Nov. 22 nd / 2010 Industry Project: Cranberries. Introduction

Transcription

1 Nov. 22 nd / 2010 Industry Project: Cranberries CRN14769 Econ 205 A01 Pascal Courty Introduction The main players in the industry for cranberries are Ocean Spray and Atoka Cranberries inc. Ocean Spray is the largest processor of cranberries worldwide and has 62% North American market share. Cliffstar Corporation has 12%, Clement Pappas has 10%, Decas Cranberries has 6 % and Atoka Cranberries inc., Canada s biggest independent grower and processor of cranberries, has 4% North American market share. These companies mostly create juices from the berries, but also make cranberry sauce seasonally, and dried cranberries on a small scale. Analyzing the cost structure and demand drivers, gives insight into the profitability of the cranberry industry. Part 1: Industry Cost Structures Start-up costs are the costs of getting a business up and running. The following are costs associated with starting a cranberry farm, assuming no necessary inputs are at hand. Basic start-up costs vary but include doing market research and creating a business plan. At least this section of costs would run about $500. This cost is a sunk cost because no matter what, this output cannot be saved. The cost of land will vary by size, type and location. Cut-over woodland areas of Nova Scotia sell for as little as $500 per hectare, whereas land that is cleared, plowed and set up for planting can cost up to $6000 per hectare ( A small cranberry farm can expect to spend anywhere from $ $ on land ( This expenditure on land is fixed in the short run and variable in the long run. There are also costs associated with turning such land into a productive cranberry farm. The per hectare cost of earth work (diking, ditching, leveling, sanding) is somewhere between $10000 and $18000 ( This is a sunk cost because it is a cost that has occurred and cannot be avoided. An irrigation system costs between $7000 and $9000 per hectare, and cranberry vines cost $13000-$26000 per hectare ( These costs are also fixed in the short run and variable in the long run because in the long run a firm may decide to increase or decrease acreage thus changing expenditures on both inputs.

2 The cost of purchasing equipment is a fixed cost but depreciates year to year so is also is an annually increasing sunk cost. Once these inputs are purchased, and all laws have been considered, a cranberry farm starts to pay variable costs of production. Cranberry farming is labor intensive, meaning labor costs are high, especially during harvesting. Other costs include financial expenses such as interest and bank fees, and entry costs including advertisement, delivery and insurance (Jones, 2007). Second to labor, expenses associated with land and equipment are the most costly. (Farm Business Management Team, 1998) These costs include depreciation, maintenance of equipment and land features, and fuel to run equipment (Jones, 2007). As is apparent, cranberry farming involves particularly intensive production methods as compared to less intensive commodities such as hay, range beef or vegetables. High variable costs mean high marginal cost, which means that in order to stay in business there has to be a high price. In the short run a firm makes profit if there total revenue exceeds variable costs. When firms are making profit more firms will enter, increasing supply and gaining competitive threats. This will lower market price and firms will begin to see losses. Firms will begin to exit and supply will decrease again and price will go back up. In the long run there are profits of zero. This is because only when there is profit of zero will there be no entry and exit. There is free entry and exit because this is a perfectly competitive market. Part 2: Industry Demand Drivers Cranberry producers have several products. The most important, profit wise is cranberry juice, often mixed with sugar to form a cocktail (draws consumers who mix drinks), it can also be bought straight or in a fruit blend (cranapple, cranrasberry, etc.). Cranberry juice has the highest price of common juices at $0.28 per serving, compared to the weighted average of $0.20 per serving cranberry juice is much more expensive, meaning the appeal of substitutes is increased. ( Cranberry juice has many substitutes such as apple, pear, grape etc, and has to heavily market its health benefits and clever blends to stand out. A second relatively minor product is sweetened dried cranberries sometimes marketed as craisins. These are occasionally chocolate covered or found in trail mixes. Unsweetened cranberries are rare because of the sour bitter taste of plain cranberries. Substitutes for these products could be raisins and other dried or chocolate covered berries for the sweet toothed consumer but will have a lower

3 appeal to the health crowd. The last common products are cranberry sauce, canned cranberries and cranberry sauce concentrate. These are lumped together as they all benefit from the seasonal tradition of thanksgiving and to a lesser degree Christmas. In the time before Canadian thanksgiving and American thanksgiving these products have a large shift to the right in demand due to their role in a traditional thanksgiving dinner. These products interestingly are in low demand the rest to the year so their sales are similar to turkeys in being immensely seasonal. Being a unique product there are few if any substitutes for the average family making it a less elastic product during the times of high demand. In general part of cranberries demand is its recognized and publicized health food status. It contains anti-oxidants and other healthy things allowing it to be marketed to those concerned with health and fitness. Cranberries are marketed as a super fruit, which is a successful marketing strategy of taking an exotic, healthy and tasty fruit and marketing it as a superior health fruit or super fruit. Due to their marketing and large controlling producers such as Ocean spray with a 62% NA market share, Cranberry producers are able to sell their products at a high price and make a profit. A key opportunity in this industry, that has well been taken advantage of, is the generally inelastic nature of cranberries compared to other common berries. The industry takes advantage of this by essentially using a cartel to not overproduce so they can achieve highest prices. This is done by many small farms selling to a big company like Ocean Breeze who is then able to affect the market directly and sell their products for high prices. A lingering threat for demand in this industry is another fruit becoming popular and taking Cranberry customers. Likely candidates for this are emerging fruits under the Super Fruit marketing as these fruits can be trend based but are healthy and tasty enough to have a lingering presence. Part 3: Industry Attractiveness and Profitability Some requirements for growing cranberries is the availability of acidic soil and sandy peat soil along with low cost water, since sandy peat soil is not readily available in supply in most parts of the country most cranberries are produced in only a few states, such as Wisconsin, Massachusetts and New Jersey. These obstacles make a difficult entry into the market of cranberry farming, since peat bogs are

4 not commonly available for sale often. Figure 1 shows domestic production of cranberries in millions of barrels per year from 1976 to 1997, where production has steadily increased, "rising from less than 2.4 million barrels in 1976 to slightly more than 5.5 million barrels in 1997." ( CasaNet; South-Western College Publishing: Growth and Profitability Pg 5). The growth rate hasn't exactly been spectacular but it's steady growth could not be ignored, especially when observing the higher prices that cranberry growers received in each of the last three years. Which rose "from less than $40.00 per barrel in 1976 to more than $67.90 per barrel in 1997." ( Pg.4), CasaNet; South- Western College Publishing: Growth and Profitability Pg 6). Now, in the last three years the price which was "received by growers had set successive records rising from $50.00 per barrel in 1994 to $67.90 per barrel in 1997, which is a 36% increase in the last three years" ( CasaNet; South- Western College Publishing: Growth and Profitability Pg 6). This in itself is a large increase in price but when added to the fact that in this same time period the quantity demanded increased by nearly 44% the increase in profit is astounding. This has its reasons, one particular leader (with an 62% market share) we are all familiar with: Ocean Spray, which successfully marketed more sweetened mixed cranberry drinks, for example: cran-apple and cran-raspberry. There has been a noticeable rise in interest by youthful consumers becoming increasingly concerned with what they are ingesting and medical studies indicating that cranberries are part of a nutritious diet. Popular in respects to their "anti-inflammatory effect, their ability to help ward off ulcer and gum problems, high antioxidant content, vitamin C content, improvement of the body's circulatory system, treatment of cystitis, provide relief for asthma patients, reduce cholesterol" ( Ohooi: No Nonsense Guide: The Benefits of Cranberries, Pg.1) needless to say the list continues. With the help of today's advertising schemes we can expect the future profitability from cranberry farming to increase as consumers seek healthy and delicious alternatives, increasing activity in the cranberry demand curve instead of just the typical Thanksgiving spike. Overall the cranberry industry has a slow but steady growth rate in market demand, and a limited supply of peat bogs, meaning that rivals would face

5 difficulties in entering the market. In an article covering Canada's "Cranberry King", Marc Bieler, who owns Atoka Cranberries Inc., the biggest independent grower and processor of cranberries in Canada makes a significant statement. Bieler states that when he first entered the industry "only one cranberry farm existed in Quebec when he bought swampland at $50.00 an acre [and] now it costs $1,000 an acre and there are 48 farms." ( 42a9-b45b: CanWest MediaWorks Publications Inc., Edmonton Journal). As the juice market expanded more and more cranberry farms appeared in Wisconsin and Massachusetts so that by late 1998 growers could get a record $1.10 a pound. However within a year soaring production created a massive surplus and severe price competition that the bubble burst causing prices to slump well below 30 cents (or, under the average cost of production). Bieler also states that the "average farm fixed cost [is between] $30,000 to $40, 000 an acre and the additional (variable) cost of over 100 employees for the farm and factory" ( 42a9-b45b: CanWest MediaWorks Publications Inc., Edmonton Journal). He finds farming to be quite profitable however processing has to match the tough U.S competition and since most of the output goes to the U.S, Atoka in particular is hit by the high Canadian dollar. Although the "market is fairly stable right now it is like any other commodity business, where you have debt, employees to motivate, marketing and environmental risks and rigorous federal inspection" ( 42a9-b45b: CanWest MediaWorks Publications Inc., Edmonton Journal). Bibliography

6 CasaNet; South-Western College Publishing: Growth and Profitability Pg Ohooi: No Nonsense Guide: The Benefits of Cranberries, Pg a9-b45b: CanWest MediaWorks Publications Inc., Edmonton Journal rtisernewspaperdirect.pdf Farm Business Management Team, Cranberry Costs of Development and Production, Charlottetown, PEI. Agriculture and Forestry, 1998 Jones, Christina; Business Planning and Economics of Cranberry Bog Establishment and Cost of Production in Nova Scotia, Halifax, Nova Scotia. Department of Agriculture,