Nathan Hunt: This is The Essential Podcast from S&P Global. My name is Nathan Hunt.

On April 26th, John Tyson, the chairman of Tyson Foods, gave a stark warning that meat processing plant closures resulting from the COVID-19 crisis may soon lead to meat shortages in supermarkets across the United States. Meanwhile, restaurant closures have also appended supply chains as food service companies struggle to adapt to a new and radically different distribution model. Unless America suddenly becomes a nation of vegetarians, we're all about to find out if supply chains can bend—or will they break?

I am joined today by Alex Bitter and Michael O'Connor, reporters at S&P Global Market Intelligence, who frequently report on food supply chains and the restaurant industry. Alex, Michael, thank you for joining us.

Alex Bitter: Thanks for having us.

Nathan Hunt: Alex. Let's start with the statement by John Tyson. What was the substance of his announcement?

Alex Bitter: There was one particularly pithy line in his letter where he basically said that food supply chains are breaking, which I think summarizes it quite nicely. What we've seen recently in the past few weeks is a number of major processing plants that work with meat, not just at Tyson but also at JBS and Smithfield and some of these other big meat processors, shut down because of the spread of COVID-19 in their workforce. And as a result of that, there is a threat that the entire supply chain theoretically could be upended. And that a lot of animals that have been raised for slaughter would essentially have to be slaughtered for nothing, and they would never make it to the plants. So in this letter that appeared in multiple newspapers in the U.S., John Tyson basically said there was a risk that consumers would not have access to a steady supply of fresh meat, and he also highlighted, of course, the measures that Tyson is taking to protect workers and deal with this crisis on its own. But it definitely read as a call to arms or a call for help.

Nathan Hunt: Why are meat processing plants closing? I was under the impression that food was considered an essential service.

Alex Bitter: Certainly, food on the retail side of things--that is, your  grocery stores and anywhere where you as a consumer can buy meat--those are by and large considered essential throughout the country now, and of course they've had to remain open and continue operations. It's only perhaps in the last day or so since President Trump issued an executive order effectively invoking wartime powers to keep a lot of these meat processing plants open that they have in fact officially become essential in a similar way. This is a case where a lot of grocery stores have implemented various measures to protect their workers and customers as well, obviously. We haven't necessarily seen the same urgency yet, or at the same rate, at least, from a lot of the meat packers, although many of them are now having to address this and are taking steps to prevent workers from getting the disease and to limit transmission. And that's going to be a particularly contentious question going forward as a lot of them now look to reopen their plants.

Nathan Hunt: Tyson said that even short plant closures will reduce the meat available to consumers by millions of pounds. Just to put some context around that, how many pounds of meat are processing plants usually providing to American consumers?

Alex Bitter: Millions of pounds or even a million pounds of meat sounds very scary when you put it in that context, but it's worth noting that based on the USDA numbers from 2019, even millions of pounds of meat would be a fraction of the total produced in the United States. So, for instance, last year, according to the USDA, the US produced roughly 27 billion—that's billion with a B—pounds of beef, a roughly similar amount of pork, and poultry was higher, closer to maybe about 50 billion pounds. Now, to be fair, not all of that stays in the United States. In fact, sometimes as much a fifth or a quarter of that for pork can be exported to other countries, but even so, you know, numerically that estimate he put forward in that letter wasn't even a real number, I suppose. Officially, that's a small part of what's produced in the United States every year. But I think one of the insinuations or one of the points he tried to make in that letter was that if plants continue to close, then that number grows and that becomes worse.

Nathan Hunt: Tyson announced the potential shortages and ads placed in the New York Times, the Washington Post, and the Arkansas Democrat Gazette. Isn't that a strange place to make this kind of announcement?

Alex Bitter: Certainly placing an ad in national newspapers, particularly in the Times and the Post, is not something you see every day from a big food company or a big meat producing company. And I think perhaps part of his goal maybe was realized with president Trump's order on this subject, the order aimed at trying to reopen some of these meat plants. But again, it's going to be very interesting to see how that actually happens. There are a number of conflicts between some of the companies and labor leaders and worker advocates, who argue that these companies will need to take some very aggressive steps in terms of personal protection equipment and social distancing in order to keep coronavirus from spreading in these plants. Obviously not everyone can work remotely, and you can't really slaughter a pig at home, as far as I know. That's going to be a particularly contentious issue and very interesting to watch going forward.

Nathan Hunt: What are labor leaders highlighting as the dangers of continuing to work in the plants?

Alex Bitter: I think there are a few issues, but a lot of them will be familiar to anyone who has heard from their employers why we are all working from home at the moment. Obviously if you're on a floor in one of these plants, the workers tend to be quite close together, certainly compared to what a lot of office workers in the United States would be used to. And so it's not hard to imagine in that environment, especially if you don't make a lot of allowances theoretically for a pandemic like this, COVID-19 could spread very quickly throughout the workforce, and that's indeed what happened at certain plants that actually closed--the most famous of which perhaps was the Smithfield plant in South Dakota, which was the first major plant closure that gained a lot of mainstream media attention. What a lot of these unions and these advocates are asking for are more masks, more barriers between workers, but of course they're also, I think, broadly hesitant to perhaps have everyone return at once and have the plants run at full capacity, and that's going to be, like I said, an interesting area to watch. A number of these groups have filed lawsuits in different states or appealed to state authorities to actually try to limit how many people can come back at once and make sure that those workers in return have adequate personal protection equipment.

Nathan Hunt: These issues in the food supply chain aren't just limited to the US. How are other countries like Canada or Brazil, who I know are big meat producers, being affected by these disruptions?

Alex Bitter: So, this certainly isn't a problem that's unique to the United States. You mentioned Brazil, for instance. There have been some similar plant closures or interruptions in Brazil, which is of course the number one world export or a beef and chicken, I believe as well. So, they've only grown in importance in the last couple of decades when it comes to producing meat, especially for export. In Canada, we've seen some similar issues. For instance, one issue that was in the news there recently was the fact that there are two beef processing plants in Alberta, in Western Canada, and those two plants had to shut down and they account for 70% of Canada's beef processing power. That actually leads to an interesting, perhaps, difference between some of the countries, and this will vary depending on where you look in the world. In the US and some other countries, the processing ability in these plants is very concentrated compared to other countries. So, for example, that Smithfield plant in South Dakota I mentioned earlier, that plant alone accounts for about 4-5% of US pork processing capacity. If you go to Europe, if you go to some other parts of the world, you see that no plant, no single plant has nearly that much of the processing ability in that one country, or in the case of Europe, in the EU. That's one issue that some politicians and some others have called for more attention to now, looking at how consolidated the processing plants are, and their argument is essentially, well, if we didn't have so much processing power centralized in a few big plants, then if there is an outbreak of the virus in those plants, it wouldn't be such a crippling issue, right? You could afford to perhaps close a few plants for a while and the overall supply would be relatively unchanged. So that's certainly as you go around the world and you think about the degree to which this is an issue in different countries, that's another factor worth looking at.

Nathan Hunt: Why is there that difference between the US and the EU on the centralization of these meat processing plants? Does that reflect other differences in the supply chains?

Alex Bitter: So that could be an entire podcast in itself probably. But in essence, you know, you have to consider there are different regulatory regimes in the different countries. If you look at, say, US meat processing capacity over the last 40 or 50 years, for example, you see that we used to have a much more diffused system of meat processing in this country. And then that's changed, obviously, with M&A, with different consolidations that have happened over the years. It's been increasingly difficult for smaller meat processors to stay in business, especially when, you know, perhaps it's a family business. This used to be the sort of thing that you would see in rural parts of America. They were very family-owned businesses, and so that ends then the incentive or the impetus to sell to Tyson or to one of the bigger players in the country is certainly high. It's something that's changed over time. And certainly there's, as I alluded to, there's a difference in the anti-competitive laws that exist in both the EU and the US. And it's worth noting, as I mentioned earlier, that there are a number of senators in the US Senate and then other politicians who, well, before coronavirus ever appeared, were calling attention to this issue and saying that perhaps we should revisit the laws that enable that sort of concentration to occur. And now of course, they're using the current pandemic to call attention to that issue again and sort of underline it. 

Nathan Hunt: Michael, let's talk about the food service industry. How big is food service in the United States?

Michael O'Connor: If we think about that in terms of the restaurant industry, US bars and restaurants had about $766 billion in seasonally adjusted sales in 2019 based on US census figures. According to the National Restaurant Association, there are about 1 million restaurant locations in the US. In February, before a lot of the job losses that were brought about by coronavirus, there were about 12 million restaurant workers in February. That number then dropped to about 11.9 million workers in March.

Nathan Hunt: Food service companies that service the restaurant industry: what has been their challenge during the COVID-19 crisis?

Alex Bitter: That's an interesting question, and the interesting aspect of this to consider is not all food service suppliers are created equal. When you have some like Cisco that have focused historically, mainly on the restaurant space, and then others like US foods, maybe have more of a split business between restaurants and grocery stores. But certainly, anyone who has a major part of their business in the restaurant sector has seen that basically fall off a cliff. Certainly you have some restaurants that have continued to buy food and meat in particular to meet customer demands for delivery and pickup and that sort of thing, but it's just fallen off a cliff essentially, and so a lot of the US food service companies that have a major exposure to the restaurant business have had to get creative or at least stop and contemplate what they're going to do with all this meat and other food items that was destined for restaurants. In a recent story I wrote with Michael, actually, one of the sources talked about how some of the major food service companies in the United States were holding onto a lot of the meat in particular that they had planned to send to major, you know, fast casual restaurant chains. And in April, earlier this month, these food service producers were deciding whether or not to hold onto the meat longer or sell it for a fraction of what they would have gotten if there wasn't a pandemic and they'd been able to sell it to a restaurant. So, a lot of these food service companies are in a tough place, especially with the inventory that they currently have that is now not going to restaurants, right. Because they have to decide, do I sell it for basically a fire sale rate, or do I throw it away? That also costs money. So, it's not a clear answer to what you should you do with all of this extra supply you have.

Nathan Hunt: So, this raises an interesting question. We have the food service industry that serves restaurants. They have meat in freezers. On the other hand, we have some of the meat processing plants that are saying we have shortages or anticipate the possibility of shortages. Why can't we just move this around? Why can't the food service companies simply move to sell directly to the retail market, directly to consumers. I mean, it's all just food, right?

Alex Bitter: So that's an excellent point, Nathan. And there is a number of reasons why that transition, while you can make it, is not necessarily an easy transition to make. So first off, one of the things that we've reported on is the fact that just because, say you have some chicken that you know came out of a meat processing plant, was meant for a restaurant, and is now sitting in one of these containers or whatever it may be that a food service supplier has. That chicken was likely cut, butchered, and packaged a certain way for restaurants. So, for example, one of the smaller meat processors that we've reported on is a company called Sanderson Farms, and they're based down in Mississippi. And they had their earnings call earlier this month, and one of the issues they talked about was the need to shift some of their production lines to focus on chicken for groceries and other retailers and away from supplying restaurants. When you do that, you encounter various issues. For one, they said a lot of restaurants and a lot of restaurants they serve particularly like whole chickens or larger cuts of meat, whereas if you're selling to grocers or to retailers oftentimes you don't want the whole chicken, right? You want breast meat, you want drumsticks, you want thighs packaged separately. And so that's one shift that is required. And other shift that we've heard from some food companies is, if you send food and meat in particular to a restaurant, it doesn't necessarily have nutrition facts labels on it, which is something the federal government requires for essentially any foods sold at a grocery store in the United States. And we've even seen this month, the FDA come out with guidance trying to help a lot of these food service companies as well as any restaurants that want to try and sell food directly to consumers kind of navigate that, and they've relaxed some of the rules around providing nutrition information and making nutrition claims about food when you sell it to consumers. Seemingly mundane things like that can actually gunk up making that transition.

Nathan Hunt: Are food service and processing companies repurposing capacity for the retail market? Are we seeing that already?

Alex Bitter: We definitely are. Sanderson, which I mentioned earlier, said that this month they were already making changes to their supply chains to serve more grocery customers and draw down their business with restaurants. But a key fact to note there is just because a food service company or a meat processor makes that transition, doesn't mean they're out of the woods. One thing that Sanderson pointed out was their hatching rate for their chickens that they obviously rely on to produce the birds that they later slaughter is dependent upon what they think demand will be in the future. And so, one of the things that their executives talked about on the earnings call recently was, we're going to make this transition. We're going to package more of our chicken to go to grocers. At the same time, the drop-off in demand at restaurants and among food service distributors that serve primarily restaurants is so high that even under the best of scenarios, we are not sure that the added business in the grocery channel is going to make up for our old business lost in the restaurant channel. So you can make all of these changes, you can invest in all of that, and you can spend the time to adjust your supply chains. But if you're a company that for years and years was used to supplying restaurants, it's going to take longer to try and get more of that business back, and obviously the longer you got without that business it is a detriment to the company.

Nathan Hunt: In terms of margins, is there a difference between selling into restaurants and selling into retail?

Alex Bitter: Broadly, food is not a very profitable business to be in. You know, in either case, you're not making a lot of money compared to a lot of other industries. Obviously, restaurants are very dependent upon marketing products. They're finished food up quite a bit. So perhaps sometimes you see some additional margin pressure on companies that supply restaurants that you wouldn't necessarily see with companies that supply grocers. But you know, in general, like I said, food is a low margin business. Certainly, when you think about some of these companies that supply restaurants right now, at various levels of the supply chain, even in the good times, the profit margins are not wide. If there's more competition now to supply grocers, presumably groceries have their pick of the lot, especially the largest ones as to whom they buy their meat from. So, you can imagine that in many cases will lead to perhaps lower profit margins or at least grocers trying to bid down what they can buy.

Nathan Hunt: What are the big processors doing with the meat they would normally be sending to restaurants? Are they throwing it away? Are they putting it in freezers? What's their plan?

Alex Bitter: Some of them are doing the things you talked about. Although from what I've heard, a lot of the stockpiling of it or the throwing it away is happening more at the food service distributor level. When we look at the meat processors themselves. Like I mentioned, there's certainly a need to plan longer term. So, whether that's, I, like I mentioned earlier with Sanderson determining how many birds you're going to hatch this here and scaling that back as they did. Or if you're Tyson or JBS, or one of these other companies looking at, well, maybe we don't need to buy as many hogs for slaughter this year, or we don't need to send as many piglets out to farmers. I think there's a lot of planning that's going into the supply chain right now based on what's happening in the market that's going to affect meat accessibility  and consumers' ability potentially to purchase me in the future. When I think about the future and kind of what some of the slightly longer lasting effects of what we're seeing now are likely to be, I think that's one area you can think about in terms of what's likely to happen in the future and how the planning based on what's happening right now could affect things.

Nathan Hunt: Michael, everyone knows the restaurant industry is struggling. How are restaurants trying to change their businesses to reflect this new reality?

Michael O'Connor: One of the biggest things is ramping up their ability to deliver food and do things like contactless delivery. There were certainly restaurants who had already been investing in these capabilities, some more so than others. If you think about a Domino's Pizza in terms of delivery, and then if you think about in terms of just customers coming and picking up their food in a way that minimizes their exposure, a lot of restaurants, in the US especially, already had drive-through and had that for a long time. So now, I think what we're seeing is companies that were not as focused on the convenience and maybe more focused on the experience of coming into the restaurant and sitting down and having a meal. Now they're having to think harder about, how do we adapt our business to be able to operate in a world where people don't want to be as exposed to one another in a way that they would in a dining room setting? And you're also having restaurants try to figure out how they're going to reopen in a setting where we're not completely out of the woods of the pandemic. So, things like, fewer dining room tables in the restaurant and things like that. There's even been some talk of introducing more automation in the way food is actually prepared.

Nathan Hunt: Have you seen any preliminary numbers on how successful restaurants have been in converting their models? Are they starting to make back some of the money they lost?

Michael O'Connor: Most restaurants are seeing increased sales in their delivery channels just by necessity, just because if anybody that is ordering from them, they're going to be doing it either through delivery or a pickup, but that has not been enough yet to offset the decline of restaurant sales that they would have gotten from sort of onsite ordering. They definitely haven't made up the money that they've lost from the closing of their dining rooms. But some companies have said that they are past the peak of their restaurant closures. So, Yum Brands, which operates KFC, Pizza Hut, and Taco Bell, said that its closures peaked at around 11,000 restaurant locations and they've reopened about a thousand of those. Have they made up all the money back from the lost sales? Not yet. Maybe not even close, but there is a push to get past the peak of the restaurant closures themselves, which would then allow them to generate more sales.

Nathan Hunt: Michael, when you look at the different segments within the restaurant industry, which of those segments do you see actually having the ability to successfully ride out the crisis, and where do you think we're going to see restaurants simply not reopen?

Michael O'Connor: For these kinds of questions, it's all about the size of the business and just how much cash you have on hand to manage the pain because the pain for the restaurant industry by all accounts has been pretty historic. The bigger publicly traded restaurants are all in a situation where they can ride this out and be okay. It's the small independent restaurants that don't have these big balance sheets that are going to close. The medium sized restaurants are definitely going to be struggling. And then just in terms of the different business models, casual dining, restaurants, like we talked about earlier, if you think about the Olive Gardens of the world and the Cheesecake Factories, those companies are bigger, publicly-traded companies, and are not expected to go away or close. Those concepts have definitely taken a big hit from this and in terms of just who might come out ahead in all this, I know that I've seen chatter around Domino's Pizza, just being one of those companies that, because they did invest so much in their digital and their delivery platform, is just kind of in a good position moving forward. And then also, even if you think about a company like Starbucks, which is certainly struggling right now with all its business restrictions, as more independent, smaller coffee businesses close, some analysts think that creates an opportunity for Starbucks to gain that market share.

Nathan Hunt: Alex, I want to return to you here. What happens to a supply chain that isn't being used? Can it bounce back once the lockdowns ease?

Alex Bitter: So that is the million-dollar question in some ways. I think what we're already seeing is, as I mentioned earlier, there are a number of factors, the number of variables, that companies in the food supply chain need to plan for and need to make decisions about now to determine where they're going to be in a few months or a year or two. When you think about what's going on, for instance, one thing we've heard, and that's been reported fairly widely, is that the farmers who raise a lot of the chickens, a lot of the young animals that go on to grow up and be slaughtered, they have had to call their own herds, their own flock, such that those animals will never make it to a processing plant like one of the big meat processor zones. If that continues for long enough, you can imagine, well, how are those farmers going to pay the bills? Right? And eventually, do we reach a scenario where those farmers just get out of the business? That's been an issue for decades already, even in good economic times. In this situation, you could certainly imagine a lot of smaller family farms that supply the major companies going out of business. And then what happens there? And even if other farms pick up the business, that again leads us to a different sort of concentration question, you know? And what are the relative advantages of having a lot of little suppliers versus a few big ones? How can that leave you open to further problems down the road, potentially? I think there are various elements like that, and various factors, that are being decided now and that are changing now, such that even if perhaps even tomorrow, if you were able to snap your fingers and make the virus go away, these issues would persist and it would definitely take time to heal and to return supply chains to what we would consider pre-virus levels. But then if this goes on even longer, then you start to think about there could be some effects like the farmers, like the channels where these food service companies do business, perhaps those are permanently affected or at least have longer term effects that they need to deal with.

Nathan Hunt: Thank you for listening to The Essential Podcast from S&P Global. You can read more of Alex and Michael's reporting on the Market Intelligence Platform or at spglobal.com/marketintelligence.