Jeff Katz:   Hello, my name is Jeff Katz. I am a Professor of Strategic Management in the college of Business Administration at Kansas State University.

What you are about to watch was made possible through funding by the US Department of Agriculture and the KSU colleges of Business Administration and Agriculture. An important part of learning about business, particularly agri-business, is to study what real life businesses are doing.

US Premium Beef is a real life business. It is a cooperative partnership between all segments of the beef industry value chain, offering each segment an interest in all stages of beef production and processing, as well as an equal share of the financial risks and rewards. What you are about to see is a two part interview with the CEO of US Premium Beef, Steven Hunt.

Please join me in visiting with Steven Hunt as he shares with us his concerns about whether he has correctly assessed the competitive condition of the beef industry and whether the company has taken the right approach in preparing its partners for the fears of global competition that lies ahead.

Jeff Katz:  Well, we are here with Steven Hunt, CEO of US Premium Beef, taking about the beef industry. What are some of the factors affecting this industry?  I know that we have talked about globalization as one of the issues in global markets, can you talk about that a little bit for us?

Steven Hunt:  Well, what we see in the global markets is that there are tremendous opportunities especially in South East Asia, as we see look at the markets that are developing there, as standard of living is increasing in the export areas. We see that opportunity to improve as they upgrade their diet to higher protein levels. Domestically, we continue to have the same challenge of providing volume or quantity of the right type of product that the consumer is demanding, but domestically as we see the development and the resurrection of steakhouses, the steakhouse has changed the United States. And we see, there is a tremendous demand still for the right product. And I think that’s where the burden falls back on the producers in our beef industry to deliver.

Jeff Katz:  Tell me about some of the differences between say US beef and Australian beef and how that makes a difference in the world market?

Steven Hunt:  Traditionally, US Premium Beef is grain fed beef. For years, the beef industry in the United States had utilized grass or other roughages as a growing ration, and have earmarked the last hundred days to hundred and fifty days of the growing period for an intense grain fed program, which tends to lay in more the flakes of internal muscular fed or the marbling which provides the flavor and the tenderness and juiciness of a product. Overseas, or in Australia and New Zealand, they are predominately grass fed beef, where it's a product that contains less marbling or less fat, certainly in the United States and in what we feel are opportunities in South East Asia, their diets are -- the consumer demands more of a heavy product.

Jeff Katz:  Tell me a little bit about US Premium Beef, the company that you have put together.  We have talked in the past about these international markets being an important part of US Premium Beef’s market place.Tell us about the company and the little story that you have told me before about putting it all together.

Steven Hunt:  Well, US Premium Beef started as a vision of producers of cattlemen and cattle women that were concerned with the trends that we just talked about. The diminishing per capita consumption of beef relative to our competitors, poultry and pork, and what can we, as producers, do to improve on that. We have spent a lot of energy and time looking at our segmentation within our industry. What we have come to the conclusion of, is that in order to compete with our competition, we must look at what they have done and that is vertical integration.  And the concern that we have with that, is as vertical integration has occurred in those industries, it has occurred from the top down.  And essentially we’re, as producers have become growers for these company’s contract growers. And many of the producers in the cattle business are very independent group. Being a fourth generation cattle producer myself and can say with great deal of pride a very independent lot, that feel very much that we want to take ownership of our processes, our farms, our ranches in the production systems. And so when we looked at vertical integration as a way to compete, we looked that in a way that we can develop from the grass roots up. We are producers from all segments, whether it be cow-calf producers, farmer feeders, or feedlots, could join to pool their capital, pool their natural resource for cattle and by anti-processing. And that way enter the more the value added segments, adding value to our commodity, which is cattle.

Jeff Katz:  Terrific.

Steven Hunt:  We, once a group of us, a group of producers that developed the broad concept of vertical integrating, we looked at a number of concepts, different business structures, and ultimately we decided on the closed marketing cooperative as our business structure. It's unique from a traditional cooperative for many reasons. A part of it is, it’s a marketing cooperative where you essentially own the right, an obligation, to deliver so many units of the commodity. In this case, head of cattle to your company over a period of time. You pool capital in that way and either build processing, buy processing, or in our case, partner in existing processing that is already up and going and successful and contains labels and another marketing opportunities.

Jeff Katz:  So if I'm a cow-calf producer in Kansas, how do I go about becoming a member of US Premium Beef and once I do, what benefits do I receive?

Steven Hunt:  Well, again it’s a value added cooperative. It’s much like the Ocean Spray Cranberries of the world, the Sunkist Oranges, these are all types of marketing cooperatives, where producers put up the capital upfront. And in our case we have sold shares. These shares represent, for example, one share represents the right and obligation to deliver one-head of animal to our processing plants every year.

Jeff Katz:  So, if I buy one share, I have to deliver one head of cattle to the processing operation once every year?

Steven Hunt:  That’s correct. And so to qualify under a section 521 cooperative, which we are, which provides some tax advantages and also some protection on anti trust issues as we pool our resources to take ownership, you must be a member. And so we have a one-time membership fee of $500 to become a member. And then you have an investment or buy shares into the company of $55 per share. And once you have done that and we have a minimum of 100 shares and so a typical producer let’s say that may run a 1,000 head of cattle a year, may decide that I want to deliver 500 of those cattle’s through the US Premium Beef System and I have access to all the advantages of that system, then they would buy 500 shares of the stock. And once they bought those shares then they would deliver cattle year after year. In exchange for that, we put in place what we thought was extremely necessary to improve our industry and that was put those cattle through a value based pricing system. I think most people refer to those as a grid where we would pay premiums and charge discounts for cattle that would meet our criteria or not meet our criteria - providing economic incentive for producers to improve their product, ultimately winning back consumers. We also felt it’s extremely important that information be passed back through all the segments. So again in our industry we are broken up by many segments, the cow-calf producers, the farmer feeders, the feedlots. We spent a lot of time and energy over the years competing with each other and not working together, being very independent from each other. I feel that for us to succeed in the future, we must depend more on each other and that means the passing back that information. So in our system, part of what you buy into is the right to receive back your carcass data on an individual animal basis, so now we can see what kind of cattle we are producing. And if necessary, make the necessary changes in genetics or management practices to improve our product.

Jeff Katz:  So as the cow-calf producer and a stock holder in US Premium Beef, I would deliver a 100 head of cattle each year, they would be given a premium - based on it’s quality and I would receive information back for the next round as I involve myself in my breeding activities.

Steven Hunt:  That’s right, and at the end of the year, then you receive the earnings from the company you own. In this case, US Premium Beef made the choice to partner with existing beef processing. We partnered with a traditional cooperative, Farmland Industries, and bought into their subsidiary or their fully owned company, Farmer National Beef. And so now we are partners in that company. And at the end of the year as owners in that, we receive our percentage of the income based on our ownership interest. It begins with the grid premiums that come upfront over our grid system. Carcass data coming back, we also provide a transportation credit of up to $6 per head on animals that are delivered into our plants with our own trucks and at the end of the year, producers realize the benefits of the company they own.

Jeff Katz:  Well Steven, tell us how does a cow calf operator become a member of US Premium Beef and operate in that environment?

Steven Hunt:  Well, from the very beginning we thought it is essential to involve whole segments of our industry. And looking at that, we began at the cow calf level - that’s where the genetics are, that’s where we can have the most impact. But what we realized through that discussion and these meetings is that many of the cow calf producers have not retained ownership in their cattle historically. And so we had quite an educational process to go through. And so what we did was we backed up and not only looked at the cow calf segment but the feeders, the backgrounders and the feedlots. Cow calf producers can get involved by owning shares and then what they must do in this instance is retain ownership, take those calves and instead of selling them at the sale barn in the fall or in the spring as weaned calves, and retain ownership and either enter them into a backgrounding program what might be a summer grazing program or a week pasture program. And then ultimately place them into a feedlot. And so that’s an area that we have hired a livestock and meat specialist with US Premium Beef, who's located in our Dodge City field office, and goes out and works with these cow calf producers, helping them to establish those types of opportunities to retain ownership. And then ultimately they deliver cattle into our system just like a feeder would. But it has taken some time to gather that information and educate them on how that process works. Again there exits this trust even at that level or what happens once they leave my farm. Who looks over those cattle? And there are professional feedlots that make a living out of taking those cattle and putting pounds of gain on as cheap as absolutely possible in an environment that utilizes economies of scale. And so we have been very pleased with the participation from the cow calf producers. Many of those that are participating actually have already received carcass data in one form or another over time, and they have a pretty good idea that their genetics will allow for high quality carcasses. The other thing we’re encouraging is partnerships. Partnerships between the feedlots and the cow calf producers, where they may own those shares in partnership. And what happens in those cases, the cow calf producer commits to feed their cattle in their feed yard, the feed yard manages them to the correct end point, and then passes that carcass data back. And so they would own those cattle in partnership.

Jeff Katz:  Wasn’t that what you one time referred to as coordinated marketing, coordinating along the value chain from the cow calf producers right to the retailer and to the consumer, ultimately to us.

Steven Hunt:  The key is to link the consumer with the producer. And even though we have only been in business for ten months, we are already lining up consumers to meet directly with our seed stock producers that are responsible for the genetics. And so it’s been a tremendous opportunity to have that direct link whereas before there was no communication between the cow calf to the feeder, to the feeder to the processor and ultimately from the processor through to the retailer and the consumer. We got to have that direct communication.

Jeff Katz:  What do you think are the core competencies of US Premium Beef and why has this become such a popular business in such a short period of time - now marketing somewhere close to a million herd of cattle. What makes that all happen?

Steven Hunt:  Well, necessity is the mother of invention and no doubt this was the case with US Premium Beef. Many producers watched and observed as the direction of our industry, well it's very obvious to us, if you’re a consumer eating our product relative to the competition, many of us saw the next generation coming on and became concerned what would left for them under our current direction. And there were many others out there that shared the same vision, the same idea that we need to stop competing with segments within our industry and start working together. Again we use a model of the pork in the poultry industry, where they have vertically integrated and provided information throughout the system, we move some of those economic scenes that are exist in there. There is really a model out there and we have looked that the Ocean Spray Cranberries and the Blue Diamond Almonds and Dakota Pasta Growers and others, they have been out there for few years. Yes they use a different commodity but we have the opportunity to watch and observe how they formed their companies and the success of value added activities.

Jeff Katz:  How is the closed cooperative different than a traditional co-op?

Steven Hunt:  Well, there are several differences. We are a marketing cooperative and we are also a closed cooperative and that means that we take in membership that does business with us. We also have the right to turn away membership. We want to attract producers to this program that are committed to producing better products, better quality cattle and ultimately a better product. And so we have within our system, the right to take in memberships and deny memberships as well. I think that also provides us long-term protection against other entities coming in and being a part of our system that may not have the same interests that we have. Another difference is that we tend to raise capital upfront. Traditional cooperatives have gradually built capital over the years by retaining earnings within the company. In our structure, we’ve raised capital upfront. In our case, we raised over $38 million and then went out and leveraged the company at about a 50% ratio and borrowed about another $35 million to go out and to acquire an existing processing company. So in another differentiation, there is that the capital is raised upfront. This also allows us to buy into direct ownership or have direct ownership and to also start realizing earnings immediately. Earnings don’t have to be retained within the company now because our company is strong to begin with and so we can distribute earnings more readily as we move forward.

Jeff Katz:  So, on rough numbers, within a very short period of time you had commanded about $70 million, share with us what you did with that money?

Steven Hunt:  Well, it was a long process to try and decide first how we would raise it, and what the source of those funds would be because whether we went and built our own company or bought into a company, it would take a substantial amount of capital. The interesting thing is that if we look at the capital invested versus the family farmer, we found that it was relatively small investment. Most cow-calf producers have invested today roughly between $2500 and $4000 per head in land and machinery and in the horse, the four wheeler, the trailer, and the pickup.

Jeff Katz:  Amazing.

Steven Hunt:  And so when you look at that relative to investing in the processing industry, we bought in at a cost of $104 per head. Now, we asked our producers to come up with 55 and then we borrowed the balance of that from commercial banks on long-term debt. And so when you look at that comparison, a $100 a head versus several $1000 a head of investment, with the opportunity to add this much value, we’ve often compared that to producers fighting their way to the one yard line and in handing it off to the retailer to run it in for the score. We do all this work, we’re in control of all the genetics, all the management practices and that’s going to be the key to producing a better product, and so why not be involved in that.

Jeff Katz:  And so the US Premium Beef went forward and looked for a processing type operation to become a part of or to become part owner of. Tell me about that process of finding a partner that you could develop a business relationship in order to process all the cattle you had already had pledged for delivering.

Steven Hunt:  Well, Jeff it was interesting, we had a lot of interest in processing because many of the people in the business realized there were a lot of opportunities out there. And the response we got within the industry was very supportive and there was a lot of interest in doing this partnership with us. We looked at the big six beef processors, spent a lot of time with several of them, and ultimately as we looked at the options available, we wanted to line up with somebody that was successful, who already had branded products, and that was friendly to the producer, to open up as a partner. Everything pointed towards Farmland Industries as we moved forward. Yes, they were very friendly to producers as they were producer-owned. They had a company that they owned a majority of that had already established successful labels that were already out there being utilized in the stores. And they also held some of the best management in the industry in John Miller and his staff, and Farmland National Beef. And so it was a long process of negotiations, that would include establishing a letter of intent, initially where we set the framework up for the deal. We moved on to a definitive agreement where we outlined more of the specifics of the deal, including how we would own the labels and such, And ultimately on Thanksgiving eve, essentially we signed the final deal and began delivering cattle the following Monday, December 1st. Since then, we have delivered an average of 8300 cattle a week to our plants through the US Premium Beef system. US Premium Beef takes ownership of those cattle and transfers them over to Farmland National Beef.  Our plants and our quality continues to increase in the cattle that we are delivering as we feedback carcass data.

Jeff Katz:  I know that having premium in the name of US Premium Beef has a meaning and that Farmland National Beef has a large portion of its production in the higher end or more desirable premium beef. Can you tell us a little bit about that and how that works for your end customers - those buying the beef?

Steven Hunt:  We are really excited about this. We established its name back in late ‘95 and we were very proud of the fact this is US Beef and this was not a Kansas only company, this was a company that would have no state boundaries. Today, we have over 650 producers in 26 states. We are taking delivery out of 175 feedyards in seven states. Our two plants are located in southwest Kansas in Dodge City and Liberal. But, as we develop this company, we wanted something to signify quality, and that’s the premium, US Premium Beef. We think that it will be a springboard as we become more involved in the marketing aspects of beef and national beef. They are very excited about the possibilities there; they are now working on developing labels that will spend some energy focusing on this type of partnership. We have a direct link with producers - producers that care now about how the type of meat products they are producing versus just the type of life cattle they are producing.

Jeff Katz:  The idea of labeling a brand is interesting. If the cow-calf producer acquires branding, of course is something that has occurred historically; but if it’s a grocery store, that’s not something that have occurred very much in the past, is having a label or brand that a consumer can identify. How is US Premium Beef trying to change that?

Steven Hunt:  Well, we have obviously observed our competition in the poultry and pork that’s developed brand recognition. There is no doubt that we need to pursue that aggressively in the beef industry. Again, the company we bought into already owned certain labels, which we bought into through buying the company. But we see the opportunity now to distinguish our product. Now that we have the avenues and the linkage to the producer chain to distinguish our product from others, we can take that a step further and actually label it. One out of four eating experiences for consumers is poor, when it comes to eating beef.

Jeff Katz:  That’s amazing.

Steven Hunt:  We have to change that; we cannot succeed with that simple fact. And so as producers in our system, we have to design a system that addresses that. How do we reward the producers producing the good eating experience. And that comes by again evaluating this carcasses and paying producers based on the type of quality of products that they are delivering.

Jeff Katz:  Well, Steve there is a few alliances out in the industries such as Certified Angus Beef, for example. How is US Premium Beef different than an alliance based on a breed or other factors?

Steven Hunt:  Well, I think the distinction might be that many of the alliances that exist today have boundaries - whether they are state boundaries or breed boundaries. And we decided earlier on that we would let economics drive all of our decisions. And that means that there are genetics within every breed that will work. But let’s find out where they are? And the other thing is that what would differentiate us from a lot of alliances exists today is that we have ownership. Most of the alliances have contractual arrangements with processors to deliver so many cattle, that would be paid for over some type of value based pricing system. That would be similar to ours. But the vast difference is that we get it all. We get not only the grid upfront, but if there’s earnings on the table that we have left that our company reaps, we get that back at the end of the year. That direct ownership in this processing system is the distinction that we have over what might be alliances that exist today.

Jeff Katz:  Very good.

Steven Hunt:  The comment has been made to us is that they have called us an alliance before and we get a little grouchy when we are considered an alliance because we are much more than that because we own this company. And yes, we are aligning our producers up with their own company, but there is lot of distinction between us and what might be one of the hundred alliances.

Jeff Katz:  Well Steve, I noticed that when we first began talking, I looked around my local grocery store and I wasn’t able to find products from your company. But yet you are talking about them being on the east coast and the west coast and in Japan. Can you talk about the customers and why there is some differences local supply and demand?

Steven Hunt:  There is nothing that I would enjoy more than being able to walk into my local store and pick up a Farmland black angus beef product. Having said that, we are forced to deliver our product into the markets that earn us the most money. Today, they are the market in Asia, specifically Japan is the market that pays us the highest premiums - our margins are triple in that market than they are domestically. Also, upscale food service is an opportunity for us to value add, they will pay additional money for our branded products.

Jeff Katz:  Well, through all of this process now that you have innovated and developed a system that works, who do you view as your competitors in the process?

Steven Hunt:  Well, we still have the competition of pork and poultry. We cannot ignore that fact. Really what we are doing is good for the industry. I think of Ocean Spray Cranberry and what they did for the Cranberry industry by focusing on adding value to their commodity, cranberries. I think that US Premium Beef has that same impact on the beef industry and I think everybody will benefit, we hope to win back more consumers to the table. So I really feel that our competition is truly the competing proteins.  Obviously as we have success, there will be others that will follow that try and duplicate this system. And the burden on us then is to keep moving forward and improve our product, improve our system, so that we can deliver more of a better product.

Jeff Katz:  Have there been some surprises about that? I know that when I was a youngster, people used to say well that’s a good looking steer - that there will be some good meat and maybe that not always is.  Tell me about the surprises maybe you have had in the processing side of it?

Steven Hunt:  Well that’s probably an area that we have learned the most and we suspected this. We knew that much of the evaluation of cattle today was a visual evaluation. And many producers, like I mentioned earlier, didn’t have access to carcass data. And we literally have had producers who’s come back to us and say that can’t be my animal, there had to be a mistake, I don’t produce a bad one. And in some cases, I have actually asked producers to meet me at the plant and we tracked their cattle right through the plant. And the minute that hide comes off and they see the meat and they finally realize I have got to change something. And it wasn’t until that point that they really believed that they need to make those types of changes. But then in a lot of cases, they were pleased with the product that they were producing. The positive thing is again, now they have the knowledge. Knowledge is power and that producer goes back and either changes the genetics or changes the management practices that will ensure that the next time they deliver, it will be a higher quality product.

Jeff Katz:  Well, through all this I am curious about one issue, it seems so simple to connect the consumer to the producer and provide some feedback. Why is that so unique in the beef industry, and why did it take someone with your vision to see that and make it happen?

Steven Hunt:  Well, in defense of the cattle industry, it’s historically been a very independent industry. We have survived over the years by being very independent. Hogs for example, you could stack all the hogs in two counties in Kansas. And that’s pretty easy to vertically integrate and pass information through. But in the cattle industry, there is only one thing that utilizes that rangeland from coast to coast and that’s a ruminant animal - that’s the cow. And so we are geographical dispersed, and that tends to make us independent. And as we moved forward, it’s the dependence on each other that will enable us to succeed. I think there are number of producers, I know there are number of producers that see that, but it is a challenge everyday to bring these segments together, to drop the barriers in this trust in existence, so that even as we speak, there is a little revitalization discussion of captive supplies, price transparency. Many of these issues that we have drummed up in the past, but yes our issues have brought many of us to the table, but we quickly got to the realization that we can't fix all those things. But what we can do is invest in a system and make a proactive move to improve the type of marketing system we have, ultimately improve our product and get more money back in the producer’s hands and the final winner in it is the consumer in getting what they want.

Jeff Katz:  We’d like to thank Mr. Steven Hunt and the Board of Directors of US Premium Beef for allowing us to take a look inside their farmer owned cooperative.

From the beautiful campus of Kansas State University, in the heart of Wildcat Country, this is Jeff Katz saying thanks for joining us.