Bird flu, tainted pork and rat sold as mutton. It’s a wonder China’s 1.3 billion people don’t all go vegan.
The food scandals and latest outbreak of avian flu are already causing trouble for some important U.S.-based China plays.
Yum Brands (NYSE:YUM), operator of KFC, Pizza Hut and Taco Bell, derived more than 40% of its profits last year from its restaurants in China — mostly from the more than 4,200 KFCs it has in the world’s most populous nation.
Naturally, the latest outbreak of bird flu — which infects chicken — has put the Chinese off their lunch and caused Yum Brands’ sales there to plunge. Same-store sales at KFCs in China dropped 20% in the first quarter, and the company warned that bird flu fears will continue to weigh on results.
McDonald’s (NYSE:MCD), too, is feeling the effects. On Wednesday, the company reported lower monthly same-store sales, hurt partly by weaker results in China stemming from fears of avian flu.
But where Yum and McDonald’s see challenges, Tyson Foods (NYSE:TSN) — the biggest chicken producer in the U.S. — sees opportunity.
The company says that in the longer-term, it should benefit from avian flu fears because of its food-safety procedures. The Chinese will demand chicken that they can trust is free of pathogens — and Tyson chicken will be the winner.
As Tyson’s CEO Donnie Smith said on a conference call with analysts following second-quarter earnings:
“The avian influenza outbreak in China is troubling and is detrimental to protein consumption in the short run. The one thing that this unfortunate event has done is absolutely validated our model for extreme biosecurity.”
In the longer-term, sure, Tyson could benefit. But in the shorter-term? Don’t bet on it. If history is any guide, the avian flu outbreak — and tainted pork scandal — could play havoc with chicken and pork producers’ profits and stocks.
At least, that’s what happened the last time there was a major outbreak of bird flu.
The H5N1 avian influenza virus first popped up in 2003. By early 2006, it had infected poultry and wild birds in almost 50 countries. People ate less chicken, pork and beef. Pretty much all meat — or protein, in the parlance of the industry — became suspect.
And since it takes a while to raise chicken, pigs and cows, it’s tough for the industry to cut production quickly. It’s not like Alcoa (NYSE:AA) responding to a global aluminum glut by shutting down a bunch of smelters.
So it’s a bit worrisome that the big bird flu outbreak of the last decade caused a global protein glut. There was too much meat chasing too few consumers. And so prices, margins and profits tumbled.
The effects took a while to hit, but they hit hard. The last outbreak was first detected in 2003, yet didn’t really take off until 2005. By early 2006, though, the big publicly traded meat producers were all getting beaten up. Tyson, Smithfield Foods (NYSE:SFD) and Pilgrim’s Pride (NASDAQ:PPC) got hit by decreased demand, weaker exports and falling prices caused by the glut.
In fiscal 2006, Tyson swung to a net loss of $196 million from a year-ago profit of $372 million. Pilgrim’s Pride posted a net loss of $34.2 million against income of $265 million a year earlier. Smithfield remained profitable, but still saw fiscal 2006 net income decline 42% to $172.7 million from $296.2 million in the previous year.
Shares of the three meat producers went for a wild ride in 2006, underperforming the broader market the entire time in an otherwise strong year for equities. Have a look at the chart, data courtesy of S&P Capital IQ, below:
The latest outbreak of bird flu is contained so far, with new cases dropping off sharply after authorities restricted sales of live poultry. So past is not prologue — at least not yet.
But if this new strain of avian flu starts popping up in other countries, look out: You probably won’t want to touch the meat producer stocks, even with someone else’s fork.
The long-term opportunity for a company like Tyson might be very profitable. In the shorter-term, avian flu warrants approaching these names with an abundance of caution.
As of this writing, Dan Burrows did not hold a position in any of the aforementioned securities.