From feedlot to food court: The hot-dog industry is feeling heat

When you bite into a hot dog at a local food court, you are taking part in something far more elaborate than a quick meal.

It represents the end of a long journey for that hot dog as it wends its way through the U.S. food industry. From farm to franchisee, it has changed form and changed hands many times, with companies buying, selling, transporting and distributing it, or the ingredients for it, and ringing up a profit at each stop.

This complex system has come under increased scrutiny recently with revelations of accounting questions at the country's second-biggest food distributor.

The troubles at Columbia, Md.-based U.S. Foodservice caused its parent, Dutch supermarket conglomerate Royal Ahold NV, to overstate its earnings over the past two years by at least half a billion dollars, triggering numerous public and private inquiries.

But while officials are probing the books of U.S. Foodservice, the typical consumer might be asking an even more basic question: What exactly does U.S. Foodservice do, and what is its role in the U.S. food industry?

Most people who know of U.S. Foodservice think of it simply as a truck on the road bearing a logo for a company that means very little to them. That's because U.S. Foodservice's activities are largely behind the scenes. But the company does touch the average consumer.

One way to see that — and to understand the labyrinth of the American food industry — is to follow a hot dog from the cow to the consumer. The long path to Abdul Hasan's Frank & Stein outlet in a shopping food court in Tysons Corner, Va., begins on a cattle ranch on the Great Plains.

There, a calf will graze with its mother until it's about 7 months old and weighs about 500 pounds. After it's weaned, the animal is either kept by the farmer or sold to a "stocker" until it's 16 to 18 months old, or about 800 pounds. At that point, it's ready for sale to a feedlot.

The 800-pound animal is sold to a feedlot for about 75 cents a pound, or around $600. At the feedlot, the animal is grain-fed for five months until it weighs an average of 1,250 pounds, at which point it is sold to a packing plant for about 77 cents a pound, or roughly $960.

At the packing plant, the animal is slaughtered and butchered for meat and trimmings.

One 1,250-pound steer yields about 450 pounds of finished cuts of meat, such as a tenderloin or rib roast, and an additional 150 pounds of trimmings or smaller cuts with a higher fat content and a lower market value. Trim is most often used for ground products, such as hamburgers and hot dogs.

That trim meat is then sold to any number of processing plants, including the Cincinnati plant that makes the all-beef Hillshire Farm hot dog sold by Hasan. But the buying of trim is no simple matter. Like so many agricultural commodities, the value of trim meat fluctuates, depending on the weather and seasonal demand. A buyer may need a million pounds of trim to make hot dogs for the next six months, and will try to lock in as much of that meat as possible at a set price. The rest will be bought on the spot market.

Now, at the start of the hot-dog season, the price of 50 percent-lean trim is about 50 cents a pound, but last fall it was just 30 cents a pound. The smart processor is one who was able to order a six-month supply of trim last December, when it was cheaper. The smart packer is one that kept some supply out of such contracts for sale on the spot market.

It's a bit of a dance between supplier and processor, and it's repeated all the way back to the farm. The ranchers, the stockers, the packers and the feedlot operators are all trying to set their prices for months at a time.

At the hot-dog plant, the trim is put in huge choppers along with spices and curing ingredients, ground into a thick paste, piped into cellulose casings, cut, cooked and packed for shipping.

In the case of Hillshire Farm, which is owned by food giant Sara Lee, the vacuum-packed hot dogs headed for Hasan are put on Sara Lee trucks and shipped to the Severn, Md., warehouse of U.S. Foodservice.

One of two major food distributors nationwide — the other is Sysco — U.S. Foodservice buys products such as ketchup, mustard, relish, onions, napkins and straws from manufacturers and resells them at a profit to a host of restaurants, schools, hospitals and other commercial venues.

U.S. Foodservice has huge fixed costs in delivering its products, which makes its other income stream — from the manufacturers — even more important.

Foodmakers commonly pay retailers, restaurants and distributors to carry their products. These bonuses, known as vendor allowances, help manufacturers ensure that their products are widely circulated by making them more profitable for everyone to sell.

When a distributor gets such a rebate or allowance, it might agree to feature the manufacturer's products in trade shows, or may commit to selling a certain amount, or to set up critical face-to-face meetings between the foodmaker and the end user.

But these payments can also create problems. Earlier this year, Royal Ahold, which bought U.S. Foodservice in 2000, cited irregularities in the way U.S. Foodservice had accounted for its vendor allowances. Because of the bookkeeping problems, Royal Ahold had inflated its earnings by at least $500 million in 2001 and 2002.

The accounting problems at U.S. Foodservice offer a glimpse into how pervasive these rebates have become in the food-distribution business.

Historically, grocery stores ate up the largest share of the U.S. food dollar, but that is changing. Now, about 49 cents of every dollar spent on food is spent on meals away from home. By 2010, food service is expected to overtake retail.

To help get at that business, foodmakers last year sold $180 billion of products to distributors who supply food institutions and restaurants. To gain leverage with distributors, manufacturers are constantly sweetening the vendor allowances they pay.

The result, experts say, is that some distributors may even make more profit from the vendor allowances than they do from selling the food.

Neither Sara Lee, which owns Hillshire Farm, nor U.S. Foodservice would say what kind of rebates U.S. Foodservice gets on Hillshire hot dogs. U.S. Foodservice said in a statement: "We cannot comment specifically to these issues. We are fully cooperating with the investigation to resolve any issues, so we can move the company forward."

Even with a rebate, though, U.S. Foodservice isn't making a lot of money off the hot dogs it sells to the Frank & Stein because of the chain's pricing contract with Sara Lee.

Hasan buys hot dogs three times a week from Frank & Stein's sales rep at U.S. Foodservice in Severn. He pays $2.39 a pound for his all-beef Hillshire hot dogs. As an added incentive to use and sell those hot dogs, Hillshire Farm pays Hasan 10 cents per pound of hot dogs sold — money that he is required to put toward promotional materials such as brochures or free samples for passers-by in the mall. He gets that bonus in a lump sum once a quarter.

That leaves Hasan with a cost of about 30 cents for the hot dog, and another 10 cents or so for the bun. Hasan's other fixed expenses include paper products, labor, insurance, marketing, franchise fees to the parent company and thousands of dollars a month in rent to the mall for his 600-square-foot stall. The final price for a plain hot dog at Hasan's stand is $1.90. With all the toppings, it's $2.39.

By the time the Hillshire Farm hot dog is turning on the grill at Hasan's outlet, it's been through a lot. At each step along the way, the margins are low and the profit is made on volume and hard-driving dealmaking. At no one point is making money easy, and that's why the end product costs only $1.90.

It's a testament, say people in the food industry, to how sophisticated and efficient the American food production and distribution system has become, turning out millions of pounds of overwhelmingly safe, affordable food.

"Ten people had to handle that hot dog, and it's remarkable what it costs," said Randy Habeck of Key Impact Sales Systems, a food brokerage in Columbia, Md. "It's amazing how many businesses make their livelihood off it."