Playing Chicken May Set These Companies Up for a Crash

In what is being cleverly called a game of chicken, companies like Tyson Foods (NYSE: TSN  ) , Pilgrim's Pride (NYSE: PPC  ) and Sanderson Farms (Nasdaq: SAFM  ) are maintaining high levels of production in the face of rising input costs. That would be fine if the demand were there to support raising prices, but the companies themselves acknowledge that there is an oversupply of chicken right now. They are maintaining high levels of production not to meet demand, but to see who will cut back first and cede market share.

This is a dangerous game to play. A briefing from Paragon Economics and Steiner Consulting recently warned that there may be bankruptcies before it all plays out. Earlier this month, Pilgrim's Pride announced a quarterly loss of $121 million, its worst since emerging from bankruptcy in late 2009.

Tyson also recently reported a terrible quarter, with a 68% drop in profits. Tyson cited rising grain costs as the problem, which crushed margins in its chicken segment, down 3.2 percentage points, to a bare 1.4%.

The pain is also being felt by egg companies like Cal-Maine Foods (Nasdaq: CALM  ) , which saw feed costs rise 16%, to $0.404 per dozen eggs, while the price of eggs themselves fell lower. Similar to its meat-based peers, Cal-Maine made up the price weakness by trying to sell more product, but also shifted sales toward its value-added products like organic and free-range eggs, which command a higher price and are less sensitive to fluctuation. These moves helped sales rise 1.3%.

There doesn't seem to be much hope for feed costs going back down soon. A month ago, when Goldman Sachs (NYSE: GS  ) made its short-term bearish call on commodities, agricultural commodities were the lone exception, which Goldman saw as having "sustained elevated prices" for the next year or so. The bank has now gone bullish on commodities again, maintaining its bullish position on crop prices, but now the exception is cattle, the falling price of which will spill over into other proteins like hogs and chickens.

This industry will be shaky for some time. While feed costs remain high, you can count on these chickens to have trouble hatching. Add these companies to your watchlist to keep up to date on the latest developments.

Fool contributor Jacob Roche would like to note that reading a poultry 10-K is like reading the annual report for The Jungle. He holds no position in any of the companies mentioned. Check out his Motley Fool CAPS profile or follow his articles using Twitter or RSS. The Motley Fool owns shares of Cal-Maine Foods. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


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