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April 2009

Weathering the Storm

Falling milk prices are affecting dairy producers in Michigan and across the nation. How serious is the problem, what caused it, and what can dairy producers do to weather the storm and maintain the vitality of their dairy businesses? This article attempts to answer these questions and offers specific methods for sound planning during tough economic times.

Craig Thomas
Extension Dairy Educator
Michigan

Dairy producers from California to Maryland and Michigan to Florida are in dire financial stress as milk prices plummet (1, 2, 3, 4, 6, 7, 10, 13). Mailbox milk prices in California recently dropped below $10/cwt for many producers when it recorded the largest one-month drop in 54 years (2). The California Department of Food and Agriculture’s latest cost of milk production estimate for Golden State producers is over $19/cwt (2). At these prices most California producers are not even able to cover their feed costs, much less all the other inputs (e.g., labor, interest, utilities) necessary to produce milk. Reports indicate many producers are losing as much as $150-$200/cow per month (2, 6). The situation has become so critical in California that Mike Marsh, CEO of United Western Dairymen said, “This could destroy our dairy infrastructure.” Similar scenarios are developing for dairy producers all over the nation including here in Michigan (3, 4, 10).

Causes of the Crisis

Why is the dairy industry in this situation? A number of factors have converged to produce the proverbial “Perfect Storm.” The record high milk prices of 2007 and 2008 fueled expansion of the U.S. dairy industry. Milk cow numbers in the U.S. are now at almost 9.3 million head and milk production for 2008 set a new record high just short of 190 billion pounds (2.4% increase over 2007). For most of this period a dramatic increase in U.S. dairy exports was able to absorb the increased milk production. In fact, for most of 2007 and 2008 the U.S. enjoyed unprecedented dairy trade surpluses. However, a number of factors (world economic crisis, strong U.S. dollar, increased milk production in Australia and New Zealand, reinstatement of EU dairy export subsidies, tainted milk scare in China, etc.) have drastically slashed U.S. dairy product exports with recent months all experiencing increasingly greater dairy trade deficits. Domestic consumption of dairy products also has been weak for many months. Consumption of the industry’s mainstay, cheese, normally increases at about 2.8% per year, but in 2008 it was essentially even with 2007 (+0.01%). U.S. consumers are staying home and eating out less. Around 60% of total U.S. dairy products are consumed in restaurants and the food service sectors. Therefore, when Americans decide to eat out less, dairy product consumption suffers.

Effects for Michigan Producers

Michigan dairy producers are not immune to this downturn. From January 2007 through December 2008 the USDA mailbox price for Michigan averaged $18.33/cwt (Figure 1). Your mailbox price was likely higher since the USDA’s calculation of mailbox prices deducts marketing costs (e.g., milk hauling, promotion fees, CWT assessment) and is calculated at the average milk quality for the state. Over the same time period production costs dramatically increased. Data from the most recent Michigan Dairy Farm Business Analysis Summary (12) (Figure 2) indicates average total milk production costs increased 36.3% in 2007 versus 2006. Some production costs have moderated since 2007 (e.g., fuel and oil) but overall costs remain high. The USDA milk:feed ratio, which measures how many pounds of feed can be purchased with a pound of milk, has been below 3.0 (i.e., less ‘profitable’) for 15 consecutive months and below 2.0 for 10 of the past 12 months. February’s milk:feed ratio set a record low of 1.44! My calculations (using USDA figures) for February indicate income over feed costs are down over 67% versus February 2008 leaving the typical dairy producer with $7.16 less income per hundredweight to pay non-feed bills.

USDA mailbox prices for Michigan (Figure 1) in 2009 (as of 4/3/09) promise to average only $11.31/cwt the first six months and $15.51/cwt for the second six months ($13.41/cwt for the year). Even when adding back typical marketing costs ($0.45-$0.90/cwt), there is little hope the “average” Michigan dairy farm will experience any profitable months in 2009 unless the overall U.S. milk supply shrinks dramatically and/or domestic dairy product consumption makes an unanticipated comeback. There is hope of the former because as of 3/7/09 the USDA reported that 108,400 more dairy cows had been slaughtered in federally inspected plants versus the same period in 2008. Additionally, on 4/3/09 the CWT program announced they would be taking bids for their seventh “herd retirement” program. Also, milk per cow output in the U.S. has been increasing below trend for over a year. Perhaps declining cow numbers coupled with below trend milk per cow will reduce total U.S. milk output enough to improve milk prices in the last half of the year.

So, how can your dairy operation weather the storm? First, there is no one “magic bullet.” Second, hopefully during the profitable times of 2007 and 2008 you paid down some debt and salted some profit into savings. Because regardless of what strategies one may employ, the words of one California dairy producer ring true when he said, “For dairy farmers it’s just a matter of how much equity they want to burn up to stay in business,” (6).

Major Principles

Before listing specific strategies to help you weather this storm there are four over-arching principles you should always keep in mind.

#1: Know Where You Stand; Know Where You Are Going. Before making changes on your operation it is critical to know where you stand and develop a plan for where you are going. Therefore, perform a complete business analysis of your farm operation. Routine business analysis is something good managers should be doing all the time, but it is especially important when margins tighten. A complete business analysis will allow you to calculate your cost of production and benchmark your farm’s performance so you know how you compare to industry standards. Without this analysis it is nearly impossible to identify where your greatest opportunities lay to increase revenue or cut costs. For example, Michigan Dairy Farm Business Analysis Summary data in Figure 3 show the ten largest cash expenses for 2007. How does your farm compare? Also, Figure 3 provides a guide as to where your emphasis should be on cutting costs. For example, a 10% cut in purchased feed costs would save over $0.58/cwt while a 10% cut in fuel and oil costs would only save $0.10/cwt. This analysis will allow you to challenge every enterprise and every expense on the farm.
Knowing your farm’s past performance also provides key information to formulate budgets for the future. At a minimum you should formulate a monthly cash flow budget for 2009. You also might want to consider several cost saving measures and/or technology changes (e.g., change rations, install sand bedding, switch from 2X to 3X milking). You should calculate “what if” scenarios incorporating these potential changes as a key step in determining their feasibility.

#2: Marginal Costs Versus Marginal Returns. Be extremely careful when cutting costs, because minimizing production costs may not necessarily result in higher profits. Instead, the key is to make each decision based on its marginal effect. In other words, you may cut costs by $1.00/cwt, but it doesn’t make sense if those cuts cause you to lose $1.50/cwt in milk revenue. So be careful, don’t cut costs merely for the sake of cutting costs! Make sure that you don’t lose more revenue than you gain in cost savings.

#3: Don’t Take Added Investment Off the Table. In times of economic stress don’t overlook the possibility added investment may help you become more profitable. That’s applicable for everything from feed additives to improved facilities. If the return from the investment exceeds the additional cost then give serious consideration to making the plunge. However, delay the investment until better economic times if the positive marginal return is not immediate.

#4: Cutting Feed Costs Has Consequences. As the old saying goes, “Don’t be pennywise and pound foolish.” Thus, don’t automatically assume cutting feed costs will lead to more profitable rations. Remember that numbers and a “balanced” ration are not the final arbiter. You must monitor feed intake and milk production before and after diet changes to insure any cost savings are not negated by lost milk and/or solids production. Since this is the case, avoid wholesale ration changes. Otherwise, it will be impossible to determine whether a single ingredient’s subtraction or addition was helping or hurting.
When considering alternative feeds be sure to compare “apples to apples” by comparing competing feeds on cost per pound of dry matter, cost per Mcal of net energy for lactation, and by taking account of differences in protein (e.g., by comparing on a “corn-soy value” basis). Here are some important questions to ask when considering alternative feeds:

  • How much of the feed must a cow eat to obtain equal energy and protein?
  • How much effective fiber is in the feed?
  • What is the energy source in the feed (e.g., starch, sugar, fiber, fat, protein)?
  • How much of the feed’s protein is degraded in the rumen? How much is bypass?
  • What is the feed’s mineral and vitamin content?
  • Does the feed have any attributes that limit the amount fed?
  • Will the feed alter dry matter intake?

Tips for Weathering the Storm

Finally, below is a list of tips that may help you weather the storm. My thanks goes out to fellow MSU Extension educators Dennis Stein, Bill Robb, and Phil Taylor for developing some of the items on the list. The list is not exhaustive, but should provide you with a good start. These are some of the most difficult times in the dairy industry, so examine the list very carefully and apply them to your operation if they fit. This “Perfect Storm” is certainly intense. Let us hope its intensity will make it brief so dairy producers can see profitable prices by the second half of 2009.

Dairy Herd Management

  • Cull cows that are not bred back, have chronic problems, and are below breakeven production levels.
  • Evaluate your cost of raising heifers and if it is too high consider contract-raising programs with other producers.
  • Do not cut out management services like DHI and custom breeding services, but make sure you are utilizing these programs for maximum benefit.
  • Consider 3X milking: University of Maryland research (8) suggests an advantage of about 8 lbs milk /cow per day for 3X milked cows versus 2X. 3X milking may also more efficiently utilize your labor force and facilities and improve milk quality. For a spreadsheet to analyze whether 3X fits your farm send me an e-mail (thomasc@msu.edu).
  • Make sure you are capturing all possible milk quality premiums. Most changes needed to produce top quality milk require little outlay of cash.
  • If your milking cows are not exposed to light for at least 16-17 hr/d consider adding supplemental lighting. Studies (9) have shown that supplemental lighting can increase milk production by 5-16%.
  • Be ready for warm weather by making sure your barn and holding pen are adequately ventilated and have fans for heat stress abatement.
  • Are your cows comfortable? Sand bedding remains the “gold standard.” Many producers report as much as a 5 lb/cow per day increase when switching from mattresses to sand.
  • Inventory your current feed supply, project your feed needs, and then determine if you may have surplus feed that could be marketed.
  • Review and re-balance all your feed rations and avoid over-feeding. Keep fresh feed pushed up to maximize feed intake and milk production.
  • Consider cheaper alternative feeds and removal of expensive feed additives, but don’t forget feeding advice given above.
  • Save feed by keeping your silages covered and maintaining a well-managed face on all bunks. Properly covered silage gives an 8:1 return for the investment in covering.
  • Watch grain storage conditions! Air temperatures are rising and solar radiation is increasing as the sun marches northward. This can create an environment detrimental to grain stored in bins. Therefore, make sure grain bins are properly aerated.
  • Inventory your calves, heifers, springers, and fresh cows and consider selling any surplus animals.
  • Monitor hired labor hours and manage to increase labor efficiency.
  • Don’t hide your financial crisis from your employees. In fact, your employees may be one of your best sources for providing cost cutting solutions and/or increasing efficiency.
  • Make sure excessive rain run-off and snow melt are diverted from your manure lagoon. Proper run-off management means less gallons of manure to haul. ‘Custom Hire’ is in the top 10 dairy cash expenses and most of it is custom manure pumping. Savings can mount up quickly!
  • Consider using a higher percentage of less expensive young sires in your breeding program to reduce breeding costs.
  • Make sure all lights are turned off when not needed.

Financial Management

  • Market your milk! Did you know that if you would have forward contracted your 2009 milk production early last summer (6/18/08) your mailbox price average for 2009 would be over $22/cwt?! Hindsight is always 20/20, and it is impossible to predict when the market puts in a high. But, dairy producers that are savvy marketers forward contracted a significant portion of their 2009 milk production when prices were at record highs. On most Michigan dairy farms milk income accounts for over 85% of total cash farm income. You cannot afford to be a “price taker.” Become a “price maker” by marketing your milk with such tools as forward contracts, futures contracts, and options contracts. MSU Extension sponsors a monthly marketing education meeting in Sandusky and St. Johns. Send me an e-mail if you are interested in attending (thomasc@msu.edu).
  • Determine your cost of production and then forecast how much cash you will need until your operation reaches positive cash flow. Then present your plan and needs to your banker so you can secure operating money. Do it sooner rather than later!
  • Consider refinancing, rolling short term debt into longer term, locking in interest rates on adjustable rate loans, and asking creditors to defer principal payments. Resist the temptation to charge operating expenses on credit cards. Be extremely careful with credit cards due to their high interest and huge impact they have on your credit rating if you miss a payment.
  • Challenge every expense! Is it necessary? How much can we do without?
  • Review your entire farm’s insurance needs and put out bids. Significant savings can be found, especially with companies that offer new policy discounts. However, make sure you maintain adequate coverage and that new, cheaper policies are providing comparable coverage to current policies.
  • Offer landlords new options for land rental agreements to share some of the risk and rewards; consider arrangements such as cost share, flex rents, and fixed crop share agreements.
  • Control capital purchases by delaying new equipment purchases where possible.
  • Consider selling unproductive assets that are not generating income, including unproductive land, unused or under-utilized equipment, timber, and scrap metal.

Crop Management

  • Focus on producing high quality forages in 2009. Forage quality will always be the foundation of profitable dairy farming. Be sure to cut both alfalfa and corn silage at the proper stage of maturity and dry matter for maximum quality. Also, use tools like MSU’s Cornpicker® computer program to aid you in selecting the best corn silage hybrids for your farm.
  • Reduce tillage operations where and when possible to lower machine and labor costs.
  • Re-evaluate your weed control program to make sure it makes economic sense.
  • Control deer damage with block permits, and leasing the farm to additional hunters.
  • Select corn grain and corn silage hybrids that give you the traits that work on your farm at the best price.
  • Perform soil tests to know your useable nutrient values and be sure to take advantage of manure nutrients instead of purchasing commercial fertilizer.
  • Perform side-dress soil sampling to take advantage of your organic nitrogen sources.
  • Do not be afraid to use up some of your surplus phosphorus and potassium in the soil profile.

Things that are Necessary to Continue Being Successful:

  • Don’t hesitate to seek professional help. For example, MSU Extension Dairy Educators have a wealth of resources to help you analyze and optimize the management of your operation.
  • Be a stickler for details! Successful dairy farmers have always been, and will continue to be, those who pay attention to details!
  • Maintain a sound herd health program by meeting with and laying out a good herd health plan with your veterinarian.
  • Maintain a sound equipment maintenance schedule to keep things running in the best condition possible.
  • Consider leasing your farm land for oil and wind development and if you have high deer numbers lease land out to hunters.
  • Prepare for the impact of inflation as a result of the current financial crisis.

References

1. Agri-News. 2009. Midwest news and notes. Agri-News; 1/24/09.
<http://webstar.postbulletin.com/ agrinews/295428071365317.bsp>. Accessed April 11, 2009.
2. Associated Press. 2009. Dairy cows head for slaughter as milk prices sour. 2/16/09.
<http://www.azcentral.com/offbeat/articles/2009/02/16/
20090216CowSlaughter16-ON.html>. Accessed April 11, 2009.
3. Bewly, M. 2009. Minnesota’s Wayra Dairy trims the fat to keep the milk flowing. Agweek. 2/23/09.
<http://legacy.agweek.com/articles/index.cfm?id=13676&section
=homepage&freebie_check&CFID=31794936&CFTOKEN=24844938> Accessed April 11, 2009.
4. Calvert, S. Md. dairy farmers feel the squeeze. Baltimoresun.com. 2/25/09.
<http://www.baltimoresun.com/news/world/
bal-md.dairy25feb25,0,7965485.story>. Accessed April 11, 2009.
5. Dahl, G. E., D. H. Lattz, and G. D. Schnitkey. 2002. Marginal costs versus marginal returns: Why cutting costs is not always the answer. Univ. of Ill. Illini DairyNet <http://www.livestocktrail.uiuc.edu/dairynet/paperDisplay.cfm?
ContentID=349>. Accessed April 11, 2009.
6 . Digitale, R. 2009. Dairies’ dilemma. Santa Rosa, CA Press Democrat. 1/31/09 <http://www.pressdemocrat.com/article/20090131/ARTICLES/
901310259/1349?Title=Sonoma_County_dairies_face_dilemma>. Accessed April 11, 2009.
7. Dillon, J. 2009. Hitting Home: Dairy farmers struggle with decline in milk prices. Vermont Public Radio. 2/24/09
<http://www.vpr.net/news_detail/84147/>. Accessed April 11, 2009.
8. Erdman, R.A. and M. Varner. 1995. Fixed yield responses to increased milking frequency. J. Dairy Sci. 78(5):1199-1203.
9. Peters, R. R. 1994. Photoperiod and management of dairy cows: A practical review. In Dairy systems for the 21st century; Proceedings of Third International Dairy Housing Conference, pp. 662-666.
10. Plume, K. 2009. U.S. dairy farms in crisis as milk prices turn sour. Reuters. 2/10/09.
<http://www.reuters.com/article/domesticNews/
idUSTRE5190JN20090210>. Accessed April 11, 2009.
11. Schroeder, J. W. 2008. Dairy Focus: Cutting feed costs has consequences. NDSU, Dairy Focus. 6/26/08.
<http://www.ag.ndsu.edu/news/columns/dairy-focus/
dairy-focus-cutting-feed-costs-has-consequences/>. Accessed April 11, 2009.
12. Wittenberg, E. and C. Wolf, 2007 Michigan Dairy Farm Business Analysis Summary, Mich. State Univ. Agr. Econ. Dept. Staff Paper #2008-04, December 2008.
13. Zollman, B. 2009. Losing money every day. Saukherald.com. 2/24/09.
<http://www.saukherald.com/main.asp?SectionID=
12&SubSectionID=48&ArticleID=10091&TM=1025.183>. Accessed April 11, 2009.

 



 

 

 

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