Tyson Foods looks to value-added for more profits

The notion of adding value to a raw commodity product is not new. But it’s core to Tyson Foods’ efforts to push profits higher in the next three years, according to CEO Donnie Smith.

Last year roughly 45% of Tyson Foods’ sales came from value-added products. That was $15 billion of the $33.3 billion the meat giant posted in total revenue, according to analysts with Fitch Rating Service.

Smith wasted no time investing in this initiative with the recent announcement of $40 million in capital expenditures to expand four production facilities. Plants in Sherman, Texas and Goodlettsville, Tenn., are in the midst of redevelopment as well as a recently finished expansion at Tyson’s Glen Allen, Va., plant. Also a Tyson subsidiary, The Bruss Company, recently openly a second plant in Jacksonville, Fla.

"Our strategy is to accelerate our growth in domestic value-added poultry and Prepared Foods, as well as international poultry, and we're executing that strategy," Smith said during the company’s Feb. 1 earnings call. "Some of the steps we're taking to grow our domestic value-added sales include expanding 3 plants."

He said the Sherman and Goodlettsville plants are part of a "case-ready meats" initiative, producing beef and pork as consumer demand has driven a need for meats that are cut, packaged, and ready to be sold in a grocer's meat case.

These plants will get new equipment and additional production lines. The Glenn Allen and Jacksonville plants produce chicken and steak, respectively.

Smith said Tyson will increase its value-added sales by 6 to 8% – that’s about $1 billion annually. And he pledged to grow international in-country sales by 12% to 16% as the firm’s poultry operations in Brazil and China ramp up this next year.

Tyson reported international in-country sales of $1.5 billion last year from its operations, according to a filing with the U.S. Securities and Exchange Commission.

At the 16% increase rate Tyson would see a $240 million improvement in its international in-country sales annually.

"In China, as we bring on more company-owned housing in 2013, allowing us to move more of our mix away from wholesale and into more desirable channels, we will reduce our losses substantially," Smith said. "We're also executing better in Brazil, and we'll benefit from the progress we're making there in moving our mix to include more value-added offerings."

The firm lost $105 million last year in these two international ventures.

Smith said the firm will grow its existing domestic businesses as the go-to supplier for its customers with product innovation and service.

Last week Tyson announced the purchase of Utah-based Don Julio Foods. This deal will give Tyson the opportunity to get its tortillas and chips into retail outlets. Tyson is now the second largest manufacturer of tortillas in the country as it is a major supplier to Yum Brands! Taco Bell and hundreds of food service customers.

Financial terms of this deal were not disclosed, but it’s another example of how Tyson is working to get its products in front of more consumers.

“We'll make headway into other channels like convenience stores.Our intention is to grow that business aggressively." Smith said.

With the efforts under way in 2013, Tyson expects topline revenue growth of 3.5% to $35 billion this year.

The push to sell more value-added products is just one way meat processors hope to combat volatile grain costs and other risks to profit margins year in and year out, according to Michael Thomsen, professor of agricultural economics at the University of Arkansas.

He said a U.S. Department of Agriculture report indicates just 14.1 cents of every food dollar spent in this country is the farm or commodity share. The other 85.9 cents is attributed to processing. marketing and preparation all the way to the fork.

“Roughly 50 years ago, that farm share of every food dollar was about 40%. But over time consumers began wanting more convenience and were willing to pay it,” Thomsen said.

The truth is meat processors of all sizes are moving away from commodity-based operations and looking for ways to fatten the bottomline, according to Jason Apple, meat science professor at the University of Arkansas.

“The poultry companies have been doing a a really good job of this for years. But beef and pork companies are also in this game more than ever before,” Apple said. “Think back 25 years when shopping for chicken meant buying a whole bird. I doubt very many consumers today even know how to cut up a chicken. They don’t have to, consumers buy the parts they want without the bones, already trimmed, marinated and pre-cooked in some cases.” Apple said.

Apple and Thomsen say adding value to a commodity product will increase the overall profit margin, but it also increases the input costs for the processor, which is then passed on to consumer.

Judi Rosetti, an analyst with Fitch, applauds Tyson’s move toward mitigating the risks associated with low margin commodity protein processing by accelerating growth in higher margin value-added products and faster growing markets like China.

This past year when grain prices reached all-time highs, Tyson resorted to buying commodity chicken on the open market to fill certain orders, instead of growing that chicken in its production operations.

Smith said the company would not over produce chicken at sky-rocket grain costs and would err on the side of caution, buying commodity chicken parts and then further processing them for its customers.

He said the company's focus on value-added, along with its buy-versus-grow strategy helped reduce its exposure to rising commodity costs.

Tyson expects to spend an additional $600 million in feed ingredient costs in fiscal 2013, which it says it will need to offset through pricing and other measures.

BB&T Capital Markets analyst Heather Jones said Tyson has tweaked its business model from just five years ago and it’s been a move for the better.

"It put meat on the argument that not only should it be able to generate relatively stable earnings given the multiple levers it has to pull, but should also be able to post meaningful secular growth on the back of its forays into international, as well as its further push into value-added," Jones said following the recent earnings call.

"In our view, the reduced likelihood of dramatic swings in earnings and a secular earnings growth should yield multiple expansion. Consequently, we still foresee meaningful potential upside to the shares over the next 12 months," Jones noted.

Tyson shares have rallied in recent months following Smith’s vow to grow sales amid the still-challenging economic climate.

Shares of Tyson Foods closed Wednesday at $23.56, down 57 cents on weakening beef margins and worries that federal meat inspectors will face furloughs if lawmakers continue with proposed spending cuts.

But Tyson shares have risen in price some 26% since January 1. For the past 52 weeks the stock price has ranged from $14.07 to a high $24.31 set Tuesday (Feb. 19.)

Analysts give Tyson Foods shares a one-year target price of $26.73, which will likely be raised in the coming days following the recent rally.