Commodity price volatility in recent years has meant that making ends meet on the dairy farm has become a challenge. During 2009, low milk prices coupled with high feed costs created serious cash flow shortages and a resulting inability of many dairy operators to service existing debt structures. As a result, many farmers were left to wonder if they could weather the margin compression long enough to keep their dairy operations afloat.
- From 2008 to 2009, the average Class III milk price dropped from $17.44 per hundred weight (cwt.) to $11.36 per cwt.
- Corn Soybean Meal Mix increased from $4.56 per hundred pounds in 2005 to $8.61 per hundred pounds in 2009.
- The spread between Class III milk prices and corn-soybean meal mix costs reached a minimum of $2.75 in 2010 compared to the largest spread of $10.98 reached in 2007.
Historically, changes to milk prices and feed costs have tracked one another. While short term lags might have occurred as one commodity price changed more quickly than the other, the commodity values for inputs (feed) and outputs (milk) had exhibited similar price trend graphs. However, this status quo changed during 2007, when the impact of the diversion of corn from animal feed to ethanol production occurred.
Prior to 2007, in response to a widening spread between milk prices and feed costs, dairy farmers significantly expanded operations and production capacity. This expansion was largely financed using bank debt, resulting in increased debt service burdens on dairy operators. Unfortunately, this increased production came on line at the same time as the spread between feed costs and milk revenues reached historic lows, with calamitous consequences to dairy operators' cash flow. As a result, lenders have found themselves confronted with over advances on working assets and an inability of dairy borrowers to service term debt structures.
Industry Forecasts
The spread between feed costs and milk revenues is forecast to remain narrow in 2010. Dairy operators and their lenders can no longer assume the spread in margins between feed costs and milk prices will support a historically well-run dairy operation. It is increasingly important, therefore, that dairy farm operators and their lenders use traditional business tools in their decision-making process, including daily and weekly operating reports, weekly cash flow forecasts and break-even analysis. Break even analysis tools can assist dairy lenders in determining ranges of success for their borrowers and identify (i) operators worthy of continued support via debt restructures and (ii) dairy borrowers where the bank needs to look for exit strategies.
Focus Expertise in the Dairy Industry
Focus Management Group is a proven resource for struggling dairy operators and their stakeholders. Our specific industry knowledge, coupled with our well-honed expertise in weekly cash flow development and key indicator reporting, provides lenders with a resource to effectively assess and monitor stressed portfolio dairy clients.
Focus Management Group's Dairy Operating Success Matrix©, developed by our experienced team of dairy professionals, is a tool which incorporates milk prices, output per cow per day, and feed costs per cow per day to determine the range of scenarios which would provide a dairy operation with additional cash to cover debt service. The greater the number of combinations of factors that result in dollars to put toward debt service, the higher the probability a lender can obtain long term repayment with a specific dairy operator. If there are fewer potential combinations of factors that provide cash to service debt, Focus can assist lenders in working with their portfolio dairy clients to restructure debt or develop workable loan structures. Focus can also work directly with dairy farm operators to reduce cost structures or exit the industry in an orderly manner. Focus also has the ability to assist lenders in serving as CRO of a dairy operation, or in liquidating a failing dairy operation.
Focus Professionals can provide a wide range of additional services to lenders in the dairy industry, including the following:
- Portfolio reviews utilizing existing loan files, including assessment of financial statement reports, annual production records, annual feed costs, annual labor costs, and herd size (milking, dry and heifers)
- Forecasting of future debt service capabilities, involving an expanded review of forecasts or the development of forecasts in conjunction with the dairy operator
- Cash flow forecasting and reporting, weekly key indicator reporting and variance analysis
- Operations reviews and comparative operating data development
- Review of dairy operators’ cash flow and operating forecasts
- Expert testimony
To learn more about Focus Management Group's Dairy Industry Report and Dairy Operating Success Matrix©, contact Lassiter Mason or Juanita Schwartzkopf at 813.281.0062 or via e-mail at l.mason@focusmg.com or j.schwartzkopf@focusmg.com.