Pork producers constantly have to make tough decisions about what moves are worth the money, and if there is a type of contract that is worth the money to have your lawyer review, it’s your packer contracts. These contracts are what can make or break your business.
During the Ohio Pork Congress last week, Amy Johnson, a lawyer with BrownWinick Law Firm in Des Moines, Iowa, shared overarching pieces of information – what she calls her Lucky Seven – that she encourages producers to keep in mind as they negotiate packer contracts.
“It’s easy to get drowned in the minutiae. But if you keep these ‘Lucky Seven’ in mind, you’ll be well-situated and well-placed to put your business in a position to do well with your packers,” Johnson said.
1. Start early.
If you want to have discussions about packer contracts, start having those conversations a minimum of six months – 12 is better and 18 is not too early – before you’re going to be required to give notice under that contract, Johnson said.
“If you’re at the end of your term, you’ve lost all your leverage,” she said. “You go to your packer and you don’t have options, because you need a place to take these pigs. If we saw anything in 2020, it’s that when there’s no place to take the pigs, there’s a big problem. And if you have a big problem, you have no leverage.”
Being in a situation where you are just looking for packers to take pigs is really the worst of all scenarios, Johnson emphasized.
2. Engage your lender.
Lenders have a wealth of knowledge and are every bit as committed to your success as you are, Johnson said. Lenders also have access to information that producers don’t, in particular, lenders see many different packer contracts and understand the pluses and minuses of the various packer contracts that are available.
“Lenders understand more of the nuances of who needs what, maybe what specific products packers might be looking for and they can help you identify those different areas of leverage that you may not be able to on your own – not because you’re not a great producer, but because of the visibility the lenders have to the industry,” she said.
In addition, she said it never hurts to ingratiate yourself to the people that are giving you money to operate your business. If your lender is engaged and bought into the process, that is only going to help you.
3. Understand required provisions.
There are certain things in packer contracts that are required by federal and state law. Don’t waste your time, money or political capital arguing over provisions that are required by law.
Also, state-by-state regulations can vary dramatically. For example, Minnesota has onerous and extensive contractual provisions in livestock or animal feeding contracts. Johnson said don’t get revved up over these things. It’s important to understand the required provisions, so you don’t fight about things that can’t be changed in your contract.
“There are plenty of areas where you can use that negotiating power and take a hard stance on things that really do matter and can be changed in your contract,” she said.
4. Know your strengths.
With so many contracts out there, it’s important to know the strengths of your operations because no two contracts are ever the same. No two pricing mechanisms are the same, just like no two producers are the same.
“You have to know your strengths and your strength may be size, you may be a big producer that has a few 100,000 sows and you’re selling a million pigs per year. If that’s the case, then you’ve got all sorts of strength and leverage. But that’s probably not you and that’s OK, too, because there are other strengths,” Johnson said. “You may have genetics that allow you to create a type of pork that’s different, or you may have genetics that allow you to create pork that has a special marbling that your packer can sell in Japan or another specialized market.”
Know that there is value in various aspects of your business, not just being large. Find out what your different options are, talk to your lender and if you have an attorney that has some expertise and has looked at a number of different contracts, talk with that person and learn more about your options.
“If you start late, you don’t have time to do any of this. The self-reflection is out the window and it’s a fire sale. Start early. Think through your system and what your strengths are, and use those as you negotiate a contract,” Johnson said.
Knowledge is powerful. She also recommends talking to allied producers, getting to know what their systems are like and what’s working for them and their contracting. Find out who they’re having success with; maybe there’s a packer you don’t even know about that could be an option, she said.
5. Tie prices to feedstuffs.
Pricing is king when it comes to negotiations, Johnson said. The most successful contracts she has seen are contracts that tie their pricing, in part or in whole, to the price of feedstuffs.
“They have a relationship in their pricing mechanism to either corn or soybean meal. As a result, they’re able to better weather some of what we’re seeing right now with commodity prices,” she said. “If you cannot tie your price to feedstuffs, try to get a blend.”
Getting some level of blending in your price provides an automatic hedge against market fluctuations.
6. Get a pricing example.
“Getting a pricing example is critical. The best contracts that I’ve seen from packers are contracts where the pricing example is laid out specifically,” she said. “This becomes particularly important if you’re using multiple indices and if you’re using a blended or average rate.”
If you ever do get into litigation, or if you ever do get into a dispute with your packer about how pricing was supposed to apply, or the appropriate number on the indices, you can look at this example and say on this day in 2017 and pull those indices from that date.
“If you are relying on one of these indices for your pricing mechanism, what happens if that index is no longer published? What you’ll see, generally, is that the packer, at its option and hopefully with the requirement that they act reasonably, will have the ability to substitute out that index,” she said.
It’s pretty clear what that means if the index quits getting published, but what happens if that index becomes somewhat irrelevant (i.e. Iowa-Southern Minnesota)? Johnson recommends wording that includes “if the index is no longer viable for purposes of pricing hogs.”
7. If we learned anything from 2020, it was what the words “force majeure” meant.
The force majeure provision in a contract says that in the event that performance becomes commercially impossible, the packer is relieved of their obligations during that period of impossibility from purchasing your hogs.
“Now, what I would say is that that works both ways, right? If it’s commercially impossible for you to produce pigs, you can claim coverage under the force majeure,” she said. “What you will normally see carved out from your force majeure are market conditions and herd health. That is pretty standard, and not really what force majeure is meant to account for.”
The force majeure is an important clause. Look carefully at what it says. Be conscientious of these provisions as you review your contracts.
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