The Impact of Information Technologies on the Beef Industry’s Supply Chain Coordination

Abstract #: 003-0180

Brian D. Neureuther

IndianaStateUniversity

School of Business

Terre Haute, IN 47809

Email:

Phone: 812-237-2116

FAX: 812-237-8133

George Kenyon

LamarUniversity

College of Business

Beaumont, TX 77710

Email:

Phone: 409-880-8388

FAX: 409-880-8620

Submitted for Publication in the Proceedings of the Sixteenth Annual

Conference of POMS, Chicago, IL, April 29 - May 2, 2005.

Abstract

Historically, the growth of the beef industry has been hampered by the various entities within the beef industry’s supply chain. The primary obstacles to growth are the large number of participants in the upstream groups and the lack of coordination between them. Akerlof (1984) theorized that asymmetric information between buyer and sellers ultimately results in adverse product selection, and eventual market failure. Nitschke and O’Keefe (1997) have stated that in order to maximize value within a supply chain, the coordination mechanisms need to be matched appropriately to the market structure. Steckbeck and Boettke (2001) believe that competition and profit will create agencies (i.e.: middleman) that facilitate the selection process in markets with asymmetric information problems providing buyers and sellers will trust promoting knowledge. Narayanan and Raman (2000) have suggested that information-based solutions can improve supply chain performance and reduce goal incongruence by making more variables observable and, hence, reducing actions that negatively impact on the principal’s welfare. Over the last decade significant advances have been made in information technologies. Many new companies have been founded to promote these technical advances. This research looks at the upstream participants, primarily the buyer agencies and principles between the cow-calf producers and the meat packing companies, to determine the degree to which information technologies are currently being utilized, and the degree to which these new technologies have driven improvements within the Beef industry’s supply chain.

Introduction

The beef industry’s is characterized by several distinct levels of participants; breeders, cow-calf producers, stockers, backgrounders, action markets, finishers, meat packers, meat processors, distributors, and retailers. Lamb and Beshear (1998) asserted that the various groups that comprise the beef industry’s supply chain pose a significant obstacle to the overall growth of the industry, and that the large number of participants in the upstream groups are hindering the coordination of better supply chain practices. It is estimated that poor coordination between the supply chain participants in the US food industry is wasting USD$30 billion annual (Fisher, 1997). Though there has been significant vertical integration and consolidation in the downstream levels of the beef industry’s supply chain, very little coordination exists at the upper level.

Even though the demand for meat products has been growing in the US, over the past several decades the beef industry has been losing market share. This decline in beef has occurred while the US has become the global leader in beef production, with 25.4 billion pounds of beef produced in 1997 (Katz and Boland, 2000). This loss of market share is a result of several factors: consistency of beef products, availability of substitute products, lack of variety in beef products, and consumer concerns on health and safety. Many of these issues are directly related to the inefficiencies of the beef industry’s supply chain. One of the primary problems preventing the improvement of coordination in the supply chain is the lack of consistent economic incentives to drive the required changes. Historically, when one sector of the supply chain experiences some benefit, it has been temporary and is often at the expense of some other sector.

Akerlof (1984) theorized that asymmetric information between buyer and sellers ultimately results in adverse product selection, and eventual market failure. It was his belief that without an asymmetric flow of information between buyers and sellers low quality goods would increasingly be promoted as high quality. Kularantna et al. (2001) asserts that the traditional beef marketing system is failing to transfer information about quality and customer requirement upstream to the producer. They believed that the current methods of marketing live cattle were the primary issue with this brake down in communication. Their premise is that because pricing of live cattle is rarely based upon the quality of the meat that the information flows to producers about what consumers’ value is being inhibited. Thus, without the rewards typically associated with higher quality, it can be theorized that producers of high quality cattle will leave the market, resulting in the continued decline of prices and overall beef quality, resulting the eventual collapse of the beef market. Schroeder (2003) further asserts that industry goals need to be prioritized, alliances need to be formed, and development of a differentiated product relative to international competitors need to occur in order to develop a coordinated and well aligned vertical value chain.

Steckbeck and Boettke (2001) assert that asymmetric information problems are profit opportunities. In fact several companies have recently started offering Internet based services to the beef industry that might bridge the information problems inherent in the current supply chain structure. The focus of this research is to assess the impact of Internet based technologies of the beef industries supply chain. Are the services being offered by these information technology companies improving the efficiency of the beef industry’s supply chain?

Economic Theory and Incentives for Driving Change

Hobbs and Young (2000) proposed that there were four forces driving closer vertical coordination in agricultural supply chains: the choice of governance structure, product characteristics, technological and socio-economic drivers, transaction characteristics. In the model presented by Hobbs and Young, technology, regulatory, and socio-economic drivers will affect product characteristics, and may influence transaction costs. Technology typically will create economies of scale, allow tighter quality control, and improve information flows. Socio-economic factors impact vertical coordination within supply chains through changes in consumer demands.

Hobbs and Young (2000) stated that as transaction characteristics change, transaction costs would be altered, thus influencing vertical coordination. Furthermore, they classify transaction costs into three categories: information and sorting costs, negotiation costs, and monitoring and enforcement costs. He describes information and sorting costs as the expenditure of time and resources in the identifying suitable trading partners, specifying/identifying product quality, gathering price information, etc. Negotiation costs are defined as the costs that arise during the transaction, including the costs of determining contractual terms, paying agent and middleman fees, retaining the services of a lawyer, etc. Monitoring and enforcement costs are the costs incurred in ensuring the pre-agreed terms of the transaction are being adhered to.

Over the last decade companies’ have devoted significant effort and resources too not only improving the operational performance within their own firms, but across their entire supply chain. Frequently, these efforts to improve the supply chain have included improvements in information technology. Unfortunately, many have failed due to resistance from key stakeholders fearing that they would suffer from the operational changes that would benefit the supply chain overall. Narayanan and Raman (2000) suggest that when making operational changes to the supply chain consideration must be given to the redesigning of control mechanisms, such as incentives. Based upon the notion of a rational self-interested “agent” and a “principal” that seeks to influence the agent’s behavior, Narayanan and Raman proposed a framework were by “ the principal seeks to design incentives, information and decision-making authority in such a way that, while maximizing his or her welfare, the agent will, to the extent possible, also maximize the principal’s welfare.” They also noted, “incentive issues arise when either the actions of an individual cannot be observed or when one individual has information not known or possessed by the other individual.”

According to the U.S.D.A. National Agricultural Statistics Service’s 2002 census of Agriculture, ninety percent of America’s agricultural operations are owned and managed by individuals or families, and are still considered small farms. In this group fifty-nine percent of these operations have revenues of less than $10,000. With the exception of the farmers and ranchers, the various entities across the beef industry’s supply chain can be classified as rational, and self-interested. Within these rational self-interested organizations many factors have been improved. Economies of scale have been reached at the meat packer and processing level, with four companies control approximately 80% of the market share. In the middle of the supply chain, the number of finishing operations has shrunk ninety-eight percent, such that in 2001 there were only about 2,100 feedlots in the U.S. From the retailer up to the beginnings of the supply chain, oligopolistic power is held at each level over the preceding level of the chain. At the beginning of the supply chain (i.e.: cow/calf producers) a commodity market exists.

Information Technology and the Beef Industry

Narayanan and Raman (2000) stated that changes in supply chain operations often included applications of information technology (IT). They further suggested that IT-based solutions for improving supply chain performance would reduce goal incongruence by making more variables observable and, hence, reducing actions that negatively impact on the principal’s welfare, by disseminating private information broadly in the supply chain and thereby reducing problems associated with adverse selection and local knowledge. Other benefits espoused by IT advocates with respect to e-commerce are: (Louvieris, Van Westering, and Driver, 2003; Rudzki, 2001; Bagsarian, 2001; Haapaniemi, 2001)

  • It offers the opportunity to improve customer relationships and strengthen customer loyalty.
  • It improves the efficiency of current relationships.
  • It facilitates the hooking-up with new buyers and sellers.
  • It provides a means of mutual communication and interaction with consumers.
  • It improves the efficiency of information transfer.
  • It provides a clearinghouse for information.
  • It can lower transaction costs.
  • It can help employees be more effective.
  • It can improve the coordination between supply chain partners.

Peypoch (1998) discussed the leveraging of cost-cutting benefits typically available with IT through the streamlining of activities, and the utilization of this technology to create electronic communities (networks) that can drive closer relationships among competitors, suppliers, buyers, and sellers. Through the creation of electronic communities, the traditional barriers that exist between supply chain participants could be lowered. By using a multi-tiered structure that provides for different vertical and horizontal interactions, electronic communities can increased an organization’s exposure, thus allowing a more orderly and efficient trading process. Peypoch further claimed that the potential results would be to lower the cost structure across an entire industry such that all participants would benefit.

Wise and Morrison (2000) point out that there are three major flaws that have negatively impacted the effectiveness of current B2B models. The first flaw is that the value proposition offered by the various exchanges is counter the current knowledge and theories on how to create and maintain buyer-supplier relationships. The second major flaw is that most exchanges deliver little benefit to sellers. The third major flaw is that in the vast majority of cases, exchanges have not captured their customer’s priorities to allow for the in-depth creation of distinctive offerings. Wise and Morrison stated that future exchanges would need to enable buyers and suppliers to form tight relationships, while still maintaining the reach and efficiency of Internet commerce. In order for future e-commerce models to succeed in the long run, rewards must flow to both sellers and buyers. Wise and Morrison further stated that while the physical transfer of goods is the goal of all business transactions, the information that defines the transaction can be separated and exchanged electronically, and that this information is frequently more valuable to companies than the underlying goods. Areas where e-commerce could potentially improve the beef industry’s supply chain are:

  • Sorting of product features that best meet buyer’s needs and leveraging knowledge of qualified suppliers to serve buyers as a demand aggregator. Thus, reducing the buyer’s search and qualification costs, as well as reducing the seller’s advertising costs.
  • Facilitate the bundling of products, information, and services. Thus, enabling the creation of long-lasting buyer-seller relationships that will de-emphasize product price and exchange-based transactions.
  • Facilitate asset swap benefits that allow suppliers to better utilize key assets, and enable buyer’s to tap a broader, more efficient supply base.

Examples of these benefits would be: first, allowing ranchers with finishing facilities and/or contracts to maximize their economies of scale by offering services to other ranches. Second, allowing finishers and feedlots with contracts or buyer relationships to coordinate the available of their respective herds to maximize their product offerings to customers with specific needs. Third, to facilitate meat packers’ and meat processors’ search for cattle to meet their specific needs. Finally, to facilitate the flow of information from suppliers to buyers on beef quality, availability, and other key determinates.

The Impact of Information Technology within the Beef Industry

Using a mailing list from the USDA Packers and Stockyards Administration, a survey was sent out to randomly selected members on the list. From this mail out there were 96 respondents, providing an accuracy of +/- 4 percent. The survey asked the respondents about their usage of the information technologies (IT) in their cattle business and about their perceptions on the value added to their business by these technologies. Most of the respondents (85.4%) were Order Buyers, many with multiple rolls in the industry. Forty-six percent of the respondents are Stockers, twenty-seven percent are Backgrounders, twenty-seven percent are Feedlot operators, and six percent are meat packers or processors. The data was organized so as to compare two groups of individuals: internet users and non-internet users. Fifty-two percent of the respondents used the internet in their business activities. Results from the survey allowed respondents to select multiple answers in order to gather a full understanding of their business.

In the internet user group, roughly eighty-five believed that they were receiving value-added benefits in the areas of communication, information, and coordination (see Table 1). In a theoretically, ideal supply chain, it would be expected that information flows for the beef industry would focus on the following: types of beef demanded, technology, market demographics and market statistics, and cattle availability. In this ideal supply chain, from the Buyers perspective, information regarding; 1) the types of beef demanded the primary source would be meat packers and meat processors, 2) technology and general market conditions the primary source would be industry associations and government agencies, and 3) cattle availability the primary source would be cow-calf producers, stockers, backgrounders, and feedlots. With respect to the actual collection of information as reported by users in the survey, Table 2 shows the breakdown from various sources of information used. It can be seen that the two primary sources of information were from auction markets and government agencies. These results indicate that auction markets have developed into information clearinghouses. It remains unclear if there are any uninterrupted, direct lines of communication from consumers upstream to cow-calf producer. From interviews with various cattlemen, direct knowledge of consumer demands and how they are being aggregated up to them do not exist.

Insert Table 1 About Here

Insert Table 2 About Here

When asked about usage of the various methods for accessing cattle markets,Table 3 shows that the primary usage of online procurement is in the sourcing of cattle directly from producers. This result is consistent with expectations. The potential benefits of e-markets and e-commerce technologies have not been developed to any great extent with most auction markets. It would appear, however, that Internet users use more procurement sources than non-Internet users. By examining the percentages, Internet users use more varying types of procurement sources than non-Internet users. This can be attributed to the increased information available to Internet user that may not be as readily obtainable without the Internet.

Insert Table 3 Here

The survey also asked about their usage of online technologies, such as live auctions and video auctions. Statistical tests were run on the survey data to see if these online technologies provided any cost benefits to users.