a rise in litigation related to genetically modified crops as advocacy groups continue to push for increased regulation and federal oversight of GE crops. Two major cases involved the use of Round-Up Ready Sugar Beets and Alfalfa.

Both lawsuits involved USDA’s decision to deregulate, or partially deregulate, the crop in question. Deregulation is essentially USDA’s determination that the crop is safe to plan and in many cases, growers may start using that GE plant with little to no restrictions. As part of the deregulation process, USDA first does an initial environmental assessment, accompanied by a plant pest risk assessment. If USDA determines the GE plant/trait in question has no significant impact, it can move it to deregulated status. However, if USDA determined there is a likelihood of significant environmental impact, it must complete a more thorough environmental study. In many cases, USDA has the option to partially-deregulate the plant/trait while it completes the second study.

The deregulation process is often hotly contested by environmental, pro-organic, and often even some consumer groups. This was most definitely the case when it came to alfalfa and sugar beets.

Alfalfa, an important feed crop, became the first GE crop considered in a case before the U.S. Supreme Court. This case, Monsanto v. Geertson, involved a challenge to USDA’s decision to partially deregulate GE alfalfa. In June 2010, the Court held that courts could not prevent USDA from partially deregulating GE crops while it completed the final studies. This set important precedent, as it clearly established that USDA has the role of determining what restrictions should apply to GE plants at every state of the regulatory process. In early 2011, USDA fully deregulated GE alfalfa. With this decision, farmers are free to plant and move GE alfalfa without further oversight by USDA, now bound only by restrictions set by the seed company. USDA’s decision has now spawned further litigation, which remains unresolved.

A similar issue was the focus of a case involving GE sugar beets, Center for Food Safety v. Vilsack. This case out of California closely followed the Supreme Court’s alfalfa decision, as the court considered USDA’s decision to deregulate GE sugar beets. The court held that USDA had abused its discretion by not conducting the secondary environmental study, vacated the decision to fully deregulate the plant, and referred the case back to USDA for further consideration and review. Shortly thereafter, in early 2011, USDA partially deregulated GE sugar beets, allowing farmers to continue to grow and distribute the crop under certain restrictions. USDA’s decision again led to more litigation, this time from both environmental groups opposing the plant, who contend the restrictions are insufficient, and GE supporters, who contend the restrictions are too burdensome. This round of litigation is still on-going, and is likely a sign of things to come as USDA moves forward considering the deregulation of additional GE crops.

100% Natural?

Recent lawsuits have also been filed challenging the labeling claim of “100% Natural” when the product in question contains oils derived from genetically modified plant materials. Class action lawsuits were filed in July 2011 in New York, California and New Jersey alleging various causes of action including fraud and misrepresentation, claiming that products were falsely labeled 100% natural when the oils contained within were derived from GE plants.

While these cases involve human food products, not animal feed, the potential for trickle-down impact on the feed and grain industry is clear. These type of claims, if successful, could expand to other types of food products, including meat. While this may have little practical effect on demand for GE feed and grain in the long-run, a bigger impact may be felt in increased demand for record-keeping, testing and segregation practices on feed and grain products as a whole, as companies attempt to insulate themselves from these types of lawsuits. Either way, this remains an issue to watch as we are seeing increased focus on a number of types of labeling and consumer fraud lawsuits in the food industry.

What is on the Horizon?

USDA has adopted a stance of “co-existence” when it comes to GE crops, meaning that it believes that it is possible for GE, non-GE and organic crops to coexist in today’s agricultural landscape. As we can see from just the few examples of ongoing litigation discussed above, not everyone agrees. It is likely that we will continue to see increased litigation related to USDA’s deregulation decisions of GE crops, as well as newer legal arguments, such as that seen in the debate over what can be called “natural”. While there are calls for the EU to speed up the process for approval of GE plants, particularly in the seed industry, that appears unlikely to happen in the near future.

With the demand for food, fuels and medicines constantly increasing and biotech companies developing new plants resistant to environmental conditions, proponents of both conventional and GE seed are likely to have plenty of opportunities to challenge APHIS’s restrictions. As we’re seeing with the GE-related natural lawsuits, even after deregulation, the path is not necessarily free and clear for GE-plant products and those who produce and use them.

Jul 22, 2011

Time to Reprioritize 2012 Farm Bill Cuts

In the midst of unresolved talks over raising the nation’s debt ceiling (at least at the time of this publication’s deadline), there’s no denying that U.S. government spending cuts are necessary. No one sector should count itself untouchable — not NASA, not Medicare, not military, not even agriculture.

The 2012 Farm Bill will no doubt see its fair share of reduction in government program funding. Crop subsidies are an easy target that most people can live with — even farmers. Farmer group leaders have noted that the direct payments programs first authorized in the 1996 Farm Bill were temporary measures that have outlived their necessity.

Jon Scholl, president of American Farmland Trust (AFT) said earlier this Spring, “… our country must address the national debt level — with no options left off the table. The direct payments program — in which farmers receive payments without regard to need — has long been a staple in farm policy and appears likely to change. Numerous producers across the country have told AFT that they would welcome change in farm programs, and I believe the 2012 Farm Bill represents an opportunity to create a better safety net.”

With recent reports from the University of Illinois indicating net returns for 2012 at $269/acre for corn and $136/acre for soybeans, one can easily argue the farmers no longer need such a “safety net.”

But one Farm Bill cutback that few in the agriculture industry are content to make is in research. According to the American Enterprise Institute (AEI), agricultural research and development boasts incredibly high rates of return — in excess of 30%. Unfortunately, R&D investments have withered away steadily since the late 1980s and have resulted in plummeting productivity growth rates.

An AEI report concluded that annual spending on ag R&D for productivity growth must increase by $1 billion to prevent further losses in farm productivity and increase competiveness — a goal that is highly unlikely to materialize given the current economical climate. Agriculture research is considered discretionary spending — the kind most likely to be targeted by the Farm Bill next year.

The House Appropriations Committee’s agriculture subcommittee already approved its version of the FY2012 funding bill and cut the research budget by 13.7% from last year. If those cuts become law, federally-funded ag research would drop by 20% from the 2010 fiscal year — more than $600 million.

The full benefits of ag research take time to materialize — in the form of minimizing crop threats and curing animal diseases — so now is hardly the time to be tight-fisted with the purse strings, given the already high price of food, with no decline in the foreseeable future.

If reducing the financial burden for future generations is the main driver for these cuts, then one can assume their overall well-being is being considered. Sacrifices must be made, but let’s not sacrifice our potential ability to provide a safe and steady food supply for our children and grandchildren.

Jul 12, 2011

The Magic of Trading Limit Markets

Limit markets in futures can be frustrating; it’s like running into a brick wall. A ‘limit-down’ day can make it seemingly impossible to sell futures, and merchandisers are often unsure what to bid farmers. “Limit down” means the market has reached its lowest possible price for that session, although there may be active trade at that price. “Locked limit down” means prices have hit the lowest possible value for the day, and there are unfilled sell orders at that price. Trading stalls. This has led to calls for higher limits, or even no daily price limit. But there are ways to continue to buy or sell futures, if you know the in’s and out’s and how to make magic.

Daily price limits in agricultural futures are an effective ‘circuit breaker’, providing time for additional order flow to bring some balance to price discovery, and providing some protection against the specter of an uncontrolled free-fall or rally, similar to the now-infamous “Flash Crash” that occurred in the equities sector on May 6, 2010. On that day a mutual fund entered an order to sell 75,000 E-Mini futures contracts to hedge an equity position. The fund used an automated execution algorithm that did as it was instructed, but triggered an unintended broad-based collapse of 15% or more of the value, which just as quickly reversed, and causing some individual stocks to trade as much as 60% lower than just moments before, according to the Commodity Futures Trading Commission and SEC joint report. The break hit and was over before traders could even determine in what market it began, let alone what caused it, but left a trail of confusion, poorly executed orders, and little to no true price discovery. (note: CME E-Mini futures are an index product equivalent to the S&P Index value times $50)

The dramatic collapse in corn futures on June 30 was a similar situation after the bearish USDA Stocks and Acreage reports were released that morning. July 2010 corn futures, which had no daily price limit, plummeted 75+ cents - almost a 10% break. That day’s action showed both strengths and weaknesses in the structure of CBOT ag contracts. June 30 happened to be month-end and quarter-end, when speculative and investment funds post their results. The ‘real’ price of most months of corn futures would have been lower than the 30¢ ‘limit down’ posted settlement, but statements are based on settlement prices. Fund results for June were out of sync as a result, and the pressure is sure to increase in the investment sector for higher daily price limits. The cash grain sector may have had its own challenges determining the right values to use for month-end P&Ls, but grain firms are largely on the side of maintaining price limits.

Market purists were enraged on June 30 because corn could not be sold in deferred futures, but could be priced synthetically via options or using the spot July futures contract. A mini-refresher on CBOT rules and procedures may clarify how to execute these trades. (The same procedures apply on KCBT and MGEX wheat contracts.)

  • Effective on the 2nd business day prior to the 1st business of the front-month futures, the daily price limit is removed for the spot contract month. As of June 29, July 2011 grain/soy futures no longer had a price limit.
  • Options have a daily price limit that matches the daily price limit on futures. Corn options have a 30¢ limit, for example; 70¢ for soybeans and 60¢ for wheat.
  • A newly listed option strike price has no prior settlement price. A new strike price will be subject to the same daily limit, but the ‘first tick’ can find its own level, with all trades after that subject to the daily price limit
  • Futures spreads have a daily price limit that is double the limit on the outright futures. The limit on corn futures is 30¢ up or down; the limit on spreads on corn futures is 60¢ up or down.
  • Futures spreads can continue to trade freely even when the individual futures months are both limit-up (or down).

When futures are limit-bid or limit-offered, with unfilled orders at the limit price, trade can continue synthetically – at a value beyond the limit price by using spreads or options to create a synthetic strategy.

--Using spreads and the “no limit” spot month to ‘bypass’ the limits on deferred futures. July corn futures were off 75¢ or more on June 30. But most people wanting to sell September futures at 30¢ lower were unable to fill their orders; there were far more offers than bids at limit down. But you could sell July ‘11 futures. The next step (immediately or later) was to enter a spread order and buy back the July position and simultaneously sell September futures to ‘move’ the futures sale to the September contract month. Interestingly, the July/Sept spread on June 30 was only minimally changed from the prior day, trading around 22¢ inverse at times before closing at 28¢ inverse.

Ex. Sept futures were down the 30¢ limit at $6.48 with thousands of unfilled sell orders
6/30 Order: Sell July futures at $6.25 (down 73¢)
6/30 Spread order: Buy July/sell Sept at 22¢ inverse
6/30 Outcome = a sale in Sept equivalent to $6.03 (45¢ below the ‘official’ limit down Sept futures price)
Recap: Sold July $6.25
Spread: Buy July @ $6.25 + Sell September @ $6.03 (at 22 inverse)
Net = a sale in September equivalent to $6.03
The prices shown here on each leg of the spread are to simplify the example. The prices could vary but if the spread was executed at 22¢ inverse, the net outcome would be the same: A sale in September equivalent to $6.03.


The key in this example is that spreads can continue to trade even when all futures are locked limit up or down, and they can trade independently of values indicated by simply subtracting one price from another. Example: On 6/30, $6.25 July minus $6.48 (limit down in Sept futures) made it appear the spread was a carry of 23¢ when in reality the spread was still trading at a 22¢ inverse. It’s important to first verify the current bid/offer on the spread.

In this example, an elevator could sell and hedge farm purchases in September futures indirectly, and bypass the ‘brick wall’ of the price limit. Conversely, an end user that wanted to buy corn for feed could have bought September futures at limit-down, $6.48, or taken the extra steps and ended up with a purchase at $6.03, for a gross savings of 45¢!

-- Using spreads to execute orders in a limit market when the front-month still has a daily trading limit. If a limit-bid or limit-down market develops while the front contract month still has a price limit, there may still be a way to execute orders. Not all futures months may go limit-sellers or limit-bid immediately, or at any time during the session. This allows a buyer or seller to execute the desired order in a deferred futures month where there’s less ‘action’, and then spread the trade back to the desired month. As with the prior strategy, be sure to check what the spread bid/offer is to know what price you will net:

Ex. Assume it’s late July. July futures have expired and September futures are still subject to daily price limits.
7/27 Sept futures $8.00 down 30¢ limit
Dec futures $7.95 down 30¢ limit
Mar.12 futures $8.09 down 30¢ limit
July12 futures $8.18 down 25¢
Dec11/July12 corn spread is quoted at 28¢ carry.
7/27 Order: Sell July 12 futures at $8.18
Spread order: Buy July12 futures/Sell Dec11 futures at 28¢ carry.
Net = a sale in December11 futures equivalent to $7.90 (5¢ below limit down)
Recap: Sell July 12 $8.18
Buy July 12 $8.35 + Sell Dec11 $8.07 (28¢ carry) Outright prices on July & Dec are for example.
Net: 17¢ loss on July 12 futures + Sale in Dec at $8.07 = $7.90 net hedge value for Dec.
Note: in all cases the required exchange & regulatory fees will apply along with brokerage commission costs.


-- On days when a limit move is expected, the CBOT will post a previously unlisted option strike price for each futures month, for immediate trading. This will be a deep in the money strike price, which will move essentially as a futures contract would. ($1 September corn call, for ex.) Buyers can buy the call at whatever price they’re willing to bid and then immediately exercise the option. Buying a $1 call for $5.03/bushel is the same as buying futures at $6.03, and could have occurred even if futures were limit-down at $6.48. Selling a $1 call for $5.03/bushel would yield a short futures equivalent of $6.03 for the option seller, after the call option is exercised by its owner. Because a new Strike Price has no prior settlement price, the premiums can move up or down the daily limit from the first trade price of the day. In all but extreme cases this will create a wide enough range to allow synthetic futures to be created at levels equivalent to beyond the limit price in futures. On June 30, however, the price move was so extreme that the CBOT listed a second new strike price midday to allow the synthetic futures to move even further.

The June 30 collapse showed strengths and weaknesses in the argument about price limits. Daily limits do allow time for buyers and sellers to reassess price goals and strategies, and provide time to prepare for additional margin calls. Prices will still find their ‘right’ value, and the world is surely not harmed if it takes even two or three days to do so instead of instantly. It’s worth noting that after the dramatic drop on June 30, July 11 futures closed 11 ¾¢ higher on July 1, and December 11 futures closed 23 ¾¢ lower. The net for December corn after two sessions was a drop of 53¾¢. Within a few hours of the close on June 30, prices had found equilibrium.

The “Flash Crash” illustrated that high-speed algorithmic trading programs have the ability to move one market and can trigger a cascade across numerous, even unrelated markets such as ag contracts. Daily price limits also protect customers against unquantifiable potential margin calls. The specter of an ‘unlimited’ single-day price move could force brokerage firms to restrict trading activities or impose lower position limits on some clients to reduce margin-call exposure.

Opponents of price limits point to the inefficiency in forcing traders to use options or spreads to execute orders outside the designated price limits. When corn was locked limit down on June 30, much of the volume spilled into the option pits and nearly swamped that boat, so to speak, while more volume headed for July futures.

Both sides of this debate have merit but I have long supported daily price limits for agricultural commodities and continue to do so. I do not even support the higher price limit on corn currently proposed by the CBOT. Customers that know how to utilize the two-step strategies to ‘bypass’ price limits can do so, but no one is obliged to do so. The market will find its value in time, and patience is a virtue. So is knowing how to hedge when others can’t!

Jul 11, 2011

Understand and Sharpen Your Decision-Making Skills

Decisions, decisions, decisions. They fill our activity every day. From what to wear and eat, to which words to use, to which project to tackle next, to how to spend money. As a manager in the feed and grain industry, your job is filled with problems and decisions too: Should the business expand into new products or into a different geographic area? Should you purchase new equipment or just repair the old stuff? Should you let that low-performing employee go or try to modify his/her performance? Problem-solving and decision-making is your primary role. These types of decisions are important to your business, and to your career. So, you want to be good at decision-making, and you probably already are.

Good business sense tells us that it is often productive to take a step back to examine and evaluate the way we do things. Does the process you use in decision-making matter? Are the approaches you are using effective and appropriate? Are there other methods and tools available that could help you sharpen your skills? Asking and answering these and other questions can provide credence to the methods you are using, or can suggest areas where opportunities for improvement may exist. We focus this month’s column on the psychology of how people make decisions, the elements of making good decisions, and potential tools and tips for helping managers make decisions.

Decision making is in your head

To understand how choices are made, research suggests you should recognize the impact economics, psychology and neuroscience have on how people make decisions. Academics are currently examining how people make decisions and the activities of the neural mechanisms in the brain as people make economic choices. Don’t worry, we are not planning to go into these details. We do find it interesting though, that some suggest that multiple higher-level and lower-level systems in the brain are involved in different types of decisions. The brain has some far-sighted or rational systems, some low-level systems involving emotions, and some systems concerned with rewards and consequences.

Cognitive psychology is generally the area of psychology that examines how people arrive at their decisions and choices. Research in this area suggests that past experiences, cognitive biases, age, socioeconomic status, other individual differences, and an escalation of commitment and “sunk” outcomes are some of the factors that affect your decision making. Since these might be factors that we are all more aware of (relative to the workings of the brain’s neural system), let’s look at some of these more closely.

Everyone is different, and clearly these differences — age, socioeconomic status, and intelligence — can influence your decision making. Older people may see their decision making performance decline as they age; however, they may be more confident in their decision making.

Our minds help us remember, and so past experiences often influence our decisions. People tend to repeat actions that brought about positive results and tend not to repeat actions that resulted negatively, but past performance may not always be indicative of future performance and so past experiences may not always lead to good future decisions. Certainly, past experiences may be relevant to consider in decisions, but we should remember that decisions should be evaluated and made based on several elements.

Cognitive biases are distortions in the mind that lead to a perceptual distortion, inaccurate judgment, or illogical interpretation. Some common examples of cognitive biases include:

  • Hindsight bias — an inclination to view past events as being predictable (I knew it all along)
  • Confirmation bias — the tendency to interpret information such that it confirms one’s own preconceptions
  • Bandwagon effect — a tendency to do or believe something because many other people do
  • Planning fallacy — a tendency to underestimate the time necessary to complete tasks
  • Social comparison bias — a tendency in hiring decisions to prefer candidates who do not compete with one’s own strengths
  • Stereotyping — expecting a member of some type of group to have certain characteristics without having any actual information about the individual.

These are only a few examples of the many cognitive decision making and behavioral biases that exist and which may negatively impact decision making.

The escalation of commitment and sunk outcomes (defined below) are other factors that can influence your decision making. The more committed a person feels toward a decision, the more likely they are to put more time and effort and even money into it. Sunk costs have already been incurred, cannot be recovered, and should be not considered in future decisions — only future or prospective costs should influence your decisions. However, in reality, many people allow those sunk costs to lead their decisions making.

Emotions and the fear of loss also impact decisions. Emotions can sometimes be very controlling and overwhelming. Quick decisions may be based more on emotion than reasoning. Ever send a snap email to someone that you later wished you had back? Do you think that was driven by in-depth analysis or emotions? People also do not like the thought of losing something that they have or the thought of losing the opportunity to get something that they want. People will often weight the fear of losing something more in a decision than the hope of gaining something else in that same decision. Now that you know what is going on in your head when you are making decisions, let’s examine some elements important in making good decisions.

Framework and tools

As a feed and grain industry manager, you are probably faced with three basic types of decisions: strategic decisions, typical decisions, and in-the-moment decisions. Carl Spetzler, director of the Strategic Decision and Risk Management program at Stanford University and CEO of the Strategic Decisions Group, defines strategic decisions as those which are very complex and challenging to think through, have large uncertainty, have shaping effects on the business and for which you have weeks or month to decide. Spetzler explains typical decisions as being those that frequently arise from team meetings. They may have a large impact but are usually tactical decisions that are made collaboratively. In-the-moment decisions are made impromptu, during the activity, and when generally needed; they are not planned ahead.

We can think of the way in which people make decisions generally, as two different methods, an intuitive method and a deductive method. As suggested by the name, the intuitive method consists of us making decisions based on our feelings and emotions — our feelings and emotions often lead us to make the decision that we “want” to make. The deductive method is a more logic-based and systematic process — using this method often leads us to make the decision that we “should” make. It is often easy for us to know what we “want” to do, the challenge may be in the battle between “want” and “should” so having a method to follow to identify those “should” decisions is valuable. We will now look at elements or steps in a deductive decision making process.

First, define the problem — and make sure you define the right problem. If you do not identify the correct problem to solve, you will not solve that problem. In defining the problem, also be clear about what the objective is that you want to accomplish.

Once you clearly define the problem and recognize the objective you want to accomplish with the decision, it is useful to create a list of alternative solutions to problem. The alternatives should solve the problem while also meeting your objective.

Next, gather the important and the right information about the alternatives. This involves determining what uncertainty exists with each alternative and involves determining what you do and do not know. It also involves laying out the consequences for each alternative. Each alternative decision will have benefits and costs. Making a good decision involves doing a good job of identifying these costs and benefits and understanding them so that you make an informed decision. Your decision will involve reasoning through these alternatives and their associated benefits and costs.

Several tools exist to help you evaluate the alternatives and lead you to your decision. A simple grid analysis can be used to lay out the alternatives and their benefits and consequences. A more complex grid can include weights for the factors that you identify in the table. Several other decision tools, such as decision trees; pareto analysis, an application of the “80/20” rule — used for a selection of a limited number of tasks that produce significant overall effect using the pareto principle that a large majority of problems (80%) are produced by a few key causes (20%); paired comparison analysis; and many others exist and can be utilized for various types of decisions.

Once you have made a decision, an important element to the success of that decision is the commitment to follow through and make the decision happen and accomplish the objective. If commitment is lacking, even a well-reasoned, good decision can have poor results. Many decisions likely impact a variety of people in your business. Improving decision making and building a strong commitment involves including the right people in the appropriate discussions during your decision making process.

Evaluating the results of your decision is also an important element of your decision making. You must do this in order to learn from and about your decision making. Sharpening your skills involves taking the time to assess them first. Some simple questions to ask in your evaluation process are: Was the outcome as expected? If not, then why not? If the outcome was as expected, then ask why you were able to predict that outcome — what did you do well during the decision making process?

Challenges in Decision-Making

Biases: It is extremely challenging for humans to be entirely objective in every decision. Human bias may arise from pure self-interest, self-attachments to business units or people, past experiences, and prejudgment in which you decide something early and stay with that judgment and decision regardless. Try to avoid these biases by first recognizing when they potentially exist. Include others in the decision or in your thought process to help offset your biases and to provide honest feedback on your thoughts.

Procrastination: We all do it at some point, we put off making some decisions. Some decisions do take time and a thorough analysis. But, delaying the process can create additional problems, make the decision more difficult, or cause good opportunities to be missed. Procrastination or delays in decision making often arise either due to fear of making a wrong decision, or due to always putting out other smaller fires, or due to dread of bringing to the forefront other major issues that will also need dealt with. If you think about it, you can recognize why you are procrastinating on a decision. Be honest with yourself, address the reason for delay, and then move forward with the primary issue.

Short-sightedness: Every day can bring a new list of immediate problems requiring near-immediate attention. These short-term activities can consume your time, not allowing you to focus attention on larger, long-term issues. Short-sightedness may also arise if you do not think far enough ahead in the decisions you are making and you do not consider any long-term consequences associated with these short-term problems. Making an effort to consider the potential consequences of a decision or including another person in the decision, especially someone who is good at longer-term thinking, can help you deal with these challenges.

Take home message

Making good decisions is important to you as a feed and grain manager. Some in-the-moment decisions might be dealt with using lower-level brain systems and involving emotions. Other more tactical or strategic decisions are better served through use of higher-level brain systems and more far-sighted, rational or deductive decision methods. How would you score yourself on your decision-making? We all can normally find at least a few opportunities for enhancement of our skills. In our experience, many sub-par decisions result because one or more of the elements in the deductive decision process were not given enough attention. Take some time and evaluate some of your past decisions, the process and elements you used, and the outcomes. Use the results of your analysis to help you sharpen your decision making.

If you want to explore more about decision making including some of the decision analysis tools that exist, then two good resources for additional information and for decision making tools are: Sources of Power: How People Make Decisions by Gary Klein and www.mindtools.com. While not an endorsement of their services, the mindtools website provides and explains over forty tools that can be used to help you make decisions. Good luck and be decisive!

May 24, 2011

The Floods of 2011

This season the Northern Plains faced major flooding of the Red River, disrupting grain flows and delaying planting. Then the rains hit the mid-South and the Eastern Corn Belt, swelling rivers and streams that soon pushed the Mississippi to levels not seen since the infamous flood of 1927. Numerous barge stations became forlorn, sandbagged islands as millions of cubic feet of water rushed past every second on the Lower Mississippi.

The 2011 floods will hit agriculture in several ways:

(1) The United States needed record corn acreage and yields to begin to rebuild depleted stocks. Now 1 to 3 million of those acres could be lost, whether through direct flooding or through farmers’ inability to plant rain-saturated acres from North Dakota to Arkansas. Losing 3 million corn acres could mean losing 400 million bushels of much-needed corn production this year, potentially cutting ending stocks for September 2012 dangerously low again.

(2) Barge traffic was slowed to a crawl on the Lower Mississippi to protect levees as well as to ensure the safety of the tows and their staffs, slowing receipts at the Gulf.

(3) The high waters will disrupt operations of countless barge stations; some will lose a couple of weeks of capacity; others may be out for months. This slows and disrupts the flow of vital inventories just as the U.S. is dangerously close to running corn inventories to near zero.

(4) Delayed corn planting has all but eliminated having early 2011 crop corn which was needed to meet processing, exporting and feed demand through September.

(5) Some of those barge stations in the mid-South and the lower river that took the brunt of the floods may be out of operation until after wheat season, sharply reducing the region’s ability to handle and move soft red wheat.

(6) Mid-South river elevators also were warehouses to some existing soft red wheat inventories, some of which may be water-damaged when businesses are finally able to assess the operations. The FDA has stringent restrictions on disposing of flood-damaged grain.

Export merchandisers say, however, that a lot of those river station bins are surprisingly “water-tight.” The ground is built up and then sandbagged, resulting in those “elevator islands” seen in flood photos this spring. Even if some water does get into and damage pits, conveyors and other equipment, the tanks themselves and any grain they hold may be intact once the waters recede.

In the best case, some stations will be unable to receive grain for a few weeks and barge movements may be slowed, with Gulf elevators and operations remaining largely unaffected. The result could be weaker basis for areas of the mid-South while the waters recede and firms clean up their operations.

The worst case could be millions of bushels of lost or flood damaged inventories, river stations that remain out for months, and a major disruption to logistics and supplies to the Gulf pipeline.Longer term, the loss of any acreage this year greatly increases the likelihood of this bull market and its volatility even stretching beyond 2012, again stressing the financial resources and the resilience of agribusinesses. ?

May 11, 2011

Affordable Options

“Options cost too much!” What elevator manager hasn’t heard this from a farmer about minimum price contracts? Premium cost may be the most commonly cited reason for not buying put or call options as a form of price ‘insurance’ in volatile markets. The irony is that options, with their inherent flexibility and limited risk for buyers, should give managers the confidence to buy puts or calls to set price floors or ceilings, especially in volatile markets.

The CME/CBOT tackled this dilemma head-on, launching Weekly Grain Option (“WGO”) Contracts in late May 2011. “Agricultural customers in particular are subject to short-term event risk, whether it’s a key upcoming USDA report or weekend weather during the growing season. The weekly corn, wheat and soybean options, combined with existing monthly and serial options, provide customers with much greater flexibility to manage risk associated with these events, while enabling them to benefit from the lower costs associated with short-dated options,” says Tim Andriesen, Managing Director, Agricultural Commodities and Alternative Investments, CME Group.

“Too expensive” is a relative phrase. Option premiums are composed of two costs: (1) intrinsic value, and (2) time value. Intrinsic value is the immediate exercise value of an option. Buying an $8 corn ‘call’ option when corn is worth $8.10, for example, has 10¢ of immediate exercise value. Buying an $8.50 corn call when corn is worth $8 has zero immediate value. But markets change quickly and both the $8 and the $8.50 corn call will have an additional cost known as the “time value.” T.V. is the compensation that option writers will demand for giving the option buyer price ‘insurance’ in uncertain markets. The time value cost is partly a function of the option’s days until expiration, meaning all else equal, short-dated Weekly Grain Options will be a more affordable alternative than longer standard and serial options on the same underlying instrument.

[Chart 1]

If Weekly $7.10 call options had been available on May 10, 2011, their expiration dates would have been as follows:

Week 2 May 13, 2011 (3 days until expiration)

Week 3 May 20, 2011 (10 days until expiration)

These “WGOs” would have had even lower premiums than the June serial or July standard options on July futures as shown above, which could have attracted more interest ahead of the USDA crop report on May 11, for example. End-users concerned about locking in remaining feed costs could have bought a Weekly May corn call, or farmers concerned about a potentially bearish report could have bought a Weekly May corn put option to protect against lower prices.

Weekly Grain Options aren’t really a new product. The contract specifications are the same as on other agricultural options; all that’s different are the expiration dates and that all Strike Price increments are 5¢.

[chart 2]

A Week Isn’t Always Seven Days….

The listing and expiration dates are where it gets confusing. The phrase “Weekly Grain Option”, or “WGO,” refers to the fact that there will now be an option expiring each Friday that doesn’t currently have an option expiration. But it does not mean there will always be an option with a maximum seven days until expiration. Newly listed WGOs will typically have approximately three weeks to their expiration. The array of dates is extensive but your broker will be able to supply you with complete listings and expirations, and the CME Group will also have the information on their website (www.cmegroup.com ). Here is the CME’s listing for the August and September 2011 corn and wheat options for illustration:

[chart 3]

Standard, serial, and now weekly grain options can all be used to manage risk outright, or in conjunction with futures or other option positions. A farmer who sells corn to you on a priced contract can have you buy a corn call option that will rise in value with futures. The cost of the call option is fixed, and therefore adding the call to the cash contract turns a fixed price contract into a minimum (“floor”) price contract. A feed customer might buy priced feed from a dealer and ask to have the dealer buy a put option to attach to the contract, which would convert the fixed price feed purchase into a maximum (“ceiling”) price contract. (The farmer and the feed customer would each be responsible for the cost of the respective call or put option in these examples.)

Or an end user of feed could go directly into the options market and buy corn call options to set a cap-price on corn. This gives the feeder the right to buy corn at the designated price. Later the end user could purchase the actual feed from one or more suppliers. If prices are higher any option gain goes to reduce the final feed cost. Or an end user could buy corn futures directly in the firm’s brokerage account to set the price of corn for their rations, and assuming prices rise substantially, might remain long but also buy put options (the right to sell futures) to protect against an unexpected sell-off

Options provide ways to manage risk that are not possible with outright purchases and sales of futures or cash positions. Now the lower-cost WGOs will bring that flexibility to more firms and individuals who have typically considered options ‘just too expensive.’

Launch date for CME “Weekly Grain Options” was May 23, 2011.

May 6, 2011

Working with the Facebook Generation

Facebook, cell phones, smart phones, YouTube, Twitter — aren’t we already way too connected? Old timers might say, “Yes, this is all too much!” Younger producers may say, “I pick and choose how I connect and communicate and the more options the better.” The reality probably falls somewhere in-between. However, there are multitudes of ways to communicate with your feed and grain customers in today’s world — and some of these mediums and techniques can and should be looked at — and used! This month we will delve a bit into some of the whys and wherefores of social media, what younger producers are looking for regarding communication and then look at techniques some firms in the grain and feed industry are utilizing.

What Do Younger Producers Say?

Farm Journal Media recently surveyed younger producers (age 39 and under) regarding their communication preferences (see Tables 1-3 below). Their responses help to inform our comments in this column. Communication is important, and changing with the times (ie, utilizing more and different methods of communication and networking) is worth some consideration.

Social media

Social media defined: Social media is a participatory online media format where news, photos, information, opinions and referrals can be made using a number of social media websites. The social web was originally developed as a method to stay connected with friends but quickly evolved into a new format for communication, news delivery, event planning, product/service research and referral and opinion sharing.

There are several key points to Social media:

  • It is participatory: Businesses and customers can participate in the online discussions.
  • It is about sharing: opportunities exist to share information both from the business and the customer.
  • Social media websites: We will explore these in depth below.

Social media marketing is about using online social media tools to enhance your current marketing efforts. Social media is a complementary extension of your other marketing efforts. It doesn’t replace “traditional” avenues of advertising, but adds additional tools and touch points where you can interact with customers. Some of these tools are Facebook and Twitter and YouTube — as well as text messages and websites.

Facebook

While some may view Facebook as a fad, there is no denying that it is a powerful social media tool, and that younger folks utilize it. As you can see in Table 3, 80% of the 30 to 39 age group utilize it and with 93% of the 13 to 19 age group using it future customers can be expected to being even heavier users. The key to making Facebook and other social media sites work is to actually participate and become involved in the discussion/networking, and this takes time and effort — and perhaps a bit of brainstorming.

The Farm Journal Media survey revealed that over 70% of respondents older than 20 used ag-related discussion boards. This shows that producers are interested in what other producers are experiencing and saying. Your Facebook page can help serve this need and keep your customers thinking about your feed and grain business. Think about what message you want to send. As you likely know — Facebook pages are kind of like traditional websites (information about your company, contact information, links to useful websites, etc.). However, Facebook pages have evolved to be much more dynamic — they combine “threaded discussions,” and have aspects of a news feed site. It has functionality that allows for easy user interface, i.e. the uploading of pictures and other content is accomplished without the need for specialized web development software. This makes a Facebook site relatively easy to use and update. Uses in the feed and grain industry might be to post grain bids, breaking news or other brief tidbits of information that your customers will find useful. Events can also be announced/created, complete with an option to RSVP. Additionally, while much of social media is “social” in nature, discussions on business topics can unfold — fueled by customers and then joined by others. This can present a bit of a risk since you do not “control” all of the content. Customers (and others — if you allow anybody to “friend” you — which is to have access to the site) can post comments which you cannot censor or approve. Thus, you have to decide if this risk is worth it.

Twitter

Twitter is a “mini” blog site (the word “blog” being a blend of the term web log and defined as having regular entries of commentary and description of events). It allows users to post 144 character blogs, or “tweets” about current events, news information, or any topic of interest. These tweets can be sent not only to an individual’s web account, but can also be sent to a cell phone in the form of a text message, so a person is always receiving information even if they are not on the computer. Again, some folks may ask — what is the big deal, and do people really care about what I am doing right at this moment? The issue is — as we mentioned above — that sometimes it can be wise to take the good with the bad. Think of twitter as a conversation with multiple people who are interested in what you (or your business) is doing.

Dan Patterson, who writes a blog for SEO.com (Search Engine Optimization) suggests using social media to “find your audience, and then hang out with them.” He writes that social media is full of groups, fan pages, and other things that make it fairly easy to find an audience that is already interested in your topic or industry. An idea to try here is to use search.twitter.com to see what people are talking about that relates to the feed and grain industry or your company. You can see what they are linking to and talking about, and then devise a strategy that allows you to tweet with your customers, sharing thoughts and or brief news bites that they desire or value. For the grain company who shares futures market information with customers, Twitter can be used to send futures market information to interested customers. An early call, mid-session and closing reports can reach the customers’ cell phones throughout the session so they can keep up to date on market changes.

YouTube

YouTube is another site that has rocketed in popularity. The Youtube site allows users to post videos of any topic they desire. Are there any YouTube applications that a feed or grain business could come up with? It might take some “outside of the box thinking,” but perhaps some educational video shorts of you discussing managing grain for quality, or maybe create some information features for the general public (for example see AgPhD: Farm Basics – Grain Piles #607 on YouTube, or check out www.agphd.com ).

Text messages

Text messages are short messages sent directly to cell phones. Grain companies have had great success using the text message format to send grain bids to customers. Farmers are on-the-go people, and rarely log onto a computer for much time. But they almost all have cell phones. By using text messages, many customers at once can be informed of market changes. Many companies are finding text messages excellent for employee communication as well, as they are much quicker than a cell phone call. Just remember: Do not TWD! (TWD = Text while Driving)

Websites

In the first few years of the internet it was important to set up a web-site for your business. This “web presence” meant your company was on the cutting edge of new technology. But now a website is only the first step in social media marketing. Update your website often. Use it as a dashboard to your social media marketing efforts, meaning from your home page you should have links to your Facebook page, Twitter, YouTube, etc. Keep websites fresh with new articles and photos on a weekly or monthly basis… this keeps customers coming back for more information.

If you as a feed and grain business owner or manager don’t feel that you are up to “taking the plunge,” with this “new fangled” technology and openness — a strategy that might be worth considering is to utilize one of your younger employees to assist with the effort. Put them in charge of your social media efforts and make sure they have access to useful information and take their responsibility to communicate with your clientele seriously.

Old School

You will note in our summary of the Farm Journal Media survey at the beginning of this column that 67% of the 13 to 19 age group belong to an ag-related organization such as FFA. One of us in particular (Foltz, an Academic Dean at a College of Agricultural and Life Sciences, who is in charge of recruiting high school students to attend his University), continues to find the association with FFA and 4-H to be extremely relevant. These are the groups that promote our industry, and where the future generation of farmers and ranchers “hang out.” Local FFA chapters and 4-H groups are constantly looking for mentors, speakers and field trips. There is no better way to connect early with these young people than to meet with them in these settings.

On the slightly older end of the spectrum, 84% of the 30 to 39 age group indicated it’s important to network with other young producers. While some observers make fun of groups that gathers to kibbutz at the coffee shop — as wasting time, there is significant value in this networking. Why not put this technique to work by providing the venue and the coffee and/or pastries on a weekly or bi-weekly basis (yes, we know many feed and grain businesses already do this, but our sense is that quite a few do not).

While many of the social media marketing tools are excellent touch points to use with customers, they don’t (and shouldn’t) replace the personal, face-to-face interaction with customers. On-farm visits, breakfast meetings, etc are still the foundation of relationship building that is required in the agriculture industry. These tools just allow you more contact between these visits.

Brave New World

While developments in social media and the ability to communicate with customers and other stakeholders in a variety of fashions may not be as radical as the future foreseen in the novel “Brave New World” by Aldous Huxley, they certainly do portend change and opportunity. Utilizing some of the approaches we outline can be particularly useful in engaging younger producers and can broaden your communications reach. Good luck with your efforts!

May 3, 2011

Food Safety Regulations Impact Feed and Grain Industry

From the Food Safety Modernization Act (FSMA) to the Reportable Food Registry to calls for increased penalties for some food safety violators, food safety is clearly on the national radar. What many are unaware of is the extent to which these new food safety regulations impact the feed and grain industries.

FDA regulates animal and pet food products and ingredients under the same authority and regulations as it does human food products — the Federal Food Drug & Cosmetic Act. The regulations are essentially the same for all food products, whether for human or animal consumption — food must be safe to eat, must be produced in sanitary conditions, must not contain any harmful substances, and must be labeled properly and truthfully.

What is the Food Safety Modernization Act?

FSMA is the first significant update and expansion of FDA’s food safety regulatory powers in approximately 70 years. It is a comprehensive bill that can roughly be divided into three areas of focus: prevention, detection and response, and imported foods. With very few exceptions, these provisions apply to the animal feed industry.

Imported Foods

FSMA puts a heavy emphasis on improving the safety of in imported foods and ingredients. Much of the media focus has been on the human food supply, but imported animal feed and pet food products have also been a problem.

FSMA takes major steps towards increasing regulation of imported food products. The regulations apply the same whether the product is destined for human or animal consumption. One of the new programs is the foreign supplier verification program. This program will require importers to conduct risk-based verifications of foreign suppliers to ensure the suppliers are complying with food safety requirements. Importers would also need to verify that foreign suppliers are not producing adulterated or misbranded food. Importers are responsible for verifying foreign supplier compliance and keeping records of those verification efforts for at least two years.

For purposes of this program, Congress has defined an importer as the owner of food item or ingredient at the time it enters the United States, or if none, the U.S. agent or representative of the foreign owner. At this time, we have only the skeletal framework of this program and FDA is in the process of developing the regulations that will provide further information. FSMA requires FDA release regulations regarding the foreign supplier verification program by January 2012.

In addition to the verification program, the FSMA also includes a new voluntary qualified importer program. This program will allow importers to seek expedited review and importation of certain foods from qualified foreign facilities — in essence, a fast track. FDA will look at a number of factors, including the food type's risk, the importer's compliance history, the exporting country's food safety system, the importer's record-keeping practices and the risk of adulteration, to determine if importers are qualified. Details of the program are sparse at this point.

FDA is also empowered to require a certificate of compliance before it allows the import of certain high-risk foods. These would be foods identified due to known risks associated with that food, risks relating to country of origin and/or a finding that the country of origin cannot adequately ensure that U.S. food safety standards are being met. For example, in 2007, FDA determined that melamine was contaminating wheat gluten produced in China used in hog feed here in the U.S. If a similar type of contamination concern arose today, FDA could require that all wheat gluten imported from China provide a certificate of compliance before it was allowed to enter the United States.

While we will not see regulations released by FDA for about a year, companies should now start to gather information and records, such as identifying their foreign suppliers of feed ingredients and begin to work with those suppliers in anticipation of the upcoming regulations.

Preventative Measures

While most of FSMA applies equally to animal and human food companies, one exception to this is found in the part of FSMA addressing preventative measures. One key component of is the requirement that facilities create a written hazard analysis and preventive controls plan. Although similar to a HACCP plan, which many companies already have in place, the FSMA requirement is broader and more comprehensive. Voluntary programs, such as the Safe Feed/Safe Food Certification Program developed by the AFIA, will give companies a head start on complying with the new requirements. However, because we do not yet have regulations from FDA providing details of what exactly companies must do to comply with this provision, it is unclear whether these voluntary plans will satisfy the mandatory requirements.

FDA is required to release regulations related to the Hazard Analysis & Risk-based Preventive Controls plan provision by July 2012. In the mean time, companies should review any similar plans in place, and be prepared to re-analyze those plans to determine compliance once regulations are released.

Some animal feed companies may ultimately be exempted from this provision. FSMA allows FDA to modify the preventive controls requirements for facilities that are “solely engaged in the production of food for animals other than man” or to even fully exempt those facilities from the requirements. However, for this to occur, FDA needs to issue a regulation detailing the modification or exemption. This has not yet occurred, meaning that for the time being, animal feed companies should be prepared to comply with the hazard analysis provision. Further, based on FDA comments in a recent public hearing on FSMA implementation, it is unlikely FDA will fully exempt most, if any, feed companies.

What if you classify yourself as “just a farmer”, who processes and sells a little feed as well? FDA regulations require farms must register with FDA if (1) the farm packs or holds food or animal feed not grown, raised or consumed on that farm or another under the same ownership or (2) the farm manufactures or processed food (including animal feed) that is not consumed on that farm or another under the same ownership. FDA is now required to issue regulations that specify what activities fall under each of these categories. In addition, FDA must issue regulations that will exempt certain on-farm activities from the preventive control plan requirement. There may also be exemptions or modifications for small or very small businesses.

Detection and Response

FSMA also gives FDA the authority to issue a mandatory recall of a food product. Up to this point, FDA could only request a company issue a voluntary recall, but could not order one. What is significant about this provision is that it establishes a formal process FDA must follow and gives companies the opportunity to challenge a recall, although only after the fact. A related provision lowers the standard that must be met before FDA may administratively detain food articles.

FSMA also expands FDA’s authority to review company records, and provides authority for FDA to suspend a company’s registration in Class I recall-type situations. The increased authority to review records (in addition to the various new recordkeeping requirements within FSMA) means companies need to ensure they have a well-organized recordkeeping system.

The provision most directly affecting the largest number of feed and grain companies is the requirement that FDA increase inspections of all regulated facilities. High-risk facilities and/or foods will be identified by FDA, based on factors such as compliance history, inspection history, or types of food more commonly tied to outbreaks. If designated high-risk, a facility can expect to be inspected once by 2016 and then at least once every three years. Other facilities must be inspected by FDA once by 2018 and then at least once every five years thereafter. Inspections of foreign facilities are also set to dramatically increase over the next five years.

Regulated facilities should be prepared for their next inspection including having a plan in place for employees to follow should FDA arrive for an inspection, identifying (in advance) those responsible to work with FDA during an inspection, knowing where the relevant documents are kept, and having a plan in place as to how to respond to any issues FDA identifies.

Another important component of FSMA is a newly established series of “whistleblower" provisions. These provisions prohibit companies from terminating or discriminating against employees who engage in certain protected activities, such as reporting violations of food safety regulations. This type of whistleblowing provision is new to this industry. In order to ensure compliance, companies should review their current policies and practices, including discipline and discharge policies, as well as provide training to managers and employees, as needed.

Reportable Food Registry

The detection and response provisions of the FSMA also included some updates to the Reportable Food Registry (RFR). The RFR was launched by FDA in 2009 as a type of early warning system related to foodborne illnesses. The RFR applies equally to the human and animal food industries, yet there appears to be some confusion regarding the application of the RFR on the animal feed side. Generally, if you are required to register with the FDA, then you are subject to the RFR requirements.

Anytime a company becomes aware of the reasonable probability that the use of, or exposure to, an article of food will cause serious adverse health consequences or death to humans or animals, it is required to make a report to the RFR. For example, swine feed with elevated levels of selenium or sheep feed with elevated levels of copper would likely be considered reportable foods. If a company (the party responsible for filing the report) determines that it has a reportable food in its possession, it is required to file a report within 24 hours.

The only time a report need not be made is if the company can satisfy three criteria: (1) The adulteration originated with the responsible party; and (2) the responsible party detected the adulteration prior to the food article changing custody; and (3) the responsible party corrected the adulteration or destroyed the food article. If all three criteria are satisfied, then a report does not need to be filed.

Two key questions come up in relation to the RFR — how do I determine if I have a reportable food and when do I need to report it? The second question is somewhat easier to answer — once a reportable food has been identified, the report must be filed by the responsible party within 24 hours. If it turns out to be a false alarm, or if you don’t have all the necessary information, reports can be modified at a later date to reflect more recent developments.

In order to determine when that 24-hour period begins to run though, it is important to know how to identify a reportable food. The general rule is better safe than sorry. For example, a confirmatory test related to a contaminant will automatically trigger the 24-hour reporting requirement. A presumptive test for a contaminant may trigger the reporting requirement, depending on the reliability of the test. In addition, the mere presence of a contaminant may not trigger the need to file a report, as it may be at such insignificant levels that it would not cause serious adverse health consequences or death. Each potential situation will require a thorough, timely review of the testing procedures, reliability, and other related factors before a reporting determination is made.

Traceability can also be a concern for the grain industry when it comes to the RFR. After filing a report, you may be required to notify the parties above and below you in the stream of commerce. Recordkeeping is a key component of this requirement, and companies need to ensure that records are adequate to, at a minimum, help narrow the focus of this notification.

While FSMA does not require traceability, it does require that FDA test pilot programs in this area. Good recordkeeping practices and at least minimal traceability procedures at your facilities will help ensure you are prepared to file a report with the RFR or in the case of a recall.

What Next?

FDA has a lot of work to do over the next 12 to 18 months. While the rulemaking process has begun, many questions remain as to if FDA will be able to complete all the necessary work in the timeframes provided and how FDA will be able to implement many of the FSMA provisions without increased funds. FDA is conducting workshops on the FSMA provisions, and is actively seeking industry participation. Whether by attending a workshop or by submitting comments on proposed rules, it is important that the feed and grain industry participate in the process to ensure its voice is heard.

More information on the RFR and the complete listing of reporting requirements, as well as further information on the FSMA, can be found on FDA’s webpage. If you have any question about FSMA, the RFR or other food safety concerns, contact your legal counsel for advice on how you should proceed.

Mar 22, 2011

Fast Forward

Thumbing through his son’s issue of PC magazine, Mike shakes his head in amazement. "Just look at all the gizmos and gadgets available these days — and how cheap they are; I remember getting my first fax machine in the late 80’s - it cost almost $1,000 and spit out that curly paper! Didn’t have an email address ‘til about ten years ago. Time sure does fly….” Looking across the room at his grandson, Mike’s even more amazed to see his four-year-old grandson easily doing something on an iPhone.

In the 1980s, grain traders had scores of trainees phoning bids to elevators every day, which slowly evolved to faxing bid sheets and eventually to website posting for immediate, widespread updating of bids. Now many country elevators even combine that with mass transmission of bids or other information via email or to iPhones and Blackberries to keep customers continually updated — wherever they are. The personal touch has given way to speed, efficiency and lower costs.

Enhanced technology allows elevators to buy larger volumes and operate with the same size or even smaller staffs than years ago. But the grain industry has evolved in many other ways over the decades that have facilitated expansion, consolidation and have increased efficiency.

  • Interstate banking was authorized in the 80s; borrowers are now able to secure dramatically larger operating credit lines through a single lender.
  • Spreadsheets and word processing programs for PCs evolved rapidly by the early 90s and became affordable even for small businesses, dramatically increasing managers’ ability to track and analyze operating costs and margins.
  • As unbelievable as it seems, 100-car unit trains only came on the scene in the 1970s (although the first COLT train — the Cargill On Line trains — shipped out of Gilman, Ill., in 1967. Unit trains and shuttles dramatically increased the efficiency of moving ever-larger crops.
  • The shift from local rail agents to centralized, computerized management of trains has vastly improved fleet utilization, benefiting both the railroads and the grain industry.
  • On the other hand, today’s container-shipments allow targeted loadings of smaller volumes of specialty crops, expanding access to niche markets.
  • Automatic probes for grain trucks became common in the 1970s, lessening harvest backlogs.
  • Computerized accounting wasn’t common in country elevators until the 1980s, although Agris was introduced in 1978. The availability of detailed centralized reporting of position reports and grain accounting facilitated the consolidation of the grain industry in the late 80s and early 90s.
  • Knight Ridder (now DTN™) introduced the push-button quote box in the 1980s, bringing a whole new world of information to the country elevator at an affordable price.
  • Options trading was reauthorized in 1985 at the Chicago Board of Trade after a 50-year absence, opening a new world of risk-management tools for producers and merchandisers.
  • 2006 brought side-by-side electronic and pit-trading of futures and options, without which the exchanges would have been hard-pressed to handle today’s massive trading volumes.
  • Computerized controls of elevator operations now allow larger terminals to shift inventories or load trains efficiently and with minimal staff.

No single innovation is responsible for the grain industry’s ability to handle ever larger volumes through facilities mostly built pre-1990 or even pre-1970. These were just a few examples, and collectively the changes have been dramatic! What stands out, however, is how many of the changes involve technology and the Internet.

The challenge now is to plan for the elevator and the grain business of the future. We can’t know what new software and hardware will be available in 10 years or even five years. But there are broad trends managers of today can embrace in planning for expansion, staff and customer service.

  • Mike’s four-year-old grandson may someday be a farmer, merchandiser or an elevator manager. He and others his age or older are growing up with a digital device in one hand and a computer available nearly 24/7. He’ll be your customer or your employee and the challenge will be to use those talents and preferences to your advantage.
  • Country elevator managers talk endlessly about the challenges of finding and keeping good employees for routine tasks. Wireless networking allows even smaller ag businesses to instantly manage a stream of computer data from the scales, bins, dryers and pits to the main office. This can make ‘outside jobs’ more attractive to the younger generation and can allow managers to operate with a leaner staff of more qualified workers.
  • Consider computer skills as you interview and hire staff. You’ll need someone to manage and develop network systems and to fully incorporate future technology to gather and distribute information to/from your customers.
  • Increasingly complex reporting is available now through temperature cables, CO2 monitors, and a host of other modern operational equipment. Incorporate these innovations into your expansion and rehab plans. The cost may seem unnecessary but you’ll also buy efficiency and the ability to better manage these ever-larger volumes of high-priced inventories. (Who wants to first find a bin of $15 soybeans going out of condition when you’re loading them into a railcar?)
  • Electronic order management of your futures/options hedging will become more common at the country elevator. It’s not necessary (or even desirable) to enter orders yourself, but you should be able to instantly see your net hedges, daily activity in real time and other important management information to monitor your business risk exposure.
  • Search out ways to reduce fuel consumption to trim costs. Computers and GPS can aid in setting up feed delivery routes, for example.
  • Robots may perform routine functions as their unit cost declines. Robots that bag feed are already in use, for example.

While you’re planning, think outside the box as well. Most country elevators receive and unload grain about the same as they did 50 years ago. Sure, they have automatic probes and electronic scales, and the information can feed to the accounting system instantly. But think beyond that.

We live in an automated age. Bank ATMs are everywhere and make it all but unnecessary to set foot in a bank except to secure your line of credit. Many groceries (at least in the cities) have self-checkout lanes where customers swipe their items and pay one central cashier or pay by credit/debit cards at the scanner. Fast food is available with a swipe of a card.

Grain elevators aren’t really that different from banks. Both handle a generic commodity that comes in various quantities or denominations, and is ‘routed’ in a few basic ways, to a checking account or to savings, for example. People insert a bank card and deposit paper money and checks directly into the machine without even a deposit slip. (At least one major bank is moving into accepting check ‘deposits’ via a scan by iPhone.)

Think about streamlining a country elevator along those lines — at least in part. Customers could drive up to a ‘grain bank’ (a little elevator humor), insert a card or a pin number, and begin the unload process. The machine would ask a few questions (commodity, etc,), offer a few alternatives (sell, store, contract, "other"), and instruct the driver where to go. At that point an automatic probe (perhaps a robot?) could sample the grain, test it, and send the information to the management office, or even to a "traffic signal" that could direct the driver to a specific pit. As unloading begins, after a verification of an ID code, an automated system could route the grain to the correct bin and log other data. The outcome of the transaction could be sent instantly to the customer — wherever he is — as well as to the office. This would alert the farm customer to grade problems, or potential mistakes on disposition, information that’s valuable to farmers as well as to elevators.

In an ideal world the entire process could be handled with fewer mistakes, in less time, and by fewer employees, all of which will be essential to handling ever-larger volumes at low cost. In the real world there are problems to address. Drivers don’t always know more than to deliver the grain for Farmer Jones for example. But keep in mind that farmers will be far more computer savvy, they have their own wireless communication ability — perhaps the farmer could handle the ‘issues’ remotely to the elevator’s system upon receiving an inquiry or alert. The possibilities are endless.

U.S. grain production will continue to grow, and tight global supply/demand balances point to continued high-prices and volatility in the years ahead. These will be good times for elevators but the costs and risks will rise. Elevators have to plan now in order to prosper in that environment, not just through higher credit lines, but through good management.

The mission isn’t to turn country elevators into banks; it’s to embrace technology to your advantage, to enhance efficiency, to reduce costs and errors, and to make your business attractive and relevant to customers who were weaned on technology. Such changes won’t happen overnight, but the time to start is now. What ideas do you have for your business’ future?

Mar 22, 2011

Steps to Starting and Implementing a HACCP Plan

On Jan. 4, President Barack Obama signed the Food Safety Modernization Act into law, requiring all facilities registered with the FDA under the Bioterrorism Act to develop a written food/feed safety plan that evaluates hazards and details procedures to control those hazards so they do not cause adulteration or misbranding of product.

The regulation applies to all commercial grain elevators, feed mills, feed ingredient manufacturers, grain processors, millers and exporters, as well as foreign facilities that ship agricultural products, feed and feed ingredients intended for consumption in the United States.

One way to ensure compliance with the law’s written food/feed safety plan requirement is to implement a HACCP (Hazard Analysis and Critical Control Point) plan. While the FSMA does not mandate facilities use HACCP, David Fairfield, director of feed services for the National Grain and Feed Association, says applying HACCP principles within a feed manufacturing setting provides an excellent opportunity to evaluate operations, identify potential hazards and eliminate or minimize those hazards.

HACCP was originally designed to replace finished product testing by entities such as Pillsbury Co. and the U.S. Government. The program was even put into place at NASA to ensure the safety of food for astronauts.

Developing a HACCP plan takes time, dedication from management and staff, and an acute understanding of all the raw materials and processes used at the facility. Breaking HACCP into “Preparation”, “The Seven Principles” and “Implementation” is an effective way to learn about the plan and determine how best to utilize the information in your facility.

Preparation:

As is the case with any new program launched in the workplace, there is preliminary work required before it can be implemented. Before starting a HACCP plan, these steps must be completed:

1. Choose a HACCP coordinator and team

In some cases, the best candidate for this important position is clear. A company may select a quality control manager, corporate food safety director or operations manager. But if a company determines its staff doesn’t have enough expertise, management can seek an outside specialist or consultants for additional help.

2. Provide HACCP team with education and training

If a company chooses to train its own employees rather than hire a consultant or other outside help, education is necessary.

“There are a variety of resources available,” says Keith Epperson, vice president of manufacturing and training, American Feed Industry Association. “There is a short course offered each Spring and Fall at Kansas State University that is co-sponsored by AFIA and NGFA, and the Northern Crop Institute holds its own HACCP training courses.”

NGFA also organizes a HACCP for the feed industry distance learning program, which is available to members at any time through its website.

3. Create and use process flow diagrams

A process flow diagram is a basic diagram that serves as a visual of how a product or a process flows from start to finish (Figure 1).

Fairfield, the instructor of the NGFA’s Model Feed Quality Assurance distance learning program, including its HACCP elements, says viewing a verbal picture of how a process flows, or how material flows through equipment, aids in identifying where potential hazards might be introduced.

Creating these documents is an integral step if utilizing HACCP is a company objective.

“Process flow diagrams are a fundamental HACCP requirement,” says Fairfield. “If you want to meet the criteria, you’ve got to create these process flow diagrams. They may, in some cases, be very specific, and very general in other cases. But it will help during the risk assessment step to identify where potential hazards may enter the scene.”

4. Develop prerequisite programs

According to Fairfield, this area can be a source of confusion for students in his HACCP training course. He clarifies that prerequisite programs are simply the written procedures and policies a firm has in place to meet regulatory requirements and ensure either the quality or the safety of the products they produce.

“If you’re a medicated feed mill and you handle animal drugs and produce medicated feed, there is a set of good manufacturing practices with which you comply. So, an example of a prerequisite program would be the SOPs (standard operating procedures) the facility has in place to enable compliance with those current good manufacturing practices.”

Necessary prerequisite programs may include Ingredient Specifications/Standards, Approved Ingredient Supplier Processes, Ingredient and Finished Product Testing or Feed Quality Audit Processes.

5. Describe and write out the raw materials, feed products and processing and distribution methods used within the facility

Records must be kept of all the incoming materials, as well as the processes they undergo before exiting the facility. Examples of raw materials include grains, processed ingredients, liquids, minerals, vitamins and even packaging supplies.

Finished product descriptions would include the product name, characteristics, shelf life, distribution methods and labeling instructions. These descriptions are vital in identifying hazards in the facility and implementing the seven principles of HACCP.

The Seven Principles of HACCP:

The basis of any sound HACCP program is following the following seven principles:

    1. Conduct a hazard analysis
    2. Identify critical control points (CCPs)
    3. Establish critical limits
    4. Establish CCP monitoring requirements
    5. Establish corrective action procedures
    6. Establish verification procedures
    7. Establish recordkeeping procedures

The most crucial HACCP principle is performing an appropriate and comprehensive hazard analysis. Hazards are any significant risks that could have a severe adverse impact on the health of the animals that consume the product, or the humans that subsequently consume such hazards through animal-based foods. The rest of the HACCP plan hinges on the types of hazards identified in this first step.

“You first identify hazards that are significant and pose a risk to health,” says Fairfield. “And second, you identify specific steps in your manufacturing process — critical control points — where you can intervene and eliminate or minimize the hazard to acceptable levels. This would be depicted on the process flow diagrams.”

Establishing critical limits on hazards is not a specific requirement of the FSMA, but it could be required by FDA when implementing the law for identified hazards. It also would be required for facilities aiming to become HACCP certified by an accredited third-party auditor.

Conducting the first two steps must be done thoroughly, and may take up to a year to complete, depending on several factors.

“I am often asked ‘How long is it going to take to develop a whole HACCP plan and implement it?’ and I give a guarded answer,” says Fairfield. “To a large degree, the time it will take to design and implement a HACCP plan is dependent upon the level of documentation you already have with your prerequisite programs. If you already have a formal quality assurance program that’s comprehensive, well-documented and spells out employee operating procedures, it may progress relatively quickly.”

Epperson points out that even if a HACCP plan is turned around quickly — in less than 60 days, for example — HACCP auditors look for more than merely what the plan says, but also for documented history of the plan in action.

“You could put it together in a month, but when the auditor comes to the facility, they would truly only see a shell of a program,” says Epperson. “Once the plan is in practice, an integral part of HACCP is the organization’s ability to make changes and adjustments when it identifies an aspect of the plan that isn’t working. Documentation of these changes are considered correction procedures.”

Verification and documentation are the final pieces of the HACCP puzzle. Once the hazards are established and critical control points are identified in the manufacturing process, the final step is making sure the plan is followed through.

“Documentation is the key piece of evidence in showing an auditor that you know your hazards and critical control points, you check them on a regular basis and you make changes to the program as needed, “says Epperson.

Once each of the seven HACCP principles are addressed, the plan is ready to put into practice.

Implementation and certification:

There are a number of reasons why a facility would implement a HACCP plan, outside of the need to comply with the FSMA. For example, a customer may require their suppliers to be HACCP certified, or they may want to use a HACCP certification as a marketing tool — a seal of feed safety approval. If they choose to take that route, an accredited third-party HACCP auditing firm must audit the facility.

HACCP audits are used to verify the effectiveness of the overall HACCP system. As part of the audit, the third party will:

• Review records (SOPs, HACCP plan, etc.)

• Review adherence to manufacturing and housekeeping procedures

• Have discussions with employees to gauge their understanding of the HACCP program and their responsibilities

• Review equipment calibration records

• Review employee training records

After the initial comprehensive third-party audit, additional partial audits typically will be conducted over the next two years. On the fourth anniversary of the initial audit, the audit cycle starts over with another comprehensive audit.

A facility may also choose to implement HACCP, but forego a third-party audit. According to Epperson, many companies implement the seven principles of HACCP simply as a way to discover any weaknesses or potential hazards in the facility. But they may not need to, or be able to, produce the fees for the audit and certification process.

“They recognize the value of HACCP in regard to what it can do to improve the safety of their processes and their facility, but it may not be necessary to become certified if their customers are not asking them to become certified.”

Whether or not implementation ends in a third-party audit and certification, completing the seven principles of HACCP is worth the effort as an aid in complying with the Food Safety Modernization Act.

Mar 8, 2011

The Next Generation of Management: Creating a Succession Plan

Who will succeed you as owner or manager of your feed and grain business? If you are like many owner/managers, this is a topic you may not have seriously considered — or it may be something you would prefer not to think about. It is a bit like facing your own mortality — but the reality is that this is something which should be given some very careful thought. Perhaps the most important sign of a great manager is the ability to transfer control to the next generations successfully — it takes a lot to make this happen. In this column we take a look at some approaches to grooming up-and-coming managers and to the topic of management succession.

Grooming the Next Generation of Management

Peter Cappelli, management professor and director of Wharton's Center for Human Resources, states that it is not necessary for firms to groom specific people to become a manager — or, indeed, for any other specific position. He feels that it is best for companies simply to "develop people so that their skills continue to improve.” While we do not disagree at all, there is also some merit to developing an internal pool of talent — that you work with and develop with the specific intent of possibly “turning over the reins” at some point. To us, this is just good strategy and it seems especially important in small/medium sized and family-owned businesses. Obviously the urgency here depends a bit on your age and future intentions — how long you want to work, and the age difference between you and some of these key employees. But, working to grow the capabilities of your employees is just good management at any time.

This process begins by making good hires (…as if you are consciously going to make a bad hire!). But the point here is to look for evidence of people-oriented traits — communication and problem solving skills, proof of leadership, and ability to mediate. Some additional characteristics that can be used to identify talent within the workforce include the following: comfort with change; clarity of direction; thoroughness; participative management style; persuasiveness, persistence, and discretion. These traits would seem to indicate that talented people are not necessarily extraordinary individuals. People can be groomed to enhance these characteristics and become more talented themselves. But hiring with an eye toward growth potential can go a long way in bringing the right kind of people into your organization. During the interview process, some prospective employees may fill the bill for the position as currently defined. Others you can see growing beyond the immediate position. In our experience, you rarely go wrong hiring the person with the potential.

Once those with potential have been identified, then give them some time in position and observe — again for the aforementioned traits. If things continue to look promising, now look for ways to “test their mettle.” Giving them special projects, assigning supervisory duties to them, and bringing them in on periodic discussions and decisions you undertake are all ways to strengthen their experience base and observe them in action.

You should also be on the lookout for training opportunities from which the identified individuals might benefit. Most states have an “Ag Leadership” program — these are great programs to put these protégées through, and are typically a several month or even year-long program which focuses on networking, communication, leadership and other very useful “soft” skills. They typically immerse the participant in a variety of activities designed to strengthen their skill set, as well educate them about the agriculture and agribusinesses of your state.

Give careful thought the skills, background, and abilities of the individual. Talk with them about their goals, and look for training opportunities that help them grow. Suppliers offer a variety of training opportunities, and with just a bit of work, you can identify many other possibilities available through universities or organizations such as the American Management Association or the National AgriMarketing Association. Another source of good training for up and coming managers are programs offered by the Purdue Center for Food and Agricultural Business (see: https://www.agecon.purdue.edu/cab ).

The overall point here is that you really must be intentional about supporting the growth of your employees. In our lean worlds, it is easy to let 6 months or a year pass with really no focus on an employee’s growth needs — especially if they are doing a good job. It will take discipline on your part to support an employee’s growth through assignments and training.

Succession Planning

As we have discussed above, one important aspect of management succession planning involves evaluating the skills of people in your feed and grain business and identifying those employees who have the potential to ascend to top management roles. In this way, succession planning encourages staff development and sends a message to your employees that your company is serious about developing people. This approach may also persuade talented employees to stay with your firm rather than looking elsewhere for growth opportunities. Grooming a successor from within the company can save the time and expense of hiring a new leader from outside. It also aids in continuity, as an insider is more likely to follow through with current plans and strategies.

The key to management succession planning is preparing a written succession plan. This document provides for the continued operation of a business in the event that the owner — or a key member of the management team — leaves the company, is terminated, retires, or dies.

According to the online “Encyclopedia of Business” (http://www.referenceforbusiness.com/encyclopedia), fewer than one-third of family businesses survive the transition from the first generation to the second, and only 13% remain in the family for more than 60 years. Ninety percent of family companies fail to transfer into the third generation. Additionally, only 45 to 50% of business owners establish a formal succession plan. Thus, it would appear that there are definitive opportunities for working on succession for as an old management proverb states, if you “fail to plan, plan to fail.”

Experts claim that management succession planning should ideally begin when the manager or business owner is between the ages of 45 and 50 if they plan to retire at 65. Since succession can be an emotionally charged issue, sometimes the assistance of an outside consultant or mediator is required. Developing a succession plan can take more than two years, and implementing it can take up to ten years. The plan should be carefully structured to fit the company's specific situation and goals. When completed, the plan should be reviewed by your firm’s lawyer, accountant, and bank.

In the Small Business Administration publication Transferring Management in the Family-Owned Business, Nancy Bowman-Upton discusses the fact that succession should be viewed as a process rather than as an event. She outlines four main stages in the management succession planning process: initiation, selection, education, and transition. In the initiation phase, possible successors learn about the business. Here it is also important for the manager or owner of the grain and feed business to speak openly about the business, in a positive but realistic manner, in order to transmit information about the company's values, culture, and future direction to the next generation.

The selection phase involves actually designating a successor among the candidates for the job. Rivalry may often develop between possible successors — who, in the case of a family business, are likely to be siblings — and thus, this can be the most difficult stage of the process. Because of this, many business owners either avoid the issue or make the selection on the basis of age, gender, or other factors besides merit. Thus, Bowman-Upton recommends that the firm owners develop specific objectives and goals for the next generation of management — including a detailed job description for the successor. Then a candidate can be chosen who best meets the qualifications. This strategy helps remove the emotional aspect from the selection process and may also help the business owner feel more comfortable with their selection. The decision about when to announce the successor and the schedule for succession depends upon the business, but an early announcement can help reassure employees and customers and enable other key employees to make alternative career plans as needed.

Once a potential successor has been selected, the company then enters the training phase. Ideally, a program is developed through which the successor can meet goals and gradually increase their level of responsibility. A suggested part of this phase is where the owner or manager may want to take a number of planned absences so that the successor has a chance to actually run the business for limited periods. The training phase also provides the feed and grain company owner or board of directors with an opportunity to evaluate the successor's decision-making processes, leadership abilities, interpersonal skills, and performance under pressure. It is also important for the successor to be introduced to the manager or business owner’s outside network during this time, which should include customers, bankers, and business associates.

The final or transition stage in the process occurs when you as manager or owner retire and your successor formally makes the transition to their new leadership role. Bowman-Upton stresses that the business owner can make the transition smoother for the company by publicly committing to the succession plan, leaving in a timely manner, and eliminating involvement in the company's daily activities completely. We understand this is a very “tall order,” as you are being asked to “walk away” from a business in which you have likely invested significant time, effort and thought — it is a part of you! But — this is where the thoughtful and careful execution of a succession plan pays off — it should make this transition both easier and successful. In order to make the transition as painless as possible for yourself — you as the company owner/manager should be sure to have a sound financial plan for retirement and to engage in relationships and activities outside of the business.

We want to re-emphasize a couple of important points. You can kill a succession plan before it has a chance to be successful by failing to prepare your successor and/or by choosing someone based on some criteria other than merit. Employees will rally around the ‘right’ person, the person ready and qualified for the job. They will quickly dismiss the person who has the job before they are ready, or gets it because they are the ‘oldest son’, ‘favorite daughter’, etc., when someone else is better qualified. Again, this choice can be very, very tough — especially if there is no family member qualified for the role.

The succession plan can also get undermined if the owner just can’t stay away from the business. Being available for guidance and to provide a steady hand when needed, while not interfering in the day to day, is a delicate balance to strike. But, the owner/manager who lets his/her protégé spread their own wings is the one most likely to be able to enjoy retirement — and the success of what they have built.

Possible Sources of Assistance

Several software companies have developed software to assist with developing a succession plan. While this is not an endorsement of their products, they may be worth checking out. Halogen Software has a program called eSuccession which can be used to identify the skills and competencies required to support your strategic plans and cultivate these in your high potential employees with career and development planning (see: http://www.halogensoftware.com/products/halogen-esuccession). Sum Total Systems also offers a succession planning platform which can be found at: http://www.sumtotalsystems.com/products/career-succession-planning.html

Grooming Employees and Succession Planning – Part of Your Strategic Plan

Identifying up and coming employees and grooming them for management in your feed and grain business and developing a succession plan should all be a part of your strategic plan. While these items may not require quite as much attention as the short-term plan to develop capacity to merchandise an additional 500,000 bushels of grain in the next two years, or to manufacture and sell an additional 25,000 tons of feed — they are certainly important. Hopefully, this column has spurred your interest in developing such plans and given you some things to consider along the way.

Mar 8, 2011

Beyond Vertical Integration: Vertical Coordination As A Way To Capture Market Value

Vertical integration in the food, agricultural and biofuels (FAB) industries has been a topic of much focus and discussion over the past several years. The increased use of vertical integration within the sector has often been seen, as a way for companies to increase value captured in a product and improve efficiencies in production, among numerous other reasons. However, due to the number of challenges faced by those engaged in vertical integration, more attention should be given to the idea of vertical coordination. Vertical coordination may be a path more appropriate for companies within the FAB industry to ensure they capture a return on their investment, while avoiding many of the concerns and challenges associated with vertical integration.

FAB industries are continuing to see advances in technology, development of specialized products, and numerous other scientific and technological developments. However, the growing cost of these technologies and advancements means that the companies making these investments need to ensure they capture a portion of the resulting economic value. This need to capture value is one of the reasons often cited as a need for vertical integration.

Before we take a closer look at the idea of vertical coordination, lets take a quick look at some of the challenges facing vertical integration in the FAB sector.

Vertical Integration

Vertical integration occurs when one company outright owns two or more stages of production. As one way for companies to seek greater economic value, there are both benefits and limitations to adopting this model in the FAB industries. Benefits cited for vertical integration include the ability to capture or retain a higher amount of the economic value of the product, increased control over product quality and consistency (helping meet consumer demand) and greater control over the timing of production (meaning the ability to greater adjust to the ebb and flow of market demand).

Over the past several years weve seen a number of companies making strategic decisions to move into other parts of the supply and production chains. While this does have benefits, as noted above, there are also limitations. Many of these relate back to the traditional role of independent producers and the various relationships these producers have with other players in the industry.

Jan 24, 2011

WHEN $7 = $4.80

“You mean to tell me that with corn futures at $7, I can’t sell you the bushels today because I might have to sell them to you months from now at $4.80? What kind of a deal did you get me into, anyway.”

Imagine a producer sitting in your office during the height of a bull market, demanding an answer to that question. Most managers would rather be outside loading a train in January than face that farmer. Now think about the grain marketing strategies you offer your producer customers, and why you offer those strategies. Do they expose your business to hidden risks?

Originating grain is always a challenge. You have competing interests: Your business has to make money and you need volume at a good operating margin to accomplish that. But customer satisfaction is also a priority. When you’re wearing your “farm advisor” hat, customers often want a higher price, or want the flexibility to capture a higher price if futures move higher. Other customers want to sell grain to you, but want you to offer the same strategies ‘the other guy’ offers, or something they heard about at an advisory meeting. Elevator managers can be unsure which hat to wear.

Define objectives and parameters for your origination program:

  • Is volume more important than the margin on your purchases, or the quality of those purchases?
    • Identify which crop years you will allow farmers to sell for.
    • Set a maximum percentage of production you will allow a farmer to contract with you.
    • Identify how you will decide which farmers will be allowed to use more sophisticated strategies.
    • List the variables of a farm-marketing strategy and the strategies that go along with that profile. For example:
      • futures price not finalized
      • basis not finalized
      • sets a futures floor but not a ceiling
      • seta a futures floor and a ceiling but leaves open a ‘window’ of price opportunity
      • pays the farmer a premium for his/her grain but with an obligation to sell additional bushels if futures are at or above a specific level at a future point in time.
    • Quantify the potential risks of each strategy in various market scenarios, both to your business and to your producer-customer.
    • Next, identify which strategies you will offer, and ones you will not offer.
    • Review your advertising and promotional materials for all strategies to see it’s clear and not misleading.
    • Determine who within your organization is sufficiently trained and knowledgeable enough to buy grain using the more-advanced strategies.

Country elevators aren’t grain companies.

Let’s face it – elevators just don’t have the same resources that large companies have. Their balance sheets and credit lines are a fraction of a grain company’s. Elevators don’t have a legal staff, or sophisticated market-modeling software to analyze risks and outcomes. Elevators don’t typically have a separate staff to manage producer marketing programs. That’s not a problem unless you’re trying to compete on the same playing field. Further, an elevator’s accounting staff may not recognize how to properly ‘mark to market’ advanced contracts to ensure accurate financial reports.

Global grain(s) consumption continues its upward trend despite rising prices. The crop losses in 2010 brought to the forefront again how tight global inventories are and the potential consequences of widespread production failure. High prices do come and go, and it’s possible prices will retreat in 2011 if global production soars. But ag commodity prices currently reflect the ongoing concerns.

High prices = higher risks

High prices and volatile markets can pose unusual risks for country elevators and small grain businesses. High prices mean your working capital and credit line won’t go as far, for example:

At a corn price of:

Buys this volume:

$1 million

$3 per bushel

333,333 bushels

$5

200,000 bushels

$7

142,857 bushels

Rising prices mean margin calls on short futures hedges. Some credit lines are structured so that the bank will only finance part of the margin calls on forward contracts, forcing the elevator to finance the rest from working capital. Counterparty contract risk on forward purchases rises with the market. A farmer who was thrilled to sell $4 corn for 2011 crop may be less than eager to deliver the corn if prices rise to $7.

Beware the hidden risks!

Margin call risk can be sizable, but at least it’s easy to identify and quantify. Beware of the hidden risks of some contract strategies involving options that can explode suddenly into serious losses during big market swings (up or down):

  1. “Reduced-cost” minimum price contracts
    1. farmer sells priced grain to the elevator
    2. the elevator offers upside price potential by buying one or more call options and tying the subsequent value of the options to the contract
    3. the elevator sells out of the money put options and collects a premium which is used to reduce the cost of the call(s).
  2. “Ratio” minimum price contracts
    1. farmer sells priced grain to the elevator
    2. the elevator offers upside price potential by buying one or more call options and tying the value of the options to the contract
    3. c. the elevator sells higher Strike Price call options at a ratio of 2:1 or more, and collects multiple premiums which are used to reduce the cost of the call options that were purchased in (b).
  3. Premium-Offer contracts (or similar names)
    1. farmer sells priced grain to the elevator
    2. the elevator sells one or more call options at Strike Prices above the market and credits the premium collected over to the farmer,
    3. and requires the producer to sell more bushels to the elevator if the designated futures contract price is at or above the Strike Price on a specified date.

Each strategy has special risks in certain market conditions. In #1, the risks develop if futures fall hard and the short put options are exercised. That leaves the elevator long futures with nothing to offset them unless the contract clearly states the farmer would be responsible for such losses.

In #2, the risk lies in rising prices. As futures climb, the elevator is losing money on two (or more) short call options while making money on only one (the lower Strike Price). The higher futures rise the worse the outcome. Again, unless the contract clearly states the farmer would be responsible for such losses, the elevator will have a major problem on its hands. There is also the problem that although a futures rise will ‘hurt’ the position, the final outcome can’t be identified until either option expiration or until the option positions are exited.

In #3, the farmer faces an even bigger uncertainty. This strategy creates a binding obligation that the farmer will sell additional bushels to the elevator, but contingent only if futures are above a specific price on a specific date. There will be no additional obligation to the farmer if futures are below the designated threshold on the specified date. The benefit for the farmer of this strategy is that he or she collected some premium/incentive at the time of the original contract – a ‘signing bonus’, as it were.

Strategies 2 and 3 can be major problems in bull markets such as 2010/2011. The farmer starts off at what is an attractive selling price and gets a ‘bonus’ premium added on top of the price! Example:

July 2010: Dec 2011 corn futures around $4.40

Dec 2011 $4.80 corn calls were trading around 30¢/bushel

Farmer forward contract would be $4.40 +basis + 30¢ premium.

Farmer takes on an obligation to sell additional bushels at $4.80 corn futures

if Dec 2011 futures are above $4.80 on a designated date (e.g. Oct 15).

January 2011: December 2011 corn futures have climbed to $5.90

Dec 2011 $4.80 corn calls are now at $1.35

The elevator has had to finance margin calls on the short futures hedge since July 2010, and also margin the growing loss on the short $4.80 corn calls. The farmer still has the original sale for 2011 crop at $4.40 futures (+ basis) + 30 ¢, now $1.50 below the market, and also has an ongoing obligation to sell more bushels to the elevator at $4.80 futures (+basis) for 2011 crop delivery if futures remain above $4.80 at the designated date. Farmers won’t be happy about this.

And worse, it ties the farmer’s hands if he (or she) wants to sell more corn for 2011 crop at $5.90 futures but has this additional potential sale obligation. Assume corn continues to $7, or even $8 this spring or summer. The farmer can’t sell with confidence due to the ongoing obligation that won’t come due until this fall for additional bushels. What a marketing nightmare!

Elevators also have to properly mark such contracts to market each month on their financials. The brokerage monthly statement will show the rising loss on the short call option, but some elevators may fail to include the farmer contract side. This would create an imbalance, against the elevator.

This can also be a customer public relations nightmare, especially if the farmer wasn’t clear in the beginning just how the contract works, or if the elevator employee downplayed the risks: (“oh come on, Joe, corn’s not going to $6.00 and you get a 30¢ bonus on your deal”).

Proponents will say that a premium offer deal is no different than with a farmer who forward sold corn when futures were $4.40 and they’re now at $5.90. But it is different: The premium offer contract ties the farmer’s hands and forces him or her to pass on other marketing opportunities for that second unit of bushels. If futures end up above $4.80 he’ll be unhappy he has to sell at $4.80 (+basis); if they’re below $4.80 he’ll be furious he had to turn down higher prices while waiting to determine the outcome of the outstanding $4.80 “offer.”

My rule of thumb when managers ask about this strategy is to ask both the manager and the farmer if each can tell me exactly what the final contract price and bushel obligation will be in any market price scenario: at $6, $7, $10 and at any point in time. If they can’t do so (and often they cannot), then it’s best to put “Premium offer” or similar complex strategies back on the shelf and and stay with the basics.

Jan 17, 2011

Appropriate Use of Financial Leverage in Your Feed and Grain Business

In simple terms, leverage is the measure of debt (borrowed dollars) to equity (dollars the owners have invested in the business) in your feed and grain firm. When we say that a firm is “Highly Leveraged,” it means that the company has a large amount of debt relative to how much equity the owners have in the firm. Why is this important? Well, as we discuss in more detail below — if you can use someone else’s money to make you money — you can significantly increase your return on investment. However — we will lay out the disclaimer here — this approach is not without risk! It works great if your business is profitable and you can service this debt. But incurring debt has real costs, and dollars paid in interest are an expense that some owners and managers like to avoid.

Leverage - What is it?

As we mention above — financial leverage is a general term for any technique used to multiply gains (and unfortunately losses, if they occur). A company may leverage its equity by borrowing money. The more it borrows, the less equity capital it needs, so profits are shared among a smaller base and are proportionally larger relative to base equity as a result. We walk through an example via a template later in this column.

Raising capital in your feed or grain business can be achieved via three methods: investors or owners provide the funds (owner’s equity); it can be borrowed (debt) — typically from a lender (bank, etc.); or it can come from business profits (retained earnings).

Debt financing means borrowing money that is to be repaid over a period of time, usually with interest. Debt financing can be either short-term (full repayment due in less than one year) or long-term (repayment due over more than one year). The lender does not gain an ownership interest in your business and your obligations are limited to repaying the loan. In smaller businesses, personal guarantees are likely to be required on most debt instruments; thus in these cases commercial debt financing thereby becomes synonymous with personal debt financing.

Equity financing describes an exchange of money for a share of business ownership. This form of financing allows the company to obtain funds without incurring debt; in other words, without having to repay a specific amount of money at any particular time. The major disadvantage to equity financing is the dilution of your ownership interests and the possible loss of control that may accompany sharing ownership with additional investors.

Debt and equity financing provide different opportunities for raising funds, and a commercially acceptable ratio between debt and equity financing should be maintained. Excessive debt financing may impair your credit rating and your ability to raise more money in the future. If you have too much debt, your business may be considered overextended and risky and an unsafe investment. In addition, you may be unable to weather unanticipated business downturns, credit shortages, or an interest rate increase if you have a floating interest rate on your loan. Too little equity may suggest the owners are not committed to their own business. Conversely, too much equity financing can indicate that you are not making the most productive use of your capital as capital is not being used advantageously as leverage for obtaining cash to grow the business.

Lenders will consider your debt-to-equity ratio in assessing whether your business is being operated in a sensible, creditworthy manner. Generally speaking, a local community bank will consider an acceptable debt-to-equity ratio to be between 1:2 and 1:1 (we give additional ranges below).

Obtaining money to use in the business through debt financing does not entail “selling” your equity, but instead works by “borrowing” against it. Debt financing is only available to the business that has something of value that the lender could liquidate if necessary. The bank or other lender is not interested in becoming a partner in your elevator or feed store, instead they are in business to make money from their money by letting you use it for a period of time and then collecting interest on the funds loaned.

Leverage - How is it measured?

There are a number of measures of leverage. Perhaps the easiest and most often cited measure is the debt to equity (D/E) ratio. It indicates the relative proportion of owner’s equity and debt used to finance a firm’s assets. The two numbers needed are taken straight from your feed company or grain elevator’s balance sheet and are calculated as:

Debt/Equity = Debt to Equity ratio where:

Debt = all of the liabilities (short-term and long-term) the business has

Equity = Shareowner’s or Owner’s Equity (also known as Net Worth)

Examples:

Grain Elevator A:

Debt = $972,000

Equity = $1,000,023

D/E ratio = 972,000/1,000,023 = 0.972 or 0.972:1 almost a 1:1 ratio

Grain Elevator B:

Debt = $2,347,054

Equity = $1,096,578

D/E ratio = 2,347,054/1,096,578 = 2.14:1 or over a 2:1 ratio

In the above examples, Grain Elevator A is equally financed between debt and equity, while Grain Elevator B has twice as much debt as equity and is much more “highly leveraged.”

On your balance sheet, the formal definition is that debt plus equity equals assets, or as one of us states in our university Agribusiness Management class — “your firm’s assets are jointly owned — either by you (equity) or the bank (debt).” Financial leverage ratios provide an indication of the long-term solvency of the business. Unlike liquidity ratios – which are concerned with short-term assets and liabilities — financial leverage ratios measure the extent to which the company is using long-term debt. In addition to the D/E ratio discussed above, another measure is the debt to capital ratio, defined as total debt divided by total assets:

Debt ratio = Total Debt/Total Assets

This measure tells whether a company is more prone to using debt financing or equity financing. Using the same numbers from our example above:

Grain Elevator A:

Debt = $972,000

Assets = (Debt + Equity) = $972,000 + $1,000,023 = 1,972,023

Debt ratio = 972,000/1,972,023 = 0.49

Grain Elevator B:

Debt = $2,347,054

Assets = (Debt + Equity) = 2,347,054 + 1,096,578 = 3,443,632

Debt ratio = 2,347,054/3,443,632 = 0.68

In these examples, Grain Elevator B is utilizing more debt financing, as 68 percent of their total assets is comprised of debt.

Leverage – Guidelines and Ranges

The range of what can be considered a “normal” debt-to-equity ratio can vary by industry. Some industries use more operating capital because they need to buy more materials to produce their products or service. Construction companies, for example, must purchase a lot of building materials, and they usually carry the cost of these materials via debt, until the finished product is sold. As a result, the debt-to-equity ratio in this industry can vary from 1.3 to 2.4 on the high end (with higher leverage given by a larger number — and anything over 1 indicating that the lender has a bigger stake in the firm than the owners do). In contrast, a company in the services industry — such as an advertising agency or consulting company — does not have to buy much in the way of materials. These companies rely on their human “capital” and will have a lower D/E ratio, which might be in the 0.65 to 0.8 range. Some average Debt-to-Equity ratios by industry might be: Agriculture: 1.33; Mining: 0.48; Retail Hardware: 1.30; Automobile retailing: 2.61; Restaurants: 1.24. The Debt-to-Equity ratio for cooperative grain elevators in the Pacific Northwest averaged 0.455 in a recent study conducted by Washington State University. As mentioned above — if a firm’s liabilities exceed the firm’s net worth, then creditors have more at stake than the owners, and the firm’s D/E ratio will exceed 1.0

How can you make it work for you?

Borrowed money can be used to increase production volume, and thus sales and earnings. Since interest is a fixed cost (which can be written off against the firm's revenue) a loan allows a firm to generate more earnings without a corresponding increase in equity capital — which for most corporations requires increased dividend payments (which cannot be written off against the earnings).

As mentioned in our introduction — appropriate use of leverage (debt) can increase return on investment (ROI). Figure 1 shows the step-by-step process of developing an ROI analysis. ROI, as we measure it here, is in terms of return on net worth or owner’s equity. You can plug your numbers into our template and determine your ROI. The point we are making is that higher leverage will increase ROI, as ROI is the product of Return on Assets multiplied by Leverage. The other ways to improve ROI (that do not involve debt) are to improve profitability (net profit %) or to utilize your assets more efficiently (increase asset turns).

Let’s use our two example firms to calculate their Return on Net Worth — and to keep it simple, we will assume that they both have the same net profit, and asset turns — so as to focus on the impact of leverage (disclaimer — yes we know that no 2 firms in the real world would have identical numbers, but it allows us to focus on the leverage issue). We will use a net profit of 4.1% and asset turns of 3.1, generating a return on assets of 12.71. When this value is then multiplied by the respective firm’s leverage, it generates the following results:

Grain Elevator A: 12.71 x 1.97 = 25.04

Grain Elevator B: 12.71 x 3.14 = 39.91

Thus, Grain Elevator B has a significantly higher Return on Investment because it is profitable and is more highly leveraged. Please read further to look at the risk side of this equation!

Risk

Companies that are highly leveraged may be at risk of bankruptcy if they are unable to make payments on their debt; they may also be unable to find new lenders in the future. Heavily leveraged (i.e., debt-financed) companies are constantly undercapitalized and may experience continuing cash flow problems as they grow. Paying close attention to strained cash flow requires that a lot of management time be diverted from company operations. It also affects the balance sheet, making it difficult to obtain additional equity or debt. On the other hand, there is one big positive in using debt. Debt does not decrease or dilute the entrepreneur's equity position and it provides nice returns on invested capital as we have discussed above. However, if credit costs go up, or sales don't meet projections, cash flows really get pinched and bankruptcy can become a reality.

Summary

While we are not necessarily promoting the use of debt — we are emphasizing that its prudent use is a tool that you as an owner or manager can utilize to grow your business and improve your Return on Investment. You should seek input from your accountant to assist you in determining the proper level of debt versus equity for your feed mill or elevator.

Jan 13, 2011

OSHA to 'Aggressively Pursue' Safety Violations in Grain Handling Operations

Recently, OSHA put grain handling operators “on notice” that it intends to “aggressively pursue” workplace safety violations in the grain handling and storage industries. On August 4, 2010, OSHA Administrator David Michaels sent a letter to over 3,000 grain handling and storage operators warning them that OSHA “will not tolerate” non-compliance with workplace safety standards. A copy of this letter is available at http://www.osha.gov/asst-sec/Grain_letter.html. In a related press conference, Michaels claimed to be “appalled” at the “outrageously reckless behavior” of some grain storage operators, particularly with respect to allowing workers to enter grain storage facilities without proper equipment, storage and training.

Evidently, this warning was precipitated by the recent suffocation deaths of two teenagers in a grain bin in Illinois. These deaths came on the heels of a series of similar accidents, each of which resulted in a large penalty citation from OSHA:

  • In November 2009, OSHA fined a Colorado grain elevator more than $1.5 million following the death of a teenage worker engulfed by grain;
  • In May 2010, OSHA fined a South Dakota wheat cooperative more than $1.6 million following the death of a worker engulfed by grain; and
  • In August 2010, OSHA fined a Wisconsin grain cooperative $721,000 after a worker was buried up to his chest in frozen soybeans for four hours.

In the warning letter, Michaels specifically directs employers to take the following precautions when workers enter grain storage bins:

  1. Turn off and lock out all powered equipment associated with the bin, including augers used to help move the grain, so that the grain is not being emptied or moving out or into the bin. Standing on moving grain is deadly; the grain acts like ‘quicksand’ and can bury a worker in seconds. Moving grain out of a bin while a worker is in the bin creates a suction that can pull the workers into the grain in seconds.
  2. Prohibit walking down grain and similar practices where an employee walks on grain to make it flow.
  3. Provide all employees a body harness with a lifeline, or a boatswains chair, and ensure that it is secured prior to the employee entering the bin.
  4. Provide an observer stationed outside the bin or silo being entered by an employee. Ensure the observer is equipped to provide assistance and that their only task is to continuously track the employee in the bin.
  5. Prohibit workers from entry into bins or silos underneath a bridging condition, or where a build-up of grain products on the sides could fall and bury them.
  6. Test the air within a bin or silo prior to entry for the presence of combustible and toxic gases, and to determine if there is sufficient oxygen.
  7. Ensure a permit is issued for each instance a worker enters a bin or silo, certifying that the precautions listed above have been implemented.

OSHA also indicates an intention to step up criminal enforcement and inspections. In his letter, Michaels cautions that if an employee dies in a grain storage facility, OSHA may refer the incident to the Department of Justice for criminal prosecution under the criminal provisions of the Occupational Safety and Health Act of 1970. Michaels has also indicated that OSHA intends to initiate inspection programs targeting grain facilities in the Midwest and Great Plains states. In the face of this stepped up enforcement, it is important for grain facilities to be aware of the OSHA standards applicable in the industry.

While Michaels’ letter focuses on worker safety while in grain storage bins, many other workplace safety requirements apply to grain handling facilities as well (and will likely also be subject to increased scrutiny). Some of these applicable requirements are discussed briefly below.

Preventative Maintenance and Inspection

All mechanical and electrical equipment must be kept in proper operating condition. The employer must annually inspect the mechanical and safety control equipment associated with dryers, grain stream processing equipment, dust collection equipment (including filter collectors), and bucket elevators.

All equipment must be lubricated and maintained according to manufacturers’ recommendations, or as necessary. Equipment that malfunctions or operates below desired efficiency must be promptly repaired or removed from service. Repairs and inspections of equipment must be properly logged.

All employees who repair, service and operate equipment must be familiar with the employer’s locking out and tagging out procedures.

Housekeeping

Employers must develop and implement a written housekeeping program that prevents combustible material from accumulating. According to OSHA, grain dust is the main source of fuel for explosions in grain handling facilities. The use of compressed air to remove grain dust is only permitted when all machinery that presents a source of ignition in the area is shut down, and all other known potential ignition sources are removed or controlled.

The written program must include:

  • Frequency and methods of reducing dust accumulations on ledges, floors, equipment, and other exposed surfaces;
  • Identification of “priority” housekeeping areas known to be potential sources of ignition, including:
    • Floor areas within 35 feet of inside bucket elevators;
    • Floors of enclosed areas containing grinding equipment; and
    • Floors of enclosed areas containing grain dryers located inside the facility.
  • Methods for immediate removal of grain dust in excess of 1/8 inch in priority areas, or assurance that equivalent protection is provided; and
  • Methods for removing grain (not dust) and product spills from work areas.

Emergency Action Plan Requirements

Employers must develop and implement a written emergency action plan available to employees for review (unless the employer has ten or fewer employees, in which case the plan may be communicated orally). The plan must include, at a minimum, procedures for the following:

  • Reporting a fire or other emergency;
  • Emergency evacuation, including exit route assignments;
  • Employees who remain to operate critical plant operations before evacuating;
  • Accounting for all employees after evacuation; and
  • Employees performing rescue or medical duties.

The plan must also include the name or job title of employees who may be contacted with questions about the plan.

Alarm System

Employers must have and maintain an employee alarm system with a distinctive signal for each purpose.

Employee Safety Training

Employees must receive safety training at least annually and when changes in job assignments will expose them to new hazards. All employees must be trained in at least the following:

  • General safety precautions, including recognition and preventative measures for the hazards related to dust accumulations and common ignition sources such as smoking; and
  • Specific procedures and safety practices applicable to their job tasks, including housekeeping procedures, hot work procedures, preventative maintenance procedures, and lock-out/tag-out procedures.

Employees assigned special tasks, such as bin entry and handling of flammable or toxic substances, must be provided training to perform these tasks safely.

Hot Work

Employee performing “hot work,” including electric or gas welding, cutting, brazing or similar flame-producing work, must use a permit system. This is to ensure that the employer is aware of hot work being performed and that appropriate safety precautions are taken. (The required safety precautions can be found in 29 C.F.R. § 1910.252(a), but are outside the scope of this article.)

The permit system is not required:

  • Where the employer or employer’s representative (who would otherwise authorize the permit) is present while the hot work is being performed;
  • In welding shops authorized by the employer; and
  • In hot work areas authorized by the employer which are located outside of the grain handling structure.

In light of OSHA’s recent comments and increased scrutiny of the grain industry, operators would be wise to review safety policies and ensure that they are in compliance with all applicable requirements. The above requirements are provided as examples only of the types of workplace safety requirements imposed on grain handling operations. This articles does not, and is not intended to, summarize all safety requirements applicable to grain operations. Among other things, it does not consider state and other laws, which may impose worker safety requirements above and beyond those imposed by federal OSHA. For specific guidance, consult an attorney. For more information, visit the below websites.

Jan 9, 2011

The Challenges of DDGS Caking in Transit

The challenges of unloading Distillers Dried Grains with Solubles (DDGS), the major co-product of corn ethanol production, from hopper cars or ship cargo holds at their points of destination have been a major logistical problem facing the marketing of DDGS.

Product caking in hopper cars is primarily the major problem when hopper cars turn up “hard” with nonflowable product (Figure 1). This problem has led to two Class I railroad carriers announcing that they will not permit railroad-owned hopper cars to be used to haul DDGS. Also, a third Class I carrier does not permit their cars to be used for hauling DDGS, even though the carrier did not make this explicit statement in its tariff.

When product cakes up in hopper cars, it takes time and money to dislodge, increasing the cost of shipment. Additionally, customers or suppliers are discouraged from shipping products to those markets, limiting potential buyers. DDGS typically begins as a flowable dried bulk product, but could end up as a caked mass during storage or shipment (Figure 2). The causes of caking and conditions at which caking occurs is the primary goal of this article.

Why DDGS cakes

In general, bulk solids are dried to very low moisture for safe storage and handling. But, the fluctuations in environmental humidity and temperature induce moisture adsorption on the particle surface or moisture absorption into the bulk. During transportation and storage, DDGS is exposed to various temperature and humidity environments. Exposure of DDGS to adverse conditions promotes chemical and physical instability leading to caking and quality loss. Especially, moisture interaction with free-flowing DDGS transforms them into a caked mass. The higher the equilibrium moisture content (EMC) of DDGS at a given environmental relative humidity (RH), the higher will be the propensity for caking to occur. Knowledge of moisture sorption isotherm is important for transportation to longer distances and moisture changes during storage, and can be used to understand the storage stability of powdered food and feed components. Based on the prevailing weather conditions, sorption isotherms can be used to establish critical moisture levels that may be encountered during storage and transportation.

Temperature considerations

A 2008 study by Ganesan et al indicated that higher environmental temperature increases the sorption capacity of DDGS indicating the possibility of occurrence of mold growth during storage. Kingsly and Ileleji noted considerable increase in DDGS moisture content after 60% RH with a steep rise above 70% RH. For storage stability of DDGS, optimum conditions with equilibrium moisture content 15% corresponding to less than 50 to 60% RH can be considered safe in the temperature range of 20 to 30 C. However, drying to about 10% moisture would be a prudent approach to reduce the propensity of caking to occur in warm and high RH environment.

Chemical composition

High variability in chemical composition of DDGS can alter its safe moisture level for storage. A recent study conducted by Kingsly et al indicated that the chemical composition of DDGS is highly related to the blend ratio of wet distillers grains (WDG, also known as wet cake) and condensed distillers solubles (CDS, also known as syrup) during drying.

The variability in physical and chemical composition from plant to plant and even from batch to batch makes it difficult to fix a standard moisture content for DDGS storage and transportation, since solid-moisture interaction depends on inherent chemical composition.

In DDGS, the amount of CDS added during production of DDGS can influence the moisture sorption behavior and decrease in CDS will decrease its affinity for water. Although some of the chemical components present in DDGS like protein, sugars, oil and glycerol are nutritious and energy dense, they have a high attraction to moisture. Mostly the protein and glycerol components have been shown to have the most effect on the moisture sorption of DDGS.

For long-term storage or for transportation to longer distances in high RH conditions, DDGS may be prepared with less CDS without compromising the nutritional quality. New evolving dry-grind processes which extract the oil from the CDS (syrup) would definitely change the moisture sorption behavior of DDGS for the better, and thus reduce its propensity to cake.

The model which we have developed to predict the moisture sorption of DDGS based on the chemical composition could be incorporated into NIR analyzers to predict the moisture sorption of DDGS from these new processes, and can provide a useful decision tool available at ethanol plants to determine the propensity of their product to cake when being shipped to various locations.

Emerging research

To understand more about the moisture-DDGS interaction at particle level and its effect on caking, a microscopic study was conducted at Purdue University. The study gave a better understanding of the fundamental mechanisms of particle caking in DDGS and revealed the role and interaction of particles with moisture in humidifying and dehumidifying environments.

As shown in Figure 3, formation of liquid bridges in DDGS samples was noted above 60% RH due to adsorption of vapor from the atmosphere. In spite of the temperature difference, the humidity range at which the onset of liquid bridge started was almost similar at 5 and 10 C. Inter-particle bonding, as influenced by humidity and temperature, has a very important influence on the mechanical properties of powders. The liquid bridge formed by absorption of moisture during humidifying (wetting cycle) hardened and led to the formation of a solid bridge between the particles during dehumidifying (drying cycle).

The fluctuation of RH and temperature during storage and transportation such as wetting and drying cycles likewise will induce irreversible bridging between DDGS particles leading to particle agglomeration, and progress toward a nonflowing bulk. The induction of caking due to increase in humidity is a result of storing or transporting DDGS above the RH range of 60 to 65%.

For DDGS, a complex multicomponent bulk solid blend containing particles of different chemical components, an increase in temperature will result in greater stickiness and caking. The temperature at which stickiness increases is called the glass transition temperature. The glass transition behavior of any material depends on the chemical composition, molecular weight and the amount of plasticizing chemical such as moisture and glycerol.

The susceptibility of DDGS to environmental temperature increases with increase in moisture content. Higher levels of glycerol and sugar components in CDS reduce the transition temperature of DDGS, and thus increasing CDS levels in DDGS reduces the temperature at which the onset of caking begins.

Our studies show that stickiness of DDGS particles can initiate at an environmental temperature of 21 C for DDGS at 9% moisture having 29.7, 12.0, 5.9, 8.5 and 6.0 crude protein, crude fat, crude fiber, glycerol and total reducing sugars (% dry basis), respectively. But for DDG produced without any CDS, and having 34.4, 8.3, 8.5, 2.3 and 3.3 crude protein, crude fat, crude fiber, glycerol and total reducing sugars (% dry basis), respectively, the transition temperature increased slightly to 23 C. This means the former DDGS product will cake before the latter DDG product under increasing temperature and RH conditions. The dependence of glass transition of DDGS on the chemical composition makes it possible for control by varying its chemistry in the production process to match the climatic conditions which would prevent caking of the product during transportation to the final destination.

Storage and transportation solutions

Based on how DDGS is currently stored in flat storages and transported in railcar hoppers, it is definitely a challenge to find ways to control storage and environmental conditions in these applications.

As a first step, ensure that the product is cooled down after drying to the prevailing ambient temperature as fast as possible prior to loading into a railcar. Improper cooling — loading a warm product into hopper cars or ship cargo holds — would increase the propensity of caking to occur and the product would be potentially difficult to dislodge upon arrival at destination.

Any way by which the product can be covered (tarped) to limit moisture exchange with the environment should decrease its propensity to cake. The effectiveness of these solutions has not yet been investigated by the authors, and will be pursued with the industry in the near future. So we welcome any feedback from interested collaborators.

Dec 9, 2010

KC Wheat Futures Shift Gears

2010 has been rough on hard red wheat farmers, merchants, and the Kansas City Board of Trade. Farmers watched KC wheat drift lower from late 2009 until harvest. Exporters struggled to sell hard red wheat before harvest against cheaper overseas offers. But adverse weather slashed Canada’s wheat crop by 17% and the FSU crop by almost 30% and wheat futures climbed as the scope of the problems widened.

Then a 1+ billion bushel US hard red wheat harvest arrived. Terminals were ready, the early boats were in port, and the combines rolled. Elevators were overrun with wheat, but a lot of the new wheat couldn’t meet export protein specs. Terminals dropped the basis for this wheat, with some markets falling 50+¢ in a matter of days. Country elevators continued to buy, hedge, and held wheat, then more wheat. Basis continued its slide even as some exporters struggled to find quality wheat for their export commitments.

In Kansas City, wheat futures were climbing and many elevator managers struggled to meet margin calls on their short hedges. Some firms weakened their bid basis further to increase their handling margin on the higher-priced wheat. More speculative money bought wheat futures, drawn by the news of global crop woes and by bullish technical signals. Managed money’s net longs in KC wheat climbed 50,000 contracts from late June to early August (futures and options combined) and KC wheat futures moved from $4.90 to $7.25 in five weeks!

But elevator wheat bids trailed further as futures rose, with basis at some interior locations at -150 or lower. The prospect of a record corn crop coming in the Plains states only added to the space woes. Elevators were concerned; they owned large quantities of hedged hard wheat from higher basis values, with cash prices diverging from futures and no way to sell the wheat profitably. Farmers also began to complain loudly about cash prices not following futures, again attracting the attention of the Commodity Futures Trading Commission in Washington.

An omen for KCBT

The principle of convergence is central for effective hedging: Cash prices and futures should come relatively close together in the delivery market during the delivery period for futures. Hard red wheat basis convergence hasn’t been very good in recent years, and when basis nose-dived away from KC futures in 2010 to record lows, regulators responded quickly and decisively. The CBOT/CME had already gone through their turn in the regulatory barrel after soft red wheat basis had fallen to historically cheap levels as far back as 2006 with minimal recovery. This had raised the ire of farmers, elevators, and Congress, yet SRW basis remained depressed from 2007 through 2009. After two years of analysis and implementing small steps that might aid convergence, the CBOT passed their Variable Storage Rate program in November 2009 which took effect July 2010. The CBOT’s path to convergence took this route:

  • CBT capped ownership of Delivery Shipping Certificates by non-commercial entities to 600, three million bushels (effect Feb 2009).

  • Added delivery locations in northern Ohio and along the Ohio River for CBT wheat (effect July 2009).

  • Added a seasonal storage rate from July 15 through December 15 (effect July 2009).

  • Lower vomitoxin standard took effect September 2009.

  • VSR (Variable storage rate program) replaced the Seasonal Storage Rate (effect July 2010).

  • Vomitoxin standard will decline again, to 2 ppm effective September 2011.

CBOT’s VSR concept is simple in theory but complex for traders and hedgers to execute. Traders must now anticipate what a storage rate might be months or even years in the future when setting spreads. VSR sets a timeframe during which the front-month CBT wheat spread is monitored against a “Full Carry” formula. If the spread stays above 80% of FC during the allotted time, the delivery market daily storage rate will be increased by $.001/bushel on a designated date. If the average spread is below 50% of FC at the end of the analysis period, the delivery market storage rate will decline $.001 per bushel, but with a floor at $.00165/bu/day (5¢/month). Note: only one change of $.001/bushel/day can occur on any delivery cycle, for a maximum change of $.03 per bushel per month. There is no limit, however, on high the rate can eventually go. As of December 2010, CBOT’s wheat storage rate is at 14¢ per month!

KCBT’s response

The KCBT Board of Directors and the exchange’s wheat committee monitored the CBOT’s changes and observed soft red wheat contract performance, but pressure on KC for dramatic change wasn’t heavy. Hard red wheat cash and futures were tracking reasonably well and basis values were high enough that farmers were satisfied. But 2010 threw a wrench in those gears.

The Kansas City Board of Trade’s wheat committee studied the situation and debated first whether any change was necessary; amending terms of a futures contract is a major step, after all. (Some ‘issues’ are seasonal or a function of an unusual crop and resolve themselves in time.) But the pressure from hedgers and from regulators increased as cash and futures remained far apart into the fall of 2010. KCBT’S wheat committee and board continued their review, and submitted a final proposal for membership vote to approve contract changes, which passed on November 30, 2010. Under CFTC regulations, approval will be automatic unless the CFTC finds material problems with KC’s amendments.

New Rules of the Road

These are the major amendments to the KCBT hard red winter wheat contract, effective with the September 2011 futures contract month, pending CFTC approval:

  1. The base storage rate on deliveries rises from 4½ ¢ per bushel per month ($.00148 per bushel per day) to 6¢ per bushel per month ($.00197 per bushel per day), during the calendar months of December through June;
  2. During the months of July through November, there will be an additional Harvest Storage Premium added at 3¢ per bushel per month ($.00099 per bushel per day). This raises the effective storage rate during these months to 9¢ per bushel per month ($.00296 per bushel per day);
  3. The Harvest Storage Premium shall become effective on September 1, 2011;
  4. Effective with the September 2011 futures contract, deliverable grades of HRW shall contain a minimum 11% protein level. Protein levels of less than 11%, but equal to or greater than 10.5% are deliverable at a ten cent (10¢) discount to contract price. Protein levels below10.5% are not deliverable; (There is no protein requirement on KC delivery wheat under existing rules.)
  5. Holders of outstanding warehouse receipts following the expiration of the July 2011 contract month will have five (5) business days (August 24-30, 2011) to present such warehouse receipts to the issuing warehouse for upgrading to reflect a deliverable protein level. The issuing elevator may charge the holder twelve cents (12¢) per bushel to upgrade receipts with a designation of 11% minimum protein, or two cents (2¢) per bushel to upgrade receipts with a designation of 10.5% minimum protein. Warehouse receipts not upgraded shall not be deliverable against futures contracts from September 2011 forward;
  6. Effective September 1, 2011, the vomitoxin restriction shall be reduced from 4 ppm (parts per million) to 2 ppm.

Raising a delivery storage rate increases the cost of holding delivery instruments (warehouse receipts or shipping certificates), and widens Full Carry (FC) by that same amount. Reducing the maximum vomitoxin raises the quality of the wheat for a buyer, and all else equal may add to the value of the wheat. Adding a minimum 11% protein requirement also raises the potential value of wheat futures to a buyer. KC’s “seasonal storage rate” has the benefit that it’s a known, fixed premium, which reduces spread risk for traders.

Raising Full Carry can help isolate surplus inventory from the market. (“Why sell the basis today, the spread is paying me far more than my costs….”.) This in turn can raise the nearby basis – one step towards convergence. Raising Full Carry also makes it somewhat less attractive for speculators to buy and hold front-month wheat futures as they might have to ‘roll’ those longs forward in a wide carry. Some believe front-month spec longs artificially keep wheat futures above ‘real’ cash values and discourage convergence.

It’s too early to say for certain whether the changes are good for either Chicago or KC’s wheat contract, and whether convergence will improve. The KC amendments take effect September 2011, and VSR is still new to Chicago.

Changes that affect KC wheat affect country elevators

One issue for the KC contract is that Kansas wheat doesn’t always grade 11% protein. That poses the risk that the available wheat would not make delivery grade. The result could be a cash value for wheat far below futures at times, which could cause basis divergence rather than convergence.

On the positive side, the KC wheat contract amendments will allow wider futures carries to develop when basis is weak and wheat is plentiful. But wider potential carries also mean greater uncertainty as to what constitutes a ‘good’ carry relative to a country elevator’s holding cost. Some of the risk that’s currently reflected in volatile basis can transfer to spread volatility after the changes takes effect in 2011. Learning how to calculate the new Full Carry rates will be important!

Full (futures) carry = (daily storage rate + daily interest cost) X days in the delivery cycle

Simplified example, assuming $7 wheat, .3% (3-mo Libor) and a 60-day delivery cycle:

$.00296 (storage) + $.000447 (2% over Libor times $7) X 60 days = 20.4 ¢ Full Carry

The new KC program effectively widens Full Carry for Sept11/Dec11 KC wheat to 30+¢ (27¢ storage plus interest). Actual storage and FC are based on the exact number of days for the three month cycle. Adding the 11% protein requirement doesn’t affect the Sept/Dec11 spread but it does put a one-time premium of 12¢ per bushel on Sept receipts over July 11 receipts, which has the effect of widening the July11/Sept 11 Full Carry by 12¢.

Managers and traders have a learning curve to negotiate and have to reframe their spread and basis expectations. Higher delivery storage rates don’t guarantee higher basis; they only offer a transparent alternative: Wider futures carries for holding the wheat until somebody wants it. Adding the changes to the risks associated with high futures volatility, extra caution is in order when buying and merchandising 2011 crop wheat, and wider margins are well-justified.

Recently Added to Buyer's Guide

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3-Rolls Assembly Upgrade

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Pneumatic Conveying System

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I/O Interface

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Marketwatch: May, 28

US Corn Price Idx: ZCPAUS.CM

open: 7.6273
high: 7.741
low: 7.6223
close: 7.7113

US Soybean Price Idx: ZSPAUS.CM

open: 16.9414
high: 17.1044
low: 16.9237
close: 16.9795

US Hard Red Winter Wheat Price Idx: KEPAUS.CM

open: 11.718
high: 11.9549
low: 11.658
close: 11.7977

US Soft Red Winter Wheat Price Idx: ZWPAUS.CM

open: 10.8628
high: 11.0906
low: 10.8128
close: 10.9646