The name is absent

Vertical Coordination and Contract Farming

A rapid increase in the higher supply caused a drop
in the live broiler prices toward end of the 1950s. Many
hatcheries and feed companies experienced considerable
losses because of the overproduction and depressed
broiler prices. In order to coordinate production capacity
at each stage, feed companies became more directly
involved in the broiler business. They developed a closer
relationship with processors by acquiring or merging
with processors and by building growing facilities.

As feed companies increased their processing
operation, independent processors and producers found
themselves with fewer markets for buying and selling
broilers. Hence, independent processors established their
own contracts with feed companies to obtain birds or
with growers to produce the birds.

In the 1970s, many feed companies left the broiler
industry because of depressed broiler prices and high
input costs. Processors took over control of almost all
stages to gain efficiencies from improved coordination.

Presently, few major processors control the vertical
stages in broiler industry from breeding to market ready
products, through vertical integration and production
contracts. In 1950, 95% of broiler producers were
independent. More recently, independent producers
accounted for only 10% of total broiler production,
whereas 88% were produced under a contract
arrangement and 2% were produced in company-owned
broiler facilities (vertical integration) (Martinez 1996).
Today nearly all broilers are grown under contract (92%)
or in integration (8%) (Table 3.3).

A 1996 survey of broiler companies conducted by
the Broiler Industry listed 48 companies, which account
for almost the entire U.S. broiler production. The top 15
companies jointly control 77% of the total industry
production. The largest broiler company produces about
22% of the entire broiler output. According to a survey
conducted with 19 broiler companies, 17 company were
using tournaments as the way of setting prices, the
remaining two companies were using fixed performance
standards (Tsoulouhas and Vukina 1999). Knoeber and
Thurman found much stronger evidence of risk
reduction in the broiler chicken industry under relative
performance contracts. Their research concluded that
89% of the broiler growers showed statistically
significant variance reduction with relative performance
contracts as compared with standards (absolute)
performance contracts (Knoeber and Thurman 1995).

As the broiler industry has become more integrated,
the types of the contracts have also changed. The first
contracts between integrators and growers were open
account contracts. The other types were guaranty-
price contracts, flat-fee contracts, feed conversation
contracts. Today, combination contracts are often used
which combine the desirable attributes of previously
used contracts.

Production contracts (resource providing contracts)
are legal agreements between an integrator and a farmer
(producer) that bind the producer to specific production
practices. Broiler contracts vary, but all of them have
two common features. One of main features is the
division of responsibility for providing inputs. The other
important feature is the method used for grower
compensation. Growers provide land and housing
facilities, utilities (electricity and water) and labor.
Operating expenses such as maintenance, repair, chicken
house clean up, and manure and dead bird disposal are
also the responsibility of the farmer (Vukina and Foster
1998). The integrator provides chicks, feed, medication
and advisory services. Typically, the processor company
owns and operates hatcheries, feed mills, processing
plant and provides transportation of feed and live birds.
The other inputs such as fuel and litter can be the
responsibility of either the integrator or the producer or
can be shared. Most of the integrators require strict
technical qualifications regarding construction and
equipment of chicken houses. Chicks of certain genetic
characteristics and feed mix are also provided by the
integrators. Broiler contracts can be only one flock or
more than just one production cycle (Hamilton 1994b).

Poultry (or livestock) contracts differ from those
used in other commodities because contracts do not
involve the sale of commodities, instead they create
other forms of legal relationship such as service
contracts. That means contract growers do not own the
product. They are being compensated for what they
provide, land, building, fuel and labor. That is why
producers could be accepted as relative piece-rate
workers (Skully 1998).

Problems between grower and processor often result
in litigation. The more common claims include: Early
contract termination, requirements for additional
improvements, manipulation of quality, quantity or cost
of inputs, under-weighing of poultry and feed, mis-
evaluation of the producer’s performance etc. (Hamilton
1994b).

Integrators can force changes in operation whenever
they wish, since there is no contract to prevent such
changes. Broiler growers often complain that these
changes are excessively expensive (For example new
ventilation system), but almost they have no choice since
they have large sunk investments. It was argued that in
this situation growers face a “hold-up” problem (Lewin-
Solomon 1999). Another source of risk for the grower is
non-renewal of the contract (Aust, 1997).

Most broiler contracts have a similar remuneration
scheme which include minimum guaranteed payment,

Food Marketing Policy Center Research Report #52

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