Vertical integration the answer to big changes ahead for beef

Certainly that is the experience of Australia’s oldest, and the world’s largest, cattle producer, Australian Agricultural Company.

Since introducing monumental change in the way it operated four years ago, with a focus on integration and the end market, AACo has put itself in a remarkable position.

It is now producing more revenue with fewer cattle and more profit with less revenue.

Chief executive officer Jason Strong outlined the ‘why and how’ of AACo’s vertical integration shift in a fascinating presentation at the Yulgilbar Beef Expo and Forum, held on the Myer family’s historic cattle operation near Grafton yesterday.

He started with the quip that a talk on vertical integration in beef could be a very short one, such is the nature of how the concept has eluded our industry.

But the need for it is blatant.

“We’ve just seen three years of unprecedented margins for processors followed by two years of unprecedented prices for producers,” he said.

“Neither are any good for the long term profitability of the industry.

“In both cases, there were people in each sector realising this isn’t a good result but at the same time there were plenty of us taking advantage and sticking it to other side for as long as we could.

“There isn’t a huge shift season-on-season in total margin in the beef supply chain.

“However, there are massive shifts in where that margin actually sits.”

In the last five years there have been cases where all the supply chain margin has sat with a single sector.

When that happens, we should keep in mind that everyone one else is receiving a negative, and - as we have seen this year with the processing sector - some parts are running at a significant loss.

That makes it impossible to run a sustainable business, according to Mr Strong.

AACo, which owns and operates 21 stations, two farms, two feedlots and a processing plant near Darwin, running 540,000 head across 7 million hectares of land, works closely with partners to background, grain feed and process cattle.

It sounds like the perfect model for vertical integration but AACo is actually relatively new to the approach.

Established 1824, it became a public company in 2001 and in the past four years introduced big management changes to the tune of integration.

Since 2001, AACo’s revenue increased six fold to a high last year of $489m.

The company’s assets increased more than fivefold to over a billion dollars in that time.

“They are big numbers but they’re not that helpful because over that period of time we’ve produced over $4.3b in revenue but our net operating cash flow has been negative,” Mr Strong said.

“2013 was the turning point.

“Our debt had reached a record high, our herd peaked at 685,000 head and our profit was the second lowest we’d ever had.

“Something had to change it had to be dramatic.”

That change was vertical integration.

AACo recapitalised, decided to be a beef company rather than a cattle company and came to a few realisations about itself.

The main one was that bigger is not always better.

“High land and cattle assets are no value if they’re not put to work,” Mr Strong said.

“There’s no point investing in genetics and production efficiencies if you can’t maximise the benefits of those because you have to sell the cattle before they reach their genetic potential.

“We could see we had to integrate the business units that had been operating largely in isolation of each other.

“You shouldn’t underestimate the ability of good people to adapt and make change given opportunity.”

Since 2013, AACo has reduced its herd by 20pc.

The percentage of revenue derived from beef sales has lifted by 70pc. Today, more than 85pc of AACo’s income comes from branded beef sales.

Revenue overall has increased by 40pc.

Most importantly, the company has increased operating cash flow from a negative in 2013 to a positive of just over $29m this last year.

“Since 2013 we’ve shown you can produce more revenue from less cattle,” Mr Strong said.

“Even though our revenue declined by 10pc in 2017 we actually improved our profit year-on-year threefold.”

How did it happen?

A plan with core pillars was set in place. They were: integrating supply chains, investing in innovation and technology and focusing on branding and marketing.

“We moved away from individual business unit decisions to a supply chain approach,” Mr Strong explained.

“Station targets are based on kilograms of production and we have one point of revenue recognition - our price per kilo on branded beef sales.

“Our farms now grow inputs for our feedlots and fodder crops to supplement our stations, rather than opportunistic cash crops.

“We’ve largely stopped selling cattle to other markets, reduced purchases of external cattle, reduced our sales to live export and channelled all these cattle into our branded beef program.”

Forecasting demand with customers well into the future began, which enabled “every calf breeding decision to be made with an end market in mind.”

“Owning our animals as far down the supply chain as possible enables us to create and capture the most value possible,” Mr Strong said.

“It also gives us a point of difference to other beef exporters and a lot more control over the end product quality.”

GETTING the right product to the right people in the right condition at the right time -  that’s what Australia’s beef industry needs to be aiming for to stay profitable in a fast-changing world, according to the man at the helm of the country’s biggest cattle company AACo.

Chief executive officer Jason Strong says as food producers, the quality and consistency of Australian beef is of utmost importance in securing the future of our industry.

“This means we need to get better as an industry at producing consistently tender, flavoursome and juicy beef if we are going to maintain and grow our markets,” he said.

“It’s that simple.”

AACo, he said, puts a lot of work into defining its products based on eating quality and not just carcase specifications that mostly consumers don’t understand.

“We’ve invested in building brands that are deeply Australian,” he said.

“As we develop downstream relationships and better understand the complete supply chain, one thing that strengthens our resolve for vertical integration is the erosion of margin from the producer through to the consumer.

“When you see our product displayed in Harrods in London selling for the equivalent of 495 Australian dollars a kilogram, knowing that we sold it for less than $100/kg, you think there must be a couple of people between us and them driving Ferraris.”

But it’s not about cutting people out of the system, it’s about making sure they are properly connected to capture all of the margin that exists, according to Mr Strong.

It’s done by building better relationships, reducing the costs of logistics, reducing any value lost in storage, reducing under and over  ordering which creates discounting opportunities and - most importantly - improving our understanding of consumer requirements.

SIGNIFICANT change is on its way, according to the boss of big Australian beef outfit AACo, Jason Strong.

“If we are going to produce high quality and get it to the right consumers - which we need to be doing to maximise value - we have to be better aligned and better integrated,” he said.

“If you don’t think we’re up for change, ask your taxi driver what they think of Uber.”

To add further weight to the theme of change, Mr Strong spoke about a visit to AACo’s Queensland properties from Microsoft billionaire and philanthropist Bill Gates recently.

Mr Gates was investigating how AACo applies technology in livestock production with the view to replicating that to help lift others out of poverty.

In discussing his trip to Australia on his blog, Mr Gates praised our beef production systems - but he also referenced his company working on meat substitutes.

What should we take from that?

“As global demand in meat proteins continues to increase we have to get better at delivering a consistent, high quality product to our consumers, otherwise someone else will find, or invent, a way to do it for us,” Mr Strong said.