Vaccination Ramp Up vs. Poultry Supply - ALB Market View 10/1/09

The ongoing debate as to the efficacy and necessity of large scale vaccinations is as loud as ever. On a global scale, in a typical year, global vaccine production is 4.7 billion doses per year, this figure includes vaccinations for all formulas, from 2006. The seasonal flu sickens 300,000 Americans and kills an estimated 36,000 American's annually; mostly elderly and young, mostly from respiratory complications. The 2009/2010 season is expected to be a unique one due to the emergence of the particularly virulent H1N1 Novel-A strain in late April 2009. Despite unalarming morbidity rates, this new strain is closely followed by mainstream media and governements worldwide. World Health Organization forecasted demand of 4.9 billion Influenza H1N1-A vaccinations over the next season in it's latest pandemic report; a more recent report says weekly production of 96,000 doses is inadequate. As the author writes, only one H1N1 Novel-A vaccine has been approved, that of Sanofi-Aventis, 25 other firms stand in line for approval. Sanofi-Aventis suggests it's vaccine is effective against the new strain (but not the traditional seasonal variant) in just one dose. Production is at 25% of planned 2010 capacity, three additional production facilities will come on line by November with ample others at the ready.

Substantial media coverage, government subsidies, emerging strains will contribute to normal vaccine demand.

In the search for risk adjusted profits the supply demand situation relatign to H1N1 Novel-A must be examined. Other than the biopharma firms which may or may not find margin expansion due to increased volumes (many doses are donated), second derivative plays should be examined. The creation of a vaccine requires research hours, lab equipment, and chicken eggs. Sanofi-Aventis self reported the use of 300,000 eggs in the production of it's swine flue vaccine. As it reported its current capacity at 96,000/week the vaccine dose/egg ratio calls for 1.28 doses per egg. With WHO vaccine estimates at 4 billion on the low end this shuold drive demand for 3.125 billion eggs. America, being the leading producer of shell eggs produced 90.6 billion eggs in 2007. H1N1 Novel-a vaccine related demand could amount to 3.5% of US capacity.


Feed is a primary cost component of poultry farmers, most are vertically integrated and grow their own corn and soybeans for feedstock. On occasion producers may tap the feed markets to supplement inventories or to hedge raw costs. The lack of a late rain and early freeze presages a strong grain season, while global economic malaise indicates weak demand. A consistent them across farmer conference calls is substantially lower grain prices throughout 2010. Feed costs amount to a clear majority of raw costs, ranging between 52-68% of producer's expenses each year. Egg producers easily push feed costs through to consumers, and in most cases see higher margins in times of higher grain prices, although the correlation is weak.

A return to enconomic stability, augmented demand, and supply constraints could yield a renaissance for poultry farmers worldwide. Higher volumes, and higher profit margins for shell-egg producers, will drive poultry farmer's earning power through 2012. World-wide leading producer Cal-Maine is a stable, pro-shareholder, well managed company with a workable balance sheet and a juicy dividend policy. Top-line growth, margin improvement and earnings performance should allow the company to continue its growth strategy of acquisition and efficiency. Increased dividend and stock repurchase should drive price/earnings multiples of poultry farmers higher, which currently sell below market averages.

"We operate in a cyclical industry with total demand that is generally steady and a product that is price-inelastic. Thus, small increases in production or decreases in demand can have a large adverse effect on prices and vice-versa. However, economic conditions in the egg industry are expected to exhibit less cyclicality in the future. The industry is concentrating into fewer but stronger hands, which should help lessen the extreme cyclicality of the past." - Cal-Maine Annual Report 8/11/09

Compelling poultry plays are Cal-Maine Foods (CALM), Yuhe International (YUII), Industrias Bachoco (IBA). Cal-Maine's operating leverage, compelling valuation, and lucrative dividend policy make it the clear leader, but all three are viable candidates for a pair trade against the markets in general or against a basket of commodities.

Best,

Austin Lance Butler