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December 2010 Archive for Dairy Talk

RSS By: Jim Dickrell, Dairy Today

Jim Dickrell is the editor of Dairy Today and is based in Monticello, Minn.

Dairy’s “New Normal”

Dec 20, 2010

In 2007 and 2008, we thought we had reached a new normal in feed prices and cost of production. Today, the dairy industry’s new state of “normal” can be summarized by three words.

 
Marjorie Stieve, marketing services manager for Vita-Plus Corporation, raised an intriguing question as she opened her company’s two-day recent Dairy Summit in Minneapolis. Her question was: “Is the dairy industry entering a new normal?”
 
Yes, we’ve heard this claim before. Recall 2007 and 2008. Back then, we thought we had reached a new normal in feed prices and cost of production. The cost of production then hovered around $15/cwt. for much of the country. And the belief, the new normal, was that milk prices could not fall below this level. And if they did, they would not and could not stay there for very long. Then 2009 happened. And we all learned the folly of that logic.
 
But I think Stieve has a point this time about a new state of what is considered “normal.” This new normal can be summarized by three words: Uncertainty, volatility, risk. Consider:
 
• The global economy seems to be in recovery, perhaps coming out of the Great Recession faster than the United States. But whole countries—Greece, Ireland, Spain, Belgium—are on the brink of default and put all of Europe at risk. And with that comes the chance of a faltering euro, strengthening the dollar and weakening U.S. exports.
 
   Oil prices continue to gyrate. Just the threat of war in Korea means gas prices have surged 20¢/gal. here in the United States. If war does break out, $4 gas will seem like a bargain.
 
• Ever since 9/11, the United States seems to be in a state of constant war. Though things are (hopefully) winding down in Iraq, U.S. troops will likely be fighting (and dying) in Afghanistan through 2014—at least. And then there’s Korea, and Iran, and the Sudan, and Yemen….
 
• The political system here in the United States is in a permanent state of tumult, staggering through one election only to have politicians positioning themselves and their parties for the next election. The ascension of Tea Party candidates adds to the acrimony and the uncertainty.
 
• Animal rights activists continue to challenge how farmers house and manage livestock. This activity is already leading to a decline in pork and poultry consumption. And new laws could create new barriers to production technology, adding cost and uncertainty.
 
• The speed of information transfer can affect markets instantly, causing run-ups to $6 corn or crashes on the cheese market.
 
• Technology advancements now allows thousands of dairy cattle to be housed under one cross-ventilated barn roof. But such housing also adds ammunition to animal rights concerns (however unfounded) that if these cattle are out of sight, how are they being treated?
 
• The ethanol credit, which was renewed under the guise of the tax bill last week, inflates the value of corn. This leaves grain farmers with million dollar tax problems and dairy producers wondering how they are going to pay feed bills with $14 milk. (But even without the credit, grain prices won’t return to 1990 levels due to China’s insatiable demand for Iowa corn.)
 
• Within dairy, we now have volatility times four on the milk and inputs—grain, protein and energy. Much of this volatility is being driven by the above factors.
 
• In addition, the U.S. dairy industry is now export dependent, with upwards of 13% of milk solids now being sold and consumed offshore. The good news is these exports supported good prices this fall. The bad news is that exports are subject to glitches in the global economy, China’s appetite for Kiwi whole milk powder and the value of currencies (both foreign and domestic).
 
Stieve’s conclusion, and it’s dead on, is that risk management is now more important than ever. Locking in profits never caused a foreclosure. Even protecting against losses, when positive margins aren’t available, can be the better part of valor.
 
But Stieve’s main point is that risk management goes well beyond locking in hedge positions. It involves strengthening your relationships with your family, partners, employees, consultants, vender and lenders. Having all these folks on your side and working with you through these highly volatile and uncertain times is an absolute business essential.
 
The holiday season, come to think of it, is the perfect opportunity to renew and reaffirm these longstanding partnerships. Merry Christmas, Happy New Year and all the best for an uncertain 2011.

California’s Cost-Cutting Comeback

Dec 06, 2010

If there’s a way to cut costs while still making the same amount of milk, California producers are likely find it. They’ve achieved a greater reduction in feed costs than Midwestern dairies, proving California remains a tenacious competitor.

 
 
In 2009, California dairy producers discovered they had not one but two Achilles heels: some of the lowest milk prices in the country (along with Idaho) and high feed prices.
 
The result was that the state bled red for months on end, with some herds reporting losses of $100/cow/month or more. That meant borrowing hundreds of thousands of dollars, eroding equity to levels that might not be sustainable through another downturn.
 
Gary Vande Vegte, a CPA with Van Bruggen and Vende Vegte, PC, based in Orange City, Iowa, shared a financial comparison between large scale, Upper Midwest dairies and their Western competitors at the Minnesota Milk Producers Association annual meeting last week. He pulled data not only from his own firm, which works with large dairies here in the Midwest but also from the large accounting firm Genske, Mulder & Company, LLP in California.
 
The numbers for 2009 are stark. Yet California producers have made a stunning recovery through the first half of 2010, the latest for which data are available.
 
In 2009, California dairy producers’ financial sheets (on an accrual basis) showed losses of $682/cow. But no region fared well. In fact, Idaho producers recorded the largest losses, at $818/cow. And even the Midwest, with its $2 higher milk prices in 2009 and lower feed costs, still racked up $532/cow in losses.
 
In 2009, California’s feed costs were $2,274/cow. Through June 30, feed costs were running about 9% less with no drop-off in milk production. In the Upper Midwest, feed costs were $2,089/cow in 2009 but are running just 5.6% less this year.
 
In fact, feed costs in the Upper Midwest were running about $7.04/cwt. through June 30 with milk production at 71 lb./cow/day. In California, feed costs were running $7.10. Milk production was 72 lb./cow/day. In fact, feed costs north of Fresno, Calif., were running right at $7/cwt. with milk production at 72 lb./cow/day.
 
“I called our colleagues in California twice to find out how producers there are cutting feed costs,” says Vande Vegte. “We’re not sure how they’re doing it, but it probably is a number of things: They may have been more proactive on cutting high-cost feed additives, had better weather, or had better negotiated prices.
 
“Regardless of how they did it, they did it. And they had a greater reduction in feed costs than our guys in the Midwest,” he says.
 
There is a caveat to the numbers, however. When feeds were homegrown, feeds entering rations are valued at fair market value. That allows for a better apples-to-apples comparison across regions for the dairy enterprise. From an accounting standpoint, that makes sense.
 
From a competitive standpoint, however, it muddies the water. If Midwest producers can grow feed cheaper than market value (and most should be able to grow corn for less than $5/bu.), they will have a competitive advantage over those herds who must buy corn. Yes, the Midwest producers give up the opportunity value of selling that corn onto the market. But if their primary objective is to grow corn to feed cows, they’ll live to milk another day.
 
Still, the biggest take-home message from these numbers is that West Coast dairy producers are tenacious competitors. If there’s a way to cut costs while still making the same amount of milk, they’ll likely find it.
 
But the bottom line still comes down to liquidity, equity position and borrowing capacity. If highly leveraged dairies were unable to rebuild credit lines this fall, their ability to borrow more will be severely limited. The Genske-Mulder data show $65 net income per cow in California through June 30. Even if California producers were to triple that through the end of this year, bleak milk prices in the first quarter of 2011 do not bode well for the highly leveraged.
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