Drought Is a Bad Recipe for Tyson and Rivals

by Susan J. Aluise | August 8, 2012 7:30 am

As the nation’s heartland struggles through the worst drought in nearly 60 years, Tyson Foods’ (NYSE:TSN[1]) huge earnings hit on Monday could be a warning shot for other meat processors, which will soon bear the brunt of far higher animal feed prices.

Frugal consumers, wary of the iffy economy, already were buying less meat and poultry. Tyson’s gloomy outlook likely will resurface with Hillshire Brands (NYSE:HSH[2]), which reports earnings on Thursday. Hormel Foods (NYSE:HRL[3]), Smithfield Foods (NYSE:SFD[4]), ConAgra (NYSE:CAG[5]) and Pilgrim’s Pride (NYSE:PPC[6]) also are expected to battle the twin challenges of higher commodity costs and lower consumer demand for meat in the coming months.

Tyson shares fell by nearly 8%[7] in heavy trading Monday on news that the nation’s largest meat processor’s third-quarter earnings were 61% lower than it posted for the same quarter last year. Even more troubling news: TSN shaved $1 billion off its sales estimates for the rest of year. It now forecasts $33 billion for all of fiscal 2012. The company also warned that a drought-related rise in grain costs will pressure its earnings in 2013.

TSN’s most recent results missed Wall Street estimates on the top and bottom lines. Profit fell to $76 million (21 cents a share) down from $196 million (51 cents a share) for the same quarter last year. Although sales rose marginally to $8.31 billion from $8.25 billion in the same quarter in 2011, analysts had expected $8.72 billion.

The miss was even more significant given last quarter’s slumping sales. Tyson was just getting off the mat after last quarter’s beef sales took a hit over the so-called pink slime ground-beef filler[8]. Beef sales plummeted nearly 11% in the company’s second quarter, causing TSN to miss analysts’ estimates on the top and bottom lines then as well. At the time, company officials expected momentum to pick up in the second half of the year.

Tyson’s gloomy forecast is a vivid illustration of 19th century economist Alfred Marshall’s laws of supply and demand. The severe drought across America’s Grain Belt reduces the supply of feed grains like corn, driving up prices — and the costs are passed through to farmers and ranchers, processors, and eventually consumers. Taken together, these factors form a virtual Bermuda Triangle for meat and poultry producers.

So how do you invest in the worst drought in more than half a century? Very carefully. A lot of stocks are poised to wither[9], as InvestorPlace contributor Jonathan Berr[10] recently discussed. Some investors like to play the drought with exchange traded funds (ETFs) like Teucrium Corn (NYSEARCA:CORN[11]) or iPath Dow Jones-UBS Grains Subindex Total Return (NYSEARCA:JJG[12]) — which have both risen more than 30% over the past three months.

But what about meat and poultry producer stocks like Tyson? Although these companies’ earnings will take a hit in the next year or two, now is not the time to panic into a fire sale. Why? Because consumers won’t give up meat and poultry for long — and growth in meat consumption in emerging markets like China will help spur demand. And as history confirms, sooner or later, it’s going to rain.

When severe drought hit the U.S. back in 1983, food stocks were hammered during that long, sweltering summer as investors feared the impact of higher commodity costs. But that fall, strong earnings gave the sector a bounce, and many food company stocks wound up ending the year ahead of the broader market.

So for investors with a longer time horizon, meat processors’ short-term pain could end up being shareholders’ gain.

As of this writing, Susan J. Aluise did not hold a position in any of the stocks named here.

  1. TSN: http://studio-5.financialcontent.com/investplace/quote?Symbol=TSN
  2. HSH: http://studio-5.financialcontent.com/investplace/quote?Symbol=HSH
  3. HRL: http://studio-5.financialcontent.com/investplace/quote?Symbol=HRL
  4. SFD: http://studio-5.financialcontent.com/investplace/quote?Symbol=SFD
  5. CAG: http://studio-5.financialcontent.com/investplace/quote?Symbol=CAG
  6. PPC: http://studio-5.financialcontent.com/investplace/quote?Symbol=PPC
  7. Tyson shares fell by nearly 8%: https://investorplace.com/2012/08/tyson-shares-slump-after-q2-misses/
  8. pink slime ground-beef filler: https://investorplace.com/2012/03/pink-slime-is-suppressing-beef-demand/
  9. stocks are poised to wither: https://investorplace.com/2012/07/summers-draught-will-wither-lots-of-stocks/
  10. Jonathan Berr: https://investorplace.com/author/jonathan-berr/
  11. CORN: http://studio-5.financialcontent.com/investplace/quote?Symbol=CORN
  12. JJG: http://studio-5.financialcontent.com/investplace/quote?Symbol=JJG

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