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Managing The Challenge Of A Mid-Season Milk Price Drop

By Department of Primary Industries - 13th February 2009 - Back to News

Summary Points:

1. Each farm business is unique.
2. Get a revised milk income estimate to establish the impact of reduced milk price on your business.
3. Cost cutting will be the strategy when looking at limiting the damage. The key question is whether you can reduce your costs without impacting negatively on your operating margin?
4. Many businesses will need to look at dissecting and trimming costs beyond production costs, overheads, etc.
5. If costs have been trimmed and you are still looking at a negative cash flow, seek trusted advice on your options for funding the shortfall.
6. Consider the long term scenario when making decisions about your business surviving this drop. Milk price fluctuations and uncertainty have always be a part of farming. You need to make sure that you want to continue.

Since mid December 2008, a number of milk companies have announced a review and a major reduction in milk prices. As a result, forward budgets and predictions for the remainder of the year have become obsolete and dairy farmers now face challenging times.

Establish the Facts

As a dairy farm manager, the first job is to establish the facts. What does the price drop mean to your business? Seek a revised income estimate and use this to review your budget. Then start to plan how you can respond.

The reality is that even after adjusting your plans, it is possible that there will be less income, than you were planning.

If your business has a positive cash flow and room to breathe with equity, then you may be able to proceed while acknowledging that there may be some financial pain. The closer you sail to the wind, the more likely it is that you will need to address both operational and financing issues.

The basic principles of profit are simple and they are to increase income or reduce costs. As mentioned earlier, milk income has taken a hit. The focus for most farmers in this instance will be managing costs.

There are two main areas to review:

• What ‘operational’ activities can you change that will reduce your costs without adversely affecting your income; and;
• If you are going to run into a cash flow deficit, how do you manage this?

In regard to overheads such as debt servicing, you need to consider what scope you have to reduce these. It goes without saying that your own physical and emotional well-being is critical in this whole process.

Managing Costs

Costs can be trimmed in many cases, but critical question is how much can you reduce input costs before the operating margin is reduced?

This is a key business principle: If you spend an extra dollar, will it return you more than the extra dollar spent? This principle should be used regardless of the conditions.

Most of these ‘marginal’ decisions are complex, that is, there are rarely ‘black and white’ answers. For example, dairy farmers often argue about feeding levels on whether to feed more or less grain? The answer is not simple, as there are short term impacts to consider such as milk production level; and long term measures such as the value of holding cow condition and the effect on reproductive performance, etc.

An easier example is the choice to reduce personal spending. You know you can go without that night out at the movies because financially you will improve the bottom line; however, there is some cost usually in the form of lifestyle.

It is a worthwhile exercise to work through your list of accounts and consider whether you can reduce this input cost without making the operating margin worse off? Do not hesitate to seek support from someone that you trust to work through this exercise.

Feed Costs

The main operational decisions are generally around feed and it is generally the single biggest cost category and from early February, you may need to adjust your feeding strategy.

There is no simple rule of thumb and you will need the confidence to check that the last kilogram of feed is still better for your business. It either creates more income than it draws in cost or puts the business in a better position going forward; for example future production, reproduction performance etc.

Most farmers have already filtered a lot of the available feeding advice and have chosen a feeding ‘system’ that reflects their views. These views are developed by ‘feeding principles’ and they are the key to confident decision making for your feeding approach through this milk price drop period. For example, you may choose to feed more or less grain; maybe use a mixer wagon; or chase higher or lower production per cow.

Use your principles to decide your feeding approach and don’t let others confuse you. However, if you still sit in the ‘undecided’ category then ask your trusted peers about why they feed the way they do. They can usually connect you with someone who can explain basic feeding principles to help you decide if you align with their logic. It is important to remember that generic advice is not appropriate as each farm system will need its own uniquely appropriate response. It is unlikely that a sudden and radical change to what you have done in the past will solve the problem.

Cash Flow and Equity

Many farmers don’t keep a ‘structured’ cash flow. The milk cheque comes in, the bills are paid, and in most cases there is still a bit left over. Under the present scenario, many businesses will not have enough ‘coming in’ to cover what is ‘going out’.

Even after trimming the budget, farm business managers may need to secure another source of finance to cover the deficit. There are a number of options for filling the gap and again you should not hesitate to seek support from someone that you trust to work through this issue.

The bigger the cash shortfall, the more important it is that you consider both the long and short term implications of increasing the amount of money that you borrow.

A business with solid equity should have the option of borrowing more without difficulty, but if equity is low you should spend more time thinking about the future security of your business. Equity is often low when a business is ‘young’ and there is tendency to borrow a large percentage to get started. If you are in this situation, you should seek some advice as it is not your fault that you are just starting out.

There are a range of options such as interest only loans and consolidating loans to reduce the short-term cash flow burden.

The Future

If you have worked through the shorter term issues and are considering the future, it is worth noting that whilst it seems uncertain that it has always been that way in agriculture.

You will not find a skilled adviser that will speak with certainty about future milk, feed or other input prices; but you can find people that have a depth of knowledge on the factors influencing future prices and can put together options based on ‘how you think’ the long term settings may unfold.

At the end of the day, it is your job as the manager of a large business to think about the longer term future. There are many examples of farmers that have had great success in the dairy industry with wealth creation, balancing profit and lifestyle. You need to re-assess your position and re-establish the level of confidence you have in your business. Working through future scenarios is an important part of this process.

At present many farmers are saying they can see to the end of June but it’s the next year that is worrying.

• If you cannot see until 30 June 2009 with known milk prices, then you need to do a monthly cash flow and feed budget until then.
• Do not waste your energy discussing what the milk price might be in the next financial year. Have a go at a ‘trimmed, lean and mean’ budget for your business and see what minimum milk price you need.

Support

Do not hesitate to seek support from someone that you trust to work through this issue. One of the most rewarding things about being part of the dairy industry is the access to good support.

It is very important to consider who you trust as good decision making comes from confidence, and this confidence often comes from reassurance from trusted peers – either farmers or service providers.

For more information, please contact your nearest Dairy Extension Officer at DPI Ellinbank on 5624 2222, DPI Maffra on 5147 0800 or DPI Leongatha on 5662 9900.

Source: http://gippsland.com/

Published by: news@gippsland.com