COVID-19: A review of the food industry - update 1

We are in the middle of a fast-developing situation, both in terms of our understanding of COVID-19 and estimations of how this will affect industries.

This update does not attempt to assess the personal health impacts of the virus, for which readers are directed to the WHO website (https://www.who.int/) or the websites of their national health systems, such as the National Health Service (NHS) in the UK, or major official health provider. Be aware that there is a significant ‘trolling’ campaign across the media, attempting to provoke social unrest and worsen economic disruption by making extreme projections of deaths, for example.

DISEASE PARAMETERS

Our understanding to date, as of mid-March 2020, is that:

Coronavirus (COVID-19) is a respiratory infection, which is spread by close contact (coughing, sneezing or touching), but is not very persistent in the environment (e.g., on door handles).

Coronaviruses are a known group which are responsible for ‘colds’ and other respiratory infections. They may be a zoonosis, a disease that has a reservoir in wild or domestic birds and animals such ‘bird flu’ and ‘swine flu’, but they are very common in the environment.

COVID-19 can infect quickly, although the majority of the infected (over 80% of those noticing symptoms) are mildly ill or unwell, but not incapacitated. A significant proportion of people may be infected but show no symptoms, as with other viruses in this class.

Of those more seriously affected, some may develop respiratory distress or severe infections, and this is most likely in the elderly (aged over 75) or people with a pre-existing condition such as cancer or lung or heart disease. More serious infections are always a risk for these groups, but this disease is unusual in that children do NOT seem to be badly affected. The fatality rate, as calculated to date, is much lower than that for other global respiratory viruses such as severe acute respiratory syndrome (SARS) or Middle East respiratory syndrome (MERS). It is somewhat higher than most seasonal flu (0.5%) and is currently estimated at 1% of those known to be infected. As noted above, the level of non-symptomatic infection is not currently known because unless a person is ill, they are not being tested.

The disease runs its course, without additional complications, over about 7 days. The infectious period, as for most cold/flu viruses, is the first 4 to 6 days. Once recovered, people will have immunity to the virus, again as normal for this virus group.

The main risk is to old people, and the reason for taking actions to restrict transmission is that the ability to treat a sudden increase in people who may need respiratory support in an intensive care unit (ICU) or specialized ward is limited in all countries. In countries with a large elderly population like Italy or Japan, this could put a great strain on hospital services.

In people of working age, the infection is most likely to be mild and limited to a short period of time.

EXAMPLE: THE DIAMOND PRINCESS

The most studied example so far is the cruise ship, the Diamond Princess, which was quarantined at Yokohama early in the outbreak:

2,670 passengers
1,100 crew
Infections: after period of quarantine, 634 (17%)
Deaths: 7
Of the 634 who had the virus; 328 did not have symptoms at the time of diagnosis.
Of those with symptoms, the fatality ratio was 1.9%, or 0.91% of all infected.
Of all people on the ship, the fatality rate is 7 out of 3,770, or under 0.2%.

In the small group who were both over 70 and diagnosed with the disease, the fatality rate seems higher, but this is very small subset. Data from the Chinese outbreak suggests a higher fatality rate, but data about old, sick people needs to be treated with care and assessed against previous rates. It is sensible not to put frail and old people in contact with a virus with a potentially very serious impact, but that is true of all viruses, such as norovirus.

After a passenger who disembarked at Yokohama tested positive, passengers were not allowed to disembark for nearly 3 weeks. There is an argument that taking passengers off the ship then, testing and treating where necessary, would have greatly reduced the infection rate. The 17% is, therefore, a high or top estimate for a group in a contained environment.

FOOD COMPANIES – PRESSURE POINTS

Companies are vulnerable at point of supply, in their sales channels, and in the normal operation of their company.

If supplies are reduced (see ‘Vulnerable Food Industry Sectors’ next), companies must go into hibernation mode (and hopefully not survival mode, if their disaster planning is effective). Alternative supplies may exist, but in a global impact problem, normal ‘alternatives’ may not be available. What special impact alternatives are there or is it more sensible to assume that there are none at the moment?

Sales may be reduced because retailers and sellers have shut down. Companies may choose to stockpile, but holding stocks costs money, and a halt to production may make more financial sense (as Boeing found out in 2019).

Company operation: is your head office really necessary? In company systems these days, the fact that all the computers are in one big building with a car park is a heritage from a different time. Companies which in the past have been slow to move to distributed working from home or from sub-offices and temporary workspaces – may have been forced to do this, and this will expose whether internal systems are fit for purpose. Many will not be, because companies tend to hold on to IT systems until they are beyond repair.

Some operations are people facing, such as sales, but whether this means their employees have to travel long distances regularly is a different question. Some will, but it is worth remembering that the French and British colonial empires functioned very well using post, rail, telegraph and a few representatives who did very long, extended tours of duty and seemed to manage without conferences.

This a period when habits can be broken and systems rebuilt for today’s conditions.

VULNERABLE FOOD INDUSTRY SECTORS

Where people are required to self-isolate or become ill, they are no longer available for work, at least for a few weeks, and this can have a knock-on effect in especially labor-intensive sectors. These include:

HORTICULTURAL CROPS: soft fruits are primarily picked by hand, as are salads, grapes, flowers, and many glasshouse crops. Automated options are available, but at very high cost.

Result: lost crops and revenue. Recovery is possible for some, but not all within a year, as most crops are annual only (seasonal intercropping is not common in glasshouse systems).

Crops with a short harvest period which are usually processed (e.g., frozen) for use the rest of the year will also be lost. This will create shortages or non-availability until the next harvest.

HAND-FINISHED MEALS AND FOODS: a surprisingly wide range of products including pizza, sushi, bread, biscuits and cakes, some confectionery (e.g., personalized Easter eggs), and packing (e.g., for variety packs, meal packs). While we may think of ‘hand-finishing’ as something that happens in a specialty shop, it is also used in a lot of factories for ‘added value’ products.

Result: some product switching or reformulation is possible, but some lines may become unavailable or very high cost, and these sales will be lost.

SLAUGHTERHOUSES: there is a lot of hands-on manipulation both of living animals and carcasses, and visual inspection. Workers are needed to make sure procedures are legal and within safety parameters.

Result: reduced output leading to higher prices, potential costs and wastage if animals are left too long before slaughter (write-down of value to the farmer, and additional feed costs).

FISH: fishing is dependent on people who go out to sea and manipulate nets. Even fish-farming has a labor quotient: sea fish such as salmon are raised at sea, but the catch and processing systems are not usually highly automated.

Result: lost catches, and extra financial pressure on the fishing industry. There will be a reduced catch available for freezing or preservation, so reduced supply until the next season.

IN SPECIALIST FOOD COUNTERS and outlets, it may no longer be economic to try to run butchery, fishmonger, deli or bakery counters within stores while supplies are constrained and specialist staff are in short supply. Consumers may be sensitive about buying food that is not wrapped.

Result: downturn in sales for suppliers of fresh and deli semi-prepared and prepared foods.

The degree of impact depends on what proportion of the workforce is unavailable at any one time. As the duration of the infection is under 2 weeks, the number of people who are infected and taking sick leave should be within normal parameters, but the (much larger) number either self-isolating or caring for children or relatives who are either sick or self-isolating will have a significant impact on absences.

CONSUMERS: they all have to eat, but they may not be coming into shops in the same numbers, and online or distance delivery is limited by the number of vans and drivers.

All consumer goods are also limited by the amount of stock held within the retail system, and in the last 20 years this has moved to ‘just in time’ delivery from producer to shelf. Warehouses exist, but products are not expected to sit there for very long. They represent money which has been spent, but not yet repaid by sale to the consumer.

The peak in excess demand is only expected to last for two to three months, and production lines of foods like tinned tomatoes rely on:

(a) tomatoes being available, and (b) long-term supply contracts with the manufacturer. There are producers who do not normally sell into some retail systems, but as this disease is global, their production cannot be assumed to be available for export or diversion.

BUT WHAT ABOUT THE STOCK MARKET CRASH?

The outbreak has come at the same time as a decision by oil-producing countries to manipulate prices to change the dynamics of producers and prices.

The outbreak did not cause this dispute, but may make it a much bigger gamble for the countries concerned as the reduction in economic activity (e.g., air travel, locking down cities for general passenger travel) has already reduced oil consumption below normal levels.

Discussion of the rationale behind the actions of Saudi Arabia and Russia can be found in the business press such as the Wall Street Journal, the Washington Post and the Financial Times.

But note that the situation is not only the result of cold hard planning; a great deal of emotion and national pride seem to be involved.

There is some evidence that both Russia and Saudi Arabia wish to drive the shale oil industry in the US out of business by keeping global prices below a level at which US companies can either make a profit or pay their debts. Damage, however, is being felt across oil-producing countries including Saudi Arabia’s neighbors in the Middle East, and in West Africa.

However, the drop in oil consumption due to COVID-19 means there is no guarantee of a rebound in consumption, and, therefore, revenues. If, on top of a reduction of demand for a few months, consumption and economic capacity in client countries is permanently scarred (companies go out of business) then Russian and Saudi oil revenues will remain low and there will be little opportunity to raise prices again.

Even though oil is now very cheap, it is unlikely that companies are factoring it back into their financial projections at this price. If their longer-term investment plan involves a move away from fossil fuels, this temporary price war is not a reason to change the plan.

On stock markets, oil is a major sector and many international companies are a main source of income, through dividends, for pension and investment companies. A drop in valuation for oil companies, because of anticipated low value now and in the future, has a big knock-on effect across stock markets.

When large sectors seem to become ‘risky,’ the traders in the market will move to a ‘risk-off’ strategy which means buying assets with a fixed value such as bonds, or those not seen as connected to company valuations, such as gold. If there is a lot of fear, some investors come out of the market altogether and keep the cash, reducing the scale of trading within the whole market.

The virus makes the economic outlook worse, but the financial implications would have been a shock even without the virus.

THE WARREN BUFFETT QUOTE

Oil companies are not the only ones in a vulnerable position. Stock markets have been rising for over 10 years (a ‘bull run’) and interest rates are very low, meaning a lot of companies took the opportunity to take on a lot of debt, but debt has to be supported by repayments, and if underlying trade starts to go badly, there may not be enough cash to pay debts even at low interest.

Famous investor Warren Buffet – who at the age of 86, has seen a few stock market crashes – says, “It’s only when the tide goes out that you know who’s been swimming naked.”

If companies are operating with a very small margin of error, it does not take much to tip the balance from success into failure. The current fashion for ‘financial engineering,’ where complex derivatives are used to increase returns in a sequence of complicated bets, can make it almost impossible to work out where the risk really lies.

As others have pointed out, the crash in Long Term Credit Management, a US investment company which failed in 1998 and precipitated a potential run on all major commercial banks in the global financial system, was triggered by a fall in value of the Thai currency, the baht. Their strategy was memorably described as ‘picking up nickels in front of a bulldozer,’ which works until the bulldozer changes speed.

Food companies have small margins, but have not been fashionable targets for highly-indebted (‘leveraged’) mergers and acquisitions (M&A) deals. Other sectors such as the hi-tech industries have been the main arena for debt-supported dealing.

There are exceptions though such as Kraft Heinz which carry a lot of debt, and the novel foods groups like Beyond Meat which have high debts and almost no sales. Retailers have also been ‘engineered’ to shift the risk of owning a lot of property.

Credit-worthiness is a permanent problem for companies reliant on seasonal crops with a low margin. Some food companies, especially small ones, could be forced out of business, but this would be primarily for standard financial market reasons.

PEAK AND BEYOND

The infection is anticipated to peak in Western Europe at the end May/beginning of June, and in the US a week or two later.

Virus infections are sensitive to heat and summer usually brings an end to seasonal flu and respiratory infections. The number of people who have had the virus and are now immune to further infection will increase, making it more difficult for the virus to find new people to infect.

A vaccine will not be available for another six months or so, as after development it will have to be safety-tested, especially if it is intended for use on frail and elderly people. It is also quite likely that not all people at risk will trust the vaccine, and will refuse it. Furthermore, it is also likely that the vaccine will not be 100% effective.

After the peak, companies may restart their existing systems: or look at where their company has proven to be vulnerable, and change them. Some will have gone out of business.

Whatever companies do, the absolute need for resilience planning and alternatives to over-centralized supply chains, production, and even office systems have been demonstrated without doubt. The conference business is at high risk, and so are parts of the tourism industry.

It is far too early to talk about silver linings, but this enforced experiment in reducing travel, commuting, and office working; testing supply chains; and the social expectation of government and health systems, should inform decisions from now on.

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