Lessons from Tri Valley Growers' Bankruptcy

1. The Bankruptcy of Tri Valley Growers:What Went Wrong and What Lessons Can We Learn? Himawan Hariyoga Richard J. Sexton Funding provided through a co-op work agreement with USDA, RBS, Co-op services

2. A Brief History of TVG • Tri Valley Packing Assn. (TVPA) was formed in 1932 with 89 members to process cling peaches. Around the same time Turlock Cooperative Growers (TCG) was formed, also to market cling peaches. • In 1963 TVPA and TCG merged to form TVG. They operated 5 plants with tomatoes, peaches, pears and apricots comprising the major commodities. • In 1964 Oberti olives joined TVG. • In 1978 TVG purchased S&W Fine Foods. • In the early 1980s TVG purchased the assets and acquired the members of distressed cooperatives, Glorietta Foods and Cal Can.

3. A Brief History of TVG (cont.) • In 1985 Bill Allewelt retires as TVG CEO. • In 1987 Board Chairman James Saras becomes CEO. • In 1989 TVG acquires Redpack Foods in NJ to remanufacture tomato paste. • In 1990 TVG acquires the fruit business of F.G. Wool Packing Co. and also acquires its growers’ contracts. • In 1993 TVG acquires peach business of Sacramento Growers Co-op and also offers membership to its growers. • In 1995 Joe Famalette becomes CEO & President. • In 2000 TVG files for Ch. 11 bankruptcy.

4. Essential Aspects of TVG’s Operations • Major commodities: Peaches, tomatoes, pears, and olives. • Pooling: Prior to 1983, TVG operated a single pool. In 1983they adopted the 50/50 pooling concept, wherein both general and commodity-specific pools were operated. • Raw product procurement: Products were acquired both frommembers on a cooperative basis and from nonmembers on a cash-contract basis. • Finance: Prior to restructuring as a new-generation cooperative, TVG operated a base capital plan. Equity requirements were 140-145% of 8-year average of the “established value” of a member’s deliveries. • Processing plants: In mid 90s TVG operated 10 plants, 9 in CA (Figure 1) and NJ plant—8 of 10 were acquired from other co-ops or IOFs.

5. Types of Plant: Butte Sacramento San Joaquin Stanislaus Merced Madera Figure 1:Location of TVG’s Plants in California, 1996. Fruit Plant Tomato Plant Tomato and Fruit Plant Vegetable and Fruit Plant Olive Plant

6. TVG’s Major Markets--Tomatoes • Tomatoes comprised about 39% of TVG’s revenues in the 1990s • Industry has undergone major structural changes—(i) relocation of production, causing a mismatch between production and processing capacity, (ii) emphasis on low-cost bulk paste mfg., with remanufacturing done elsewhere. • Processed tomato products sell in a global market and prices are subject to wide fluctuations (figures 2 and 3). Prices are strongly influenced by inventories carried forward from the previous crop year. • TVG used prices set by tomato bargaining assn. to determine “established value” for its tomatoes

7. 0.65 0.61 0.60 0.55 0.54 0.50 0.45 0.43 Price ($/pound) 0.41 0.40 0.39 0.37 0.35 0.34 0.31 0.30 0.30 0.29 0.25 0.23 0.21 0.20 0.15 74 75 76 77 78 79 80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00 Year Nominal Price Real (1982-84) Price Trend-Nominal Price Trend-Real Price Figure 2: Price Trends of Industrial Tomato Paste (fancy 31%, 55 Gal. drum), 1974-2000.

8. 95.00 90.00 85.00 80.00 75.00 70.00 65.00 $ / ton 60.00 55.00 50.00 45.00 40.00 35.00 30.00 25.00 20.00 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 00 Year Nominal Price Real (1982-84) Price Trend Nominal 74-00 Trend Real Figure 3: Trend of California Processing Tomato Prices at First Delivery (Receiving) Point, 1970-2000.

9. TVG’s Competitiveness in the Tomato Market • Attempted to join the “paste” revolution by building a paste plant in 1974 and securing a 10-year, cost-plus contract. • Acquired remanufacturing operation in NJ in 1984. • Acquired facilities and labels of failed co-ops Glorietta (1981) and Cal Can (1982). • This nonstrategic approach to expansion led to processing facilities that (i) were not well aligned geographically with production, (ii) lacked state-of-the-art technology in some cases, and (iii) were not well aligned with market needs in terms of product capabilities.

10. “These facilities were not geographically well located nor was the equipment well suited or coordinated to serve market requirements.” --TVG CEO and BOD Chair James Saras, 1993.

11. TVG’s Competitiveness in the Tomato Market (cont.) • TVG was credit constrained in terms of investments in plant modernization and relocation because (i) TVG was already carrying a high debt-to-equity ratio and (ii) members were suffering due to market adversities, thus limiting opportunities to collect more equity from them. • Consequently TVG had high shipping and processing costs relative to its competition. • TVG’s resources were dissipated by producing a wide variety of low-value and/or low-margin products. 435 tomato product items or labels: 154 peeled products, 148 remanufactured products, 61 tomato paste products, 22 juice products, 17 puree items, etc.

12. TVG’s Competitiveness in the Tomato Market (cont.) • TVG’s major tomato marketing channels: retail 44%, food service 30%, contract 12%, industrial 5%, government 2%, exports 1 % tomato sales. • Retail sales were mostly private label. • TVG largely missed the explosion in demand in the 1990s for pasta sauces, Mexican salsas, and barbecue sauces. • Very low prices in 1991-92 years caused reduced grower shipments to TVG in subsequent years, leading to under-utilization of plant capacity—tomatoes processed in 5 plants could have been processed in 3.

13. TVG’s Competitiveness in the Tomato Market (cont.) • Stagnant processed-product sales in early 90s led to high inventory costs (figure 4). • Tomato market adversities led to low grower returns relative to the market (figure 5) and subsidization from fruits to tomatoes under the 50/50 pooling arrangement. • TVG’s inability to compete in the growing bulk-paste segment caused it to refocus on producing peeled products and producing branded rather than private-label products. • However, TVG’s brands were relatively weak and the value-added strategy brought it into direct competition with larger, financially stronger rivals.

14. 120 100 80 Percent (%) 60 40 20 0 94/95 88/89 89/90 90/91 91/92 92/93 93/94 95/96 Pack Year (July1 - June 30) Paste Peeled, sliced & diced Sauce All Tom. Products Figure 4: TVG's Tomato Products: Sales Movement (% of Product Sold), 1988/89-1995/96 Pack Years

15. 150.0 140.0 130.0 120.0 110.0 Pool Return (% of EV) 100.0 90.0 80.0 70.0 60.0 50.0 83 84 85 86 87 88 89 90 91 92 93 94 95 Pool Year Without 50/50 Pool With 50/50 Pool Established Value (EV) Figure 5: TVG's Tomato Pool Performance: Returns to Members As a Percentage of Established Value, 1983-1995

16. TVG’s Problems with Tomato-Growing Members • Most tomato growers were “multi-cannery grower” and lacked loyalty to TVG as a cooperative. • TVG lacked strong membership contracts that would have required delivery and was forced to offer special deals—cash contracts, accelerated payments, low rates of equity retention—to retain the patronage of these growers in the 90s. • Membership declined 32% from 90-96. Only 54% of tomatoes were acquired on a membership basis in 1996. • In 1994 TVG actively contemplated a tomato exit strategy. However, a new board and management team took over in 1994 and recommitted TVG to the tomato market.

17. TVG’s Tomato Market Dilemma • Tomatoes were a growth industry relative to canned fruits. • TVG gained marketing synergies by selling both tomato and fruit products . . . BUT • TVG was not competitive in cost-driven commodity market for bulk paste, lacked strong brands and resources to compete with major branded-product producers, and faced stiff competition and powerful buyers in private-label sales.

18. Tomatoes in TVG’s Last Years • Under NGC restructuring 1.8 million shares of tomato stock (1.8 million tons) were authorized but less than 800,000 were issued. • Nonmember contracts expired after 1996 and were not renewed, causing member based procurement to increase to 90% in 1997. • New management raised prices after 1996 pack, causing sales to deteriorate and inventories to rise. • Although prices improved in the late 90s, TVG could not pay an EV equivalent to the industry average price.

19. TVG’s Competitiveness for Fruits and Olives • Fruits comprised 53% (25% canned peaches, 20% fruit cocktail) of revenues in the 90s and olives comprised 6%. • Per capita consumption of both canned pears and peaches has been declining, while olives consumption has shown a slight upward trend (figure 6). • Prior to bankruptcy, TVG was the largest fruit processor in CA, with about a 40% aggregate share. • 85% of tonnage was acquired on a membership basis. • TVG operated its own brands (S&W and Libby) but sold most (53.5%) under private labels.

20. Figure 6: Per Capita Consumption of Canned Peaches, Pears and Olives (fresh- weight equivalent), 1970-1998 8.0 7.0 6.0 Pounds 5.0 4.0 3.0 2.0 1.0 0.0 70 72 74 76 78 80 82 84 86 88 90 92 94 96 98 Year Peaches Pears Olives Trend Peaches Trend Pears Trend Olives

21. TVG’s Competitiveness for Fruits and Olives (cont.) • Most of TVG’s growth in fruits was through acquisitions, including failed cooperatives Glorietta, Cal Can, and Sacramento Growers. • Despite its relatively large market share, TVG was essentially a price taker in its output markets—1997 market shares for peaches were TVG total 15.3%, Del Monte 43.7%, PL 37.6%. Shares were similar for canned pears and fruit cocktail. • S&W brand was consolidated into TVG in 1996 whereas previously it was an independent subsidiary—90 management positions, including considerable sales expertise, were lost.

22. TVG’s Competitiveness for Fruits and Olives (cont.) • Fruit products on average generated a higher margin for TVG than did tomato products. • Unlike tomatoes, most fruit procurement came on a membership basis, but nonmember procurement increased over time. • 50/50 pool consistently caused peach growers to subsidize tomato growers, which caused some peach growers to opt for cash contracts. • Fruit growers had fewer outside options than tomato growers and consequently were more loyal to TVG—this fact may have caused TVG to use peach revenues to subsidize tomatoes.

23. TVG’s Competitiveness for Fruits and Olives (cont.) • Although olives were a high margin item for TVG, they caused many problems—movement as a % of production was consistently lowest of any TVG commodity, % of nonmember purchases increased rapidly to 71.5% in 1996, and huge costs (+$10 million) were incurred due to environmental contamination of Madera, CA processing plant. • 50/50 pool returns relative to (a) EV and (b) independent pools—Figure 7 Peaches, and Figure 8 Pears.

24. 170.0 160.0 150.0 140.0 Pool Return (% of Established Price) 130.0 120.0 110.0 100.0 90.0 80.0 83 84 85 86 87 88 89 90 91 92 93 94 95 96 Pool Year Independent Pool 50/50 Pool Established Price Figure 7: TVG's Peach Pool Performance: Returns to Members As a Percentage of Established Price, 1983-1996

25. Independent Pool 50/50 Pool Established Price Figure 8: TVG's Pear Pool Performance: Returns to Members As a Percentage of Established Price, 1983-1996 150.0 140.0 130.0 120.0 Pool Return (% of Established Price) 110.0 100.0 90.0 80.0 70.0 83 84 85 86 87 88 89 90 91 92 93 94 95 96 Pool Year

26. Evaluation of TVG’s Fruit Operations • As with tomatoes, acquisitions and joint ventures were by happenstance not strategy. • Unlike Pacific Coast Producers, a peer co-op which focused on low-cost, private-label production and Del Monte, which focused on value-added brands, TVG tried to perform in both markets. • Grade pack pear production was at a cost disadvantage relative to producers in the Northwest. • The olive business was a loser and should have been jettisoned. • The most profitable product was peaches, but cross subsidies from peaches to tomatoes and pears engendered discontent among peach growers. • Despite many problems TVG’s fruit operations (excluding olives) were competitive to the very end.

27. Joe Famalette and the NGC Restructuring • April 1995 Famalette is hired as CEO and President. • NGC restructuring plan is presented to growers in June 1996. • Background: TVG’s equity base was hemorrhaging due to loss of members (who were then entitled to equity refunds) and increased use of cash contracts, which presented no opportunity for a retain.

28. The NGC Essentials • Issuance of transferable capital stock by commodity class. • Capital stock conferred a delivery right and obligation. • Existing equity pool credits were converted to shares of capital stock. • 50/50 pooling concept was replaced with a “profitability target” concept that was closely akin to a single-pool concept, i.e., all commodities shared in TVG returns until profitability target was reached. • New pooling concept thus had the potential to exacerbate cross-subsidy problems of the 50/50 pool.

29. The NGC Essentials (cont.) • Restructuring was accompanied by a purge of many employees from the pre-Famalette era--the CFO position was eliminated, key new executives came from American Crystal Sugar (Famalette’s old company), Pacific Bell Directory, and the railroad industry. Only three incumbent executives were retained. • Criticism is that new executives knew little about (a) cooperatives or (b) the processed food business. “They fired everyone who knew where the light switch was at” –Bill Allewelt, former TVG CEO.

30. The Final Downward Spiral • In 1996 TVG changed its definition of operating income and redefined its fiscal year. • Long-term debt rose from $30.1 million in FY95-96 to $145.6 million in FY 1996-97. • In August 1997 Deloitte & Touche warned TVG of increased risk of inaccurate financial reporting. • In August 1998 TVG announced a net loss of $78 million and fired Famalette (Figure 9). About 50% of this loss resulted from paying growers 129% of EV vs. 90%, which was the guaranteed payment. • Losses were all carried forward, effectively depleting the co-op’s equity (Figure 10).

31. 80,000 40,000 0 69/70 71/72 73/74 75/76 77/78 79/80 81/82 83/84 85/86 87/88 89/90 91/92 93/94 95/96 97/98 99/00 $ (000) (40,000) (80,000) (120,000) (160,000) Fiscal Year Net Income Actual Operating Income Before Tax Reported Operating Income (=EBIT) Figure 9: TVG's Operating Income and Net Income, FY 1970-2000

32. Figure 10: TVG Members' Equity, FY1969/70-1999/2000 250,000,000 200,000,000 150,000,000 100,000,000 50,000,000 Value ($) 0 69/70 71/72 73/74 75/76 77/78 79/80 81/82 83/84 85/86 87/88 89/90 91/92 93/94 95/96 97/98 99/00 (50,000,000) (100,000,000) (150,000,000) (200,000,000) Fiscal Year Equity Pool Fund Credits Capital Stock Allocated Pool Loss Retained Earnings

33. The Final Downward Spiral (cont.) • Debt-to-equity ratio rose from 1.51 in FY 1996-97 to 3.50 in FY 1997-98. • FY 1998-99 closed with a net loss of +$120 million. • Further losses in FY 1999-00 reduced the cooperative’s book value of equity below zero. • In July 2000, TVG filed ch. 11 bankruptcy and in 2000 processed only a fraction of its contracted tomatoes, peaches, and pears. • Signature Fruit, a John Hancock subsidiary, acquired the fruit business, Del Monte acquired the S&W brand, and a grower co-op bought the olive business, including the Oberti brand. • Litigation ensued and continues to this day.

34. What Went Wrong—Various Opinions • David Long, CEO Signature Fruit: TVG had too many products in too many packages which ended up in inventories. It made a mistake pursuing branded products when its strength was in private labels. • Jeff Boese, President CA League of Food Processors: TVG was not a low-cost processor. Famalette brought in people who were not from the food business. • Mike Machado, CA assemblyman and former TVG board member: TVG lacked capital to make needed improvements in plant and equipment.

35. What Went Wrong—Various Opinions (cont.) • Larry Clay, CEO Pacific Coast Producers: (i) Board was at fault for failing to discipline growers, lacking a strong business orientation, displaying favoritism towards certain growers, lacking controls over management. (ii) Acquiring failed competitors was a bad strategy, and (iii) accounting tricks and manipulations were used during Famalette’s reign and before. • Chris Rufer, CEO Morningstar: Acquired facilities were in poor condition and unproductive, TVG postponed making the right decisions, lacked strong leaders and was run by a Board (farmers), not entrepreneurs. • Bill Allewelt, former TVG CEO: “Company was taken down by ruinous decisions from a board of directors that seemed blinded to economic realities . . .”

36. Some General Conclusions • Seeds of TVG’s demise were in place prior to 1990s in the form of high inventories, low productivity of assets, high operating and transportation costs relative to the competition, and high debt/equity, which inhibited needed investments in modern plant and equipment. • TVG was competitive in fruit, especially peaches, but not tomatoes. TVG either needed to become competitive in tomatoes by finding a market niche or jettison its tomato line. Using fruit revenues to cross subsidize tomatoes was not a viable long-term strategy.

37. Some General Conclusions (cont.) • The NGC restructuring was largely unsuccessful (i.e., it failed to stabilize either the equity base or the base of raw product) but it had little to do with the bankruptcy. Rather, the restructuring was a desperate response to severe problems already in place. • Famalette’s cost-reduction measures were counterproductive because they were too radical and ill targeted so as to negatively impact TVG’s ability to generate revenues. • The long-standing problem of poor internal controls and lack of centralized information system was not addressed by Famalette.

38. Summary of Problems: Co-op Genesis • Acquisition of inefficient capital from defunct co-ops. • High debt/equity ratio (horizon problem) and limited sources for equity capital (i.e., financially distressed growers) inhibited attempts to modernize plant and equipment. • Unwillingness to terminate growers who were not viable to the co-op. • Growers were dramatically overpaid in final years.

39. Summary of Problems: Market Genesis • Tomato market, although growing, was very volatile. • Canned fruit market was in decline.

40. Summary of Problems: Management/Director Genesis • Acquired inefficient capital from defunct co-ops. • Failed to adopt an integrated information management system. • Famalette purged staff members who were knowledgeable about the food processing business (“can heads”). • Failed to come to grips with grower end of the tomato business or to get out. Needed strong contracts to induce grower loyalty. Cash contracts robbed co-op of a source of equity. • Lack of focus on business end: branded products vs. private label, paste vs. value-added tomato products.

41. Summary of Problems: Bottom Line • The fact that rivals such as Del Monte and peer cooperative Pacific Coast Producers did well during period of TVG’s ultimate demise suggests that internal management/director problems were more responsible for the failure than problems endemic to TVG’s cooperative structure or its core markets.

42. Some Relevant Lessons • Multiproduct marketing co-op presents a conundrum: Modern markets prefer “full-line” suppliers, but multiple products create significant internal problems in terms of (i) pooling and (ii) director loyalty and responsibility. • Policies such as long-term contracts are needed to encourage grower-member loyalty. • Loyalty to other co-ops should not displace sound business judgments. • Co-ops may be more sluggish than IOFs in responding to changing market forces. Is “information advantage” sometimes ascribed to co-ops actually true?