The persistent decline in sheep numbers from forestry conversions, drought and poor returns has driven the closure of Timaru's Smithfield works. Allan Barber looks at the capacity challenges the industry is facing

The proposal to close Alliance’s Smithfield works signals a South Island processing capacity reduction of 900,000 lambs and ewes, brought about by the persistent decline in sheep numbers through a combination of factors: forestry conversions, drought and poor returns. Alliance has come reluctantly to its decision because it can handle existing and potential volumes more efficiently at its Lorneville and Pukeuri plants.

South Island processing numbers are forecast to be around 9 million lambs and 1.5 million ewes in the coming season with the remaining processing capacity able to handle this, although another drought may make for delays at the peak of the season. The North Island’s kill is slightly lower at just under 10 million, but there is a better spread of plants across the island under different company ownerships, while the peak is not as pronounced as the South Island’s.

All the processors will be viewing the closure of Smithfield and the declining sheep population in both islands with nervousness, no doubt looking very hard at their capacities and cost structures. At 139 years old Smithfield was vulnerable to considerations of closure versus expensive capital works necessary to bring it up to standard. But it is not the only ageing plant in both islands, although some have clearly had substantial amounts reinvested to ensure their competitiveness.

Not since the early 90s has the critical importance of competitive processing facilities, cash flow and low debt levels been so obvious, although Silver Fern Farms struggled for several years under high debt levels, inadequate cash flow and high fixed costs before Shanghai Maling came to the rescue in 2016. Alliance must now be wishing for a similar white knight, but industry conditions are nothing like eight years ago.

The intention to close Smithfield indicates a successful renegotiation of its banking facilities for the new season starting 1 October, but a repeat of last year’s $97.4 million pre-tax loss will test the banks’ patience. New equity, whether from shareholders or external investors, would appear to be essential.

Before the Smithfield announcement I had already spoken to several meat company CEOs or senior managers and they were unanimous on two matters: the ETS creates an artificial market which makes forestry conversion a more profitable option without contributing to long term economic wealth and any reversal of the decline in sheep farming requires better and more consistent returns.

Silver Fern Farms’ CEO Dan Boulton said our markets are starting to recognise New Zealand sheep and beef farms do more than produce red meat and wool, but also have more holistic benefits because of their ability to work alongside nature and biodiversity. It is important to continue to promote these benefits, although this requires government policies and regulations to work in the same rather than opposite direction.

Boulton emphasised the folly of current government policy. “It doesn't make economic, environmental or social sense for fossil fuel emitters to be able to easily offset their emissions through planting on productive land rather than work towards gross emissions reductions.” He also pointed out the increasing availability of technologies to reduce gross emissions, but the comparative lack of immediate options for reducing on farm emissions which SFF is committed to finding and supporting. “This is a longer term play.”

From an operational perspective SFF has reconfigured much of its capacity over the last 10 years to ensure it remains fit for purpose and its strong financial health allows it to be tactical in its approach to site infrastructure and capacity settings.

Ovation CEO Willem Sandberg is keen to see the government wake up to the damage being done by forestry conversions for no long term gain, while he wants to see farming recognised for its net emissions instead of being penalised for its gross emissions. He is concerned the government’s emissions reduction plan to plant more trees will further ignite the trend to forestry conversions, while the review of the ETS is unlikely to result in its removal.

Although Ovation is one of the big three North Island sheep meat processors with plants in Gisborne, Feilding, Te Kuiti and Taylor Preston in Wellington, it has small plants by industry standards with relatively low fixed costs which can be operated flexibly depending on stock flows. Sandberg said high market returns over the Covid years masked the increase in all costs to processors and farmers which are now proving impossible to absorb.

AFFCO’s Tom Young told me the forecast reduction in lambs next season was roughly equivalent to half a chain in each island which was subsequently underlined by Alliance’s announcement about Smithfield. He also said the reduction in ewe lambs would have a flow on effect on the breeding ewe population. He is convinced the latest downturn will result in capacity rationalisation in both islands, although AFFCO is well placed to handle the situation.

ANZCO CEO Peter Conley expressed the view the movement of lambs between North and South Island depending on seasonal weather factors means the capacity challenge is a national rather than island specific issue. From ANZCO’s perspective the company is committed to maintaining investment in its plants, but considers itself fortunate just to have one processing facility in each island.

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