Memorandum submitted by Safeway Stores
plc (A 61)
1. What determines farmers' incomes?
1.1 In real terms, UK agricultural output
prices are driven by:
— The sterling/euro exchange rate.
— Movements in farmers' input prices
(eg animal feed).
— Competition between farmers' customers,
ie food processors and retailers.
— Decisions made in Brussels on regulatory
costs.
1.2 Real prices have been falling over a
long period of time, but particularly sharply since the mid-90's.
— Between 1995 and 2000, total income
from farming fell from £5.3 billion to £1.5 billion.
Over the same period, farmers' fixed costs increased slightly
from £6.7 billion to £7.1 billion.
— The decline in incomes was due primarily
to the sharp appreciation of sterling against the EU currency
basket from 1995 onwards.
— Falling incomes have severely weakened
farmers' confidence and caused a collapse in on-farm investment.
— As the likelihood of a sustained
increase in food prices is remote, the only way in which farmers'
incomes can be substantially improved is by reducing their costs.
This in turn implies significant restructuring in order to achieve
scale economies.
1.3 On the demand side, UK consumption of
many primary products is declining:
— Liquid milk consumption is down 10
per cent, 1990-2000 (or 40 per cent since the late 1960s).
— Carcase meat (beef, lamb and pork)
sold through retail outlets for in-home consumption is down 22
per cent since 1990.
— Vegetable consumption is down 12
per cent since 1990 (fresh potatoes down 29 per cent).
1.4 Consumer preferences for food are influenced
by four factors:
— Convenience—Lifestyle changes
have been affecting eating habits for the past 20 years. The results
include a big and sustained growth in ready meals, snacking, take-aways
and eating outside the home.
— Variety—the same lifestyle
changes and rising incomes are increasing consumer demand for
a wider range of (largely) processed food, which is partly driving
the growth in UK imports.
— Fashion—in recent years we
have seen significant growth in the demand for the niche market
products, eg organic.
— Assurance—the impact of successive
food scares (BSE, GM, FMD) has undermined the confidence of some
consumers in the safety of conventional food, particularly red
meat.
1.5 Farmers have responded to these changes
by increasing their efficiency, ie substituting machinery for
labour, improving yields. In primary products, however, where
demand is static or declining, this has simply added to the downward
pressure on prices.
2. Farming and CAP Reform
2.1 The prospect of decoupling support from
production raises some basic issues about the motivation to be
a farmer and the future structure of the farming sector.
2.2 The question which farmers need to ask
themselves is why they are farming at all.
2.3 There are three possible answers:
— For lifestyle (ie tradition, private
amenity).
— For public amenity (subject to receiving
adequate tax-funded support).
— For markets (ie as a business, selling
raw materials for processing).
2.4 Lifestyle farming will probably continue
especially when supported by incomes drawn from non-farming sources.
2.5 Public amenity farming will depend on
the level of support arising from modulation and the perceived
complexity of applying for subsidies at farm level. Given the
UK's disproportionately low share of the EU's RDR budget and DEFRA's
declared preference for a "CAP Repat" strategy, the
likelihood that UK farmers will be supported at the same level
as their counterparts in some other EU member states seems remote.
2.6 Commercial farming will almost certainly
become more concentrated on large-scale units which can operate
profitably in commodity markets at low prices. This does not mean
that big is always best. Efficiency depends on the optimum use
of all inputs, which is not confined to large-scale farms. Management
skills also play an important part. But if we assume that the
farms most likely to be able to compete post CAP reform are the
relatively large arable farmers in Eastern England, the combination
of low market prices and withdrawal of production subsidies is
likely to drive further restructuring in favour of scale economies.
3. The Curry Commission's Strategy
3.1 Curry recommended that farmers should
respond to CAP reform by:
— Increasing efficiency/reducing costs.
3.2 Efficiency
— As not every farmer can get bigger,
the practical solution for many will be collaboration or some
form of co-operative venture to spread costs, pool resources etc.
— Curry proposes a Collaboration Board
to help the process along but the case is argued in general terms.
It is not clear how the Board will make a difference or how it
will operate.
— The proposed Food Chain Centre is
potentially a good idea in so far as it will carry out some useful
analysis of supply chain issues in difficult areas like livestock,
horticulture, dairy etc. But its work will be valuable only if
it leads to action.
3.3 Adding Value
— Farmers can add value by moving into
processing or small-scale manufacturing to gain additional margin.
— In most sectors (eg dairy) this would
only be practical on a co-operative/joint venture basis, which
would in turn require an appropriate level of financial support,
plus business advice and management skills. In one or two sectors,
eg dairy, it might also run into regulatory problems. However,
given the outlook for commodity prices, adding value by forward
integration would be a logical move for some farmers.
— An alternative strategy for farmers
is to move into niche markets, eg organic local food, where unit
costs can be recouped by premium prices.
— Curry believes that local food will
become "mainstream" over the next few years, but there
are some uncertainties about the market potential and also the
supply chain/logistics infrastructure required to deliver it on
a significantly greater scale.
— Organic is a £1 billion market
in the UK and growing, with substantial opportunities for import
substitution. Premium prices are essential to attract farmers
into organic, but may also be a constraint on long-term market
growth if "health scare" motivation by consumers of
organic food diminishes.
— In some markets (eg milk, lamb) organic
premia have proved unsustainable, so caution and thorough market
research are required before committing to conversion. Organic
production is not a certain ticket to success.
3.4 Diversification
— Over half of all farms in the UK
are already "diversified" in the sense that they derive
income from non-farm sources.
— In terms of moving into other crops
(eg pigs to arable), the prospects are limited partly by local
or regional topography/climate/soil and partly by the fact that
the depression in farm incomes has been general across virtually
all sectors of agriculture. Although some modest price recoveries
are being forecast in arable crops like winter wheat and spring
barley, the outlook for most livestock and dairy products is not
good.
4. Processing
4.1 Curry did not devote much space to this
critical area of the food supply chain, but its prospects post-CAP
reform will obviously impact on agriculture. Those prospects,
in general, are not encouraging.
4.2 In 1999-2000, the IGD did some detailed
comparative benchmarking on seven key performance indicators for
our beef, pig, lamb, poultry and dairy sectors relative to those
of France, Germany, the Netherlands, Denmark, Brazil, Spain and
the USA. The key performance indicators used here:
— Domestic market as an aid to competitiveness.
— Science and technology.
Each indicator was assessed on 15-25 separate
performance measures.
4.3 The results were uniformly bad for the
UK. We came bottom of the table on all seven performance indicators.
4.4 The IGD survey did not attempt a full
explanatory analysis of the reasons for this performance gap.
Clearly, however, some of these are likely to be:
— Internal, for example, poor management,
inadequate past investment, weak domestic demand.
— Structural, for example, lack of
integration between producers and processors, lack of scale economies.
— Governmental, for example, a regulatory
framework based on the assumption that markets end at Dover and
that combinations comparable in size to those achieved in some
other EU member states are contrary to the public interest.
4.5 Whatever the causes, CAP reform is likely
to intensify the pressure on UK processing. Some of it will go
out of business (eg in dairy, where there is currently too much
processing capacity relative to demand) and some will fall under
foreign control, implying a transfer of profit outside the UK.
5. What can retailers do to help?
5.1 Contrary to popular belief, the major
supermarkets do not control market prices. These are set by the
interaction between supply and demand. We react to what is happening
in the major commodity markets.
5.2 But in some markets (eg meat) we pay
premia above prevailing prices for products which achieve our
quality specification.
5.3 We also try to alleviate the ups and
downs of the market place by negotiating long-term contracts with
selected quality suppliers, which obviously helps to give farmers
more confidence in the future of their business than they would
otherwise have had.
5.4 We are expanding our range of organic
products and also of non-organic local/regional foods, although
many of these will continue to be low volume, premium lines.
5.5 Wherever possible we will continue to
source as much as we can from UK farmers and growers. Contrary
to popular belief, we do not scour the world for the cheapest
products, to the detriment of the home team. The reality is:
— While price is clearly very important
to most consumers the key driver is usually price relative to
perceived quality (ie taste, appearance).
— Selling any old rubbish at low prices
is not, in general, likely to enhance a retailer's brand name.
— Where the major retailers source
a product from outside the UK, it is usually because they cannot
source it from the UK. Supply constraints may be structural, eg
as with beef at the present time, or seasonal eg certain types
of produce, or climatic, as with bananas and other tropical products.
— The growth of low cost imports is
more likely to be associated with the foodservice sector than
with the major retailers.
5.6 Clearly, as CAP reform approaches the
UK farming and food industries face a challenging time. It is
particularly important, therefore, that we develop a more constructive,
co-operative relationship across the supply chain—without
being accused of collusion—and also between ourselves and
Government. The Curry Commission's Food Chain Centre could well
be the stepping off point for this development.
Safeway Stores plc
February 2002
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