Rising commodity costs shrink food firm margins

Implications: The price of agricultural products since 2006 has substantially increased the ingredient costs of dairy and other food companies. As a result, dairy and other food companies experienced unfavorable net operating margins in 2007.

Analysis:  The price of agricultural commodities have increased substantially since 2006. Raw milk prices used to make cheese, beverage milk and other dairy products are 50 percent higher. Cheese prices are 65 percent higher. Increases in grain prices have been even more dramatic with corn prices up more than 50 percent and wheat prices more than double. Dairy and other food companies that use these commodities as ingredients either experience higher costs and lower profits or attempt to pass on this increased cost to their customers through higher prices. Passing increased costs onto customers is not without resistance. Wholesale and retail customers resist increased prices as they attempt to remain competitive in a very competitive and cost controlled food industry. Increased prices may also dampen sales, especially currently with consumers experiencing not only higher food prices, but also higher gas prices.Nevertheless, Kraft and other food companies have no choice but to increase prices of food products they sell. While Kraft was able to increase dollar sales last year by 8 percent, high commodity costs along with higher energy costs resulted in 15.4 percent lower net earnings. Management needs to evaluate all operations for possible cost savings, but price increases will be necessary to improve net earnings.