Today, the majority of swine purchased by packers is procured through production contracts. According to the United States Department of Agriculture (USDA) Agricultural Marketing Service (AMS), a small percentage of daily slaughter (less than 10 percent) consists of Negotiated Purchased Swine, which is defined as “cash or spot market purchase by a packer of livestock from a producer under which the base price for the livestock is determined by seller-buyer interaction and agreement on a delivery day.”
The remaining daily swine purchases are procured under a variety of contracts. In light of recent commodity price volatility and shifting market forces it is vital that producers are aware of relevant clauses in their current contracts and plan carefully when considering whether to enter into new production agreements.
Types of Contracts
Scott Halbur, food and agriculture industry attorney, Faegre Baker Daniels LLP The USDA Grain Inspection, Packers and Stockyards Administration (GIPSA) requires reporting of most production contracts and publishes their terms in the Swine Contract Library . Generally, swine production contracts fall into one of the following categories:
Market Formula Contracts - Formula price based on any market other than the market for swine, for example futures or options contracts.
Swine or Pork Market Formula Contracts – Formula price based on a market for swine other than futures or option contracts such as the AMS reported Western Cornbelt Daily Direct price or the Carcass Cutout price.
Cost of Production Indexed Contracts – Formula prices based on the cost of producing hogs. These contracts typically have a feed price adjustment factor based on a rolling-average corn and soybean meal price. As feed prices increase, so does the amount received for hogs and vice versa.
Ledger Type Contracts - An account held by a packer on behalf of a producer that accrues a running positive or negative balance as a result of a pricing determination included in a contract that establishes a minimum and/or maximum level of base price paid. Credits and/or debits for amounts beyond these minimum and/or maximum levels are entered into the account. Further, the contract specifies how the balance in the account affects producer and packer rights and obligations under the contract.
Considerations Before Entering Into a Contract
Before producers enter into a production contract, they should review the contract carefully and ensure that all obligations under the contract are understood. The decision to have an attorney review the contract is a business decision for the producer to make after considering the burden and benefit. However, if the contract is material to your operation, it is advisable to have counsel review the agreement. An ounce of prevention is worth a pound of cure.