Cheese costs eating pizzeria profits
Wayne Mosley is worried about cheese prices, and plenty of other pizzeria owners share his concern.
 
Mosley, co-owner of a 12-unit Rocky Rococo pizzeria franchise in Madison, Wis., has seen his cheese costs rise 26 percent since the beginning of the year. And cheese prices are up nearly 50 percent from April of 2005.
 
"We've been in the business for 33 years so we've seen a lot of swings," Mosley said. "It looks like this is going to be a long painful one."
 
The price of block cheese on the Chicago Mercantile Exchange was averaging about $1.70 per pound this week, compared with $1.34 per pound at the beginning of the year and $1.16 per pound in April 2006. Prices haven't been this high since January 2005, when prices topped $1.75 per pound.
 
Prior to that, prices hit a high of $2.20 per pound in April 2004.
 
Rising cheese prices combined with record prices for gasoline have hit pizza shops particularly hard, Mosley said.
 
"We have raised prices recently but you have to wonder if we've raised them enough," he said. "We're hunkering down, watching labor and expenses, and hoping that the steps we take don't impact our customers."
 
Blame it on Big Oil.
 
Each Friday, the Chicago Mercantile Exchange publishes a weekly average price for a variety of commodities, cheese among them. Many pizzeria operators buy cheese under what's known as a "Block plus" arrangement.
 
Rather than try to negotiate a weekly price with a distributor, operators often lock in an agreement to purchase cheese at a set price over the published CME block cheese price. In return, they keep all of their business with the same distributor.
 
Very large operators such as Louisville, Ky.-based Papa John's International Inc., use cheese-purchasing arrangements in order to insulate their franchisees from wild fluctuations in cheese prices.
 
Because the difference between the block price and the selling price remains constant in such an arrangement, the distributor doesn't make any more money as the price of cheese rises, and can in fact end up making less money if pizzeria owners buy less cheese.
 
So what's driving up the price of cheese?
 
According to the Washington, D.C.-based trade group International Dairy Foods Association, a combination of factors are contributing to the price increase. Much it, they say, comes down to the law of supply and demand.
 
"We're seeing strong international demand for U.S. dairy ingredients, particularly nonfat dry milk, dry whey and lactose," says a statement given to Pizza Marketplace by the IDFA.
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"Due to this international demand and short supply worldwide, the prices for U.S. nonfat dry milk and dry whey have been increasing steadily over the past six months," the statement said. "The price of nonfat dry milk has gone up about 30 percent, and the price of dry whey is at a record high; in fact, it's more than twice as high as it ever was before the current run-up in prices."
 
Nonfat dry milk and dry whey prices are "component prices" used by the government to determine the minimum, government-regulated price that milk and dairy companies must pay for all farm milk within the federal system, according to the IDFA.  So, as these have gone up, all farm milk prices have gone up. 
 
The low prices operators enjoyed last year also are partly responsible for today's high prices, the IDFA said. The lower farm milk prices of 2006 resulted in a slowing of the growth of total milk production in the United States, meaning less milk was coming from dairy farms into the supply chain.
 
The slowdown in production growth, coupled with strong demand both in the United States and abroad, has contributed to higher prices as well, the IDFA said.
 
Rising gasoline prices also are contributing to rising milk and cheese prices. As gasoline prices have risen, more and more corn is being diverted to the production of ethanol.
 
According to the IDFA, cattle feed, most notably corn, is the largest cost faced by dairy farmers. As ethanol production diverts some of the available corn formerly used for feed, and land that had been used to grow other feed crops is diverted in order to grow more corn, the price of cattle feed has increased dramatically.
 
No end in sight
 
The increase in cheese prices didn't come as a shock to everyone, however. Last summer, daily analyst Alan Levitt told Pizza Marketplace he expected cheese prices to hit the $1.70 range.
 
Commodities analyst Peter Ullrich made a more dire prediction. Ullrich, speaking at the eDairy Inc. Outlook Conference in Chicago in August 2006, predicted prices would return to $2.20 per pound in 2007.
 
"It's definitely a concern for us," said Papa John's spokesman Chris Sternberg. "Cheese constitutes about 35 to 40 percent of our overall food cost at the restaurant level. What the futures are saying is that chsse prices are going to be up in the third quarter and the fourth quarter."
 
The situation is likely only to get worse. In early May the farmer-led group Cooperatives Working Together, which works to limit the milk supply, announced it would remove about 54,000 cows (amounting to about a billion pounds of milk production per year) from the system in an effort to further increase dairy prices.
 
The IDFA declined to make a prediction on the direction prices would be heading this summer.
 
"We can't forecast pricing here, but any change in these conditions causing the higher prices (of dairy products) would help," said IDFA spokeswoman Susan Ruland.

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