Higher food prices are being felt in many places. In Chesapeake, Va., school board officials are thinking about raising the price of school lunches—already the highest in the region—for the second time in two years. Mexico's iconic corn tortillas are getting too expensive for some people in the country to afford. Near Wall Street, signs in pizzerias have popped up explaining the need to pass along soaring costs for cheese and dough, while Vietnam has banned the export of rice, to keep domestic prices down.
Brought on by drought in food-exporting countries, rising demand, sky-high energy costs, and the growing use of food crops such as corn and sugarcane for biofuels, food prices are soaring at a rate not seen in decades. The World Bank estimates food costs have risen 83% in the past three years, led by a 181% gain in wheat prices, and will probably stay high long into the future. In the first three months of 2008, food prices for U.S. consumers rose by a seasonally adjusted compound annual rate of 5.3% according to Commerce Dept. data, more than any other category except energy.
Around the world, food-price inflation is becoming a major issue for consumers, businesses, and government officials. Protests have erupted in a dozen countries where rising prices could lead to starvation for hundreds of thousands, according to the International Monetary Fund. In April the U.S. said it would release $200 million in food aid for developing nations.
For investors, rising prices can have a strong effect on the profitability of many food-related industries, although they tend to affect individual companies differently. Also, the price of packaged foods sold at retail is influenced by a wide variety of factors beyond the price of basic foodstuffs such as corn, wheat, soybeans, and rice. Standard & Poor's equity analysts are upbeat on the outlook for food retailers, hypermarkets, and agricultural product companies, and neutral on packaged food companies.
Fetching a Prettier Penny
Retailers should generally be able to pass along the rise in food prices to customers, and some may even be able to widen their profit margins in the process, says S&P equity analyst Joseph Agnese. He notes that many have restructured their operations and acquired competitors, though they would probably have to absorb some of the costs if the current rate of food-price inflation quickens.
"The largest U.S. food retailers should have little problem passing along food cost inflation," Agnese says, in part because they "have developed strategies focusing on differentiating stores through product and service offerings rather than low prices." In fact, he believes, major food-retail chains may be able to pick up some business from their low-price competitors as inflation makes it more difficult to shop on price.
Makers of less expensive private-label products are also facing cost pressure in this environment, and they, too, are likely to need price increases to help protect profit margins. Thus, even if consumers look to trade down to private label, the private-label prices are likely to be more than what they were previously. Also, S&P equity analysts see some indication of a softer economy causing consumers to spend more of their food dollars on eating at home (vs. eating at restaurants).
If prices start to rise faster, however, food retailers' ability to pass along the increases may diminish. S&P Equity Research has 4-STARS (buy) recommendations on six food retailers: Safeway (SWY), Whole Foods Market (WFMI), Kroger (KR), Ruddick (RDK), Great Atlantic & Pacific Tea (GAP), and Casey's General Stores (CASY). Hypermarkets, like Costco Wholesale (COST) and BJ's Wholesale Club (BJ), should also do well in an environment of rising prices, since they "generally appeal to price-sensitive consumers," Agnese says.