The South African agro-processing sector, and food processing in particular, has grown more rapidly than the manufacturing sector as a whole over the 2004-2014 period. The sector accounted for 13.9% of total manufacturing value add in 2015 and was the largest manufacturing sub-sector. 1 Food processing is particularly important for building manufacturing capabilities and growth as it has strong backward and forward linkages 2 to other industries that have the potential to drive economic growth. This article draws on a CCRED sector study 3 on barriers to entry and inclusive growth in agro-processing, considering key competition issues in three value chains: poultry, maize and wheat milling and dairy.
There are inherent characteristics of the agro-processing value chain that make it challenging for new entrants such as economies of scale, high capital requirements, and the importance of branding. This article explores these barriers and the kEy policy implications that may facilitate entry and transformation in the three value chains.
Animal feed to poultry value chain
The poultry and animal feed industry in South Africa is relatively concentrated.4 It is characterised by a small number of large firms who are vertically integrated throughout the value chain - from feed and broiler production to processing. Two large broiler producers, RCL and Astral, make up almost half (46%) of broiler meat production in the country.5 Although there have been some new entrants into the poultry industry (mainly at one level of the value chain - generally the broiler breeder level) it is not sufficient to create rivalry to vertically integrated incumbents. This may be partly because they depend on rivals for inputs. There are potential risks associated with depending entirely on rivals for inputs. These include limited countervailing power and lack of alternative sources of supply in the case of shortages of inputs.
Entry into this market has typically taken two forms. First, entry has generally been firms with existing activities within the value chain (i.e. milling) or those with poultry operations elsewhere in the region. Second, small-scale black broiler breeders have entered into the value chain as contract growers for vertically integrated market players, making them dependent on large incumbents for key inputs such as animal feed as well as for abattoirs and routes to market. This emphasises the importance of having capabilities and access to inputs. In addition, given high capital investments in setting up and operating as well as a lengthy production process, it would typically take new entrants more than two years to be-come profitable. The study emphasises that the ability of small entrants to successfully enter and grow in the sector is highly dependent upon the behaviour of incumbents, ability to obtain competitively priced inputs and long-term patient capi-tal to allow firms to overcome the initial years before there are any significant returns.
Maize and wheat milling
Extensive anticompetitive conduct has been uncovered in the maize and wheat value chain. This ranges from collusive conduct in grain storage and trading markets to milling and collusion in the final prices of bread and white maize products. Following competition investigations 6, the sector saw a number of entrants into maize and wheat milling with varying degrees of success and seemingly little impact on consumer prices (in bread, flour or maize meal). Much of new milling capacity has also been shown to come from agro-conglomerates with an existing presence in the value chain, expanding into processing and production. This suggests that presence at one level of the value chain may make it easier to enter at another level. Furthermore, agro-conglomerates’ control of infrastructure (e.g. silos), coupled with the advantage of scale economies appears to be a major barrier to entry for new millers and therefore new milling capacity.
In maize milling, the existence of established brands, produced by large incumbents like Tiger Brands and Pioneer Foods who benefit from economies of scale makes it harder for new entrants to compete as effective rivals. In addition, the study shows that access to retail markets for small entrants is a critical barrier to entry. The experience of new maize milling entrant, Lethabo Milling, indicates that the high costs incurred to be listed in supermarkets and unfavourable terms of payment make it difficult for small players to access shelf space and therefore customers. An initial and key hurdle faced by this entrant however was access to capital from development financiers. Following four years of struggling to get funds, the miller eventually accessed funds from the Massmart Supplier Development Fund (SDF)7 which not only facilitated market entry, but assisted in providing a route to market. Lethabo Milling’s partnership with Massmart’s SDF therefore played a role in reducing common barriers to entry for new entrants, such as accessing formal retail markets, obtaining good shelf space and overcoming listing fees.
There have also been competition concerns in the dairy sector involving alleged unilateral and collusive conduct of dairy processors which may have raised barriers to entry for new processors. 8 In 2006, for example, an investigation was initiated against eight dairy processors concerning the exchange of information which may have allowed processors to act collusively and set the purchase price raw of milk. These cases were however withdrawn and the conduct not prosecuted.9 New processors (i.e. Coega Dairy and Dairy Day) in the UHT dairy sector have indicated that the buying power large pro-cessors have over farmers is what encouraged entry.10 Moreover, at this level of the value chain, the dairy sector is highly concentrated.
High capital outlay required to set up processing plants and specialist logistics capabilities also inhibit entry into UHT milk production. Furthermore, given excess capacity in the pro-duction of UHT milk and low margins, further entry into the industry is unlikely. However, there is scope for new entrants in the dairy sector at a small scale and in niche markets such as cheese and yoghurt. The study confirms that there has been significant entry into niche markets (as opposed to con-centrated dairy markets such as for UHT milk). This has been attributed to low capital costs of entry and the ability to operate efficiently at a low scale within this segment.
1. Ncube, P., Nkhonjera, M., Paremoer, T and Zengeni, T. (2016). ‘Competition, barriers to entry and inclusive growth: Agro-processing Sector Study. Available at http://www.competition.org.za/barriers-to-entry/ and Quantec data.
2. These include backward linkages into primary agriculture and the manufacture of capital equipment, and forward linkages into packaging industries and even services such as transport.
3. See note 1.
4. See note 1.
5. See note 1.
6. Collusive conduct in grain storage and trading markets was uncovered in 2003, while cartel conduct in the bread value chain was uncovered by the Commission in 2006.
7. A fund established as part of the Wal-Mart/Massmart merger to develop new and black owned suppliers.
8. The competition case against dairy processes was however withdrawn by the Competition Commission.
9. These cases were withdrawn by the Competition Commission in 2001, on the basis that there were irregularities in the way the Commission had initiated and investigated the case.
10. See note 1.