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INVESTING: SURVIVING THE SCARE
On the morning of Dec. 27, 2003, the headline in Portland, Oregon's newspaper, The Oregonian, proclaimed that meat from a BSE-infected cow discovered three days earlier and 60 miles from this major metropolitan market had not only been distributed to local grocers, but there was a high probability that the ground beef had already been consumed. Although the risk was negligible, the headlines portrayed a much different story, frightening consumers and sending retailers scurrying for damage control.

In the food industry, there is a tacit understanding of the potential for collateral damage exacted from bold statements such as this. Retailers will likely experience a decline in red meat sales, restaurants may see a dip in high-end meat purchases and, further down the food chain, growers and processors may deal with excess inventory, declining futures markets and closed export markets.

Despite the panic headlines of media, most of us understand that BSE is a solvable problem. The beef industry will prevail, possibly more highly scrutinized, and, unfortunately, some participants will suffer severe financial difficulties at both the producer and processor level. As business leaders, we understand the importance of the food safety equation.

Industry insiders recognize that the U.S. food system is the safest in the world, with producers and processors focusing rigorous attention on product safety. Businesses in the food industry are considered vulnerable - whether from changing consumer trends, the latest news about the health risks of certain foods or a safety scare such as BSE. Recent events remind us that to remain profitable, it's important to take the longer approach, both as operators and investors.

From an equity investor's standpoint, the food and ag industries, when only broadly considered, are characterized by most as defensive and slow to grow relative to other sectors. For many investors, the well-publicized scrutiny of the food system by activists, government and consumer groups only reinforces the notion that investment risks in food are large relative to the potential investment rewards. Admittedly, it is true that some weaker firms may not possess the infrastructure to overcome sudden adversity.

Performance benchmarks within the food industry portray an eye-opening story. Lofty '90s-style expectations aside, we believe the food industry is proving to be more than a hedge in difficult times. In fact, several sectors are emerging as strong long-term performers. Processed foods, food distribution and wholesale exhibit long-term positive returns that exceed other sectors in the public market. This would surprise many investors of the traditional mindset.

The decade-long cumulative successes of these sectors do not suggest that other areas such as inputs or foodservice do not deserve the attention of informed investors. Rather, by comparing categories against public benchmarks, food and agricultural firms may begin to distinguish sustainable patterns within their own categories.

If astute management teams would isolate key industry margin drivers beyond traditional market production and portray them against traditional markets, it may then be possible to shift investor perception of middle market food and agriculture. In order to achieve investor confidence, management teams must also develop new opportunities within their category. These opportunities must meaningfully demonstrate product price differentiation and value, rather than the traditional approach of negotiation and management of the costs of raw materials as a profit driver.

We believe that the combination of investors willing to risk new ideas and the ability of management teams to validate investment through new margin channels are essential long-term drivers within our industry. Increased investor understanding and confidence of sustained profitability in food and ag may also provide companies with a financial partner who will remain steadfast through both temporary negative market events and adverse media attention.

Tom Steen is managing partner for Cybus Capital Markets, Des Moines, Iowa.


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