Current Progressive Dairy digital edition
Advertisement

Managing expenditures in tight times: Lessons from the Northeast

Progressive Dairyman Editor Dave Natzke Published on 19 July 2017

Northeastern U.S. dairy producers have shown remarkable resilience in the face of falling revenues, according to the annual Northeast Dairy Farm Summary. However, sharply declining asset-to-liability ratios and growth in debt per cow are worrisome, according to presenters featured during a recent Farm Credit East webinar summarizing the 2016 results.

A collaboration between Farm Credit East and Yankee Farm Credit, this year’s Northeast Dairy Farm Summary analyzed financial results from more than 450 dairy farms from New England, New York and New Jersey. The summary did not include financial results from organic producers.

advertisement

advertisement

Prices, margins measured

Northeast milk prices fell for a second straight year from an average of $25.58 per hundredweight (cwt) in 2014 to $18.24 in 2015 and $16.85 in 2016, according to Chris Laughton, Farm Credit East director of Knowledge Exchange.

Average net earnings increased from a loss of $30 per cow in 2015 (not counting non-farm income) to a net gain of $15 per cow in 2016, a remarkable achievement given the lower milk price.

While earnings were modestly better in 2016, when things like debt service and other cash needs are factored in, cash flow was actually tighter, and many farms experienced cash deficits. This was reflected in the cash position of the average farm.

Including non-milk farm income, the average farm was able to post a modest gain of 6 cents per cwt on an accrual earnings basis. However, cash flow was generally insufficient to meet cash requirements for the second year in a row. When family living expenses and scheduled debt service payments are taken into account, the average farm was short 10 cents per cwt in 2016.

Expenses, expenditures cut

How did Northeast dairy farmers make ends meet despite lower milk prices and the cash crunch they faced?

advertisement

“The answer is basically by lowering costs: A combination of lower commodity prices, belt tightening and economizing as well as increasing productivity,” Laughton said.

Led by reductions in feed costs, fuel, crop inputs and spending on repairs and maintenance, net cost of production decreased by $1.57 per cwt to $16.79 per cwt. Additionally, capital purchases declined, representing a “don’t have it, don’t spend it” mentality on the part of many farmers, forgoing facility and equipment purchases and major expansions, Laughton said.

“We started seeing this at mid-year: Dairies lost less money last year than they did in 2015,” said John Lehr, Farm Credit East business consultant who works with 60 producers with about 50,000 cows.

“With the milk price decline, that’s counterintuitive, but they were able to cut discretionary costs and cut costs in general more than the milk price drop was. The dairies that did the best were the ones who reacted the quickest as opposed to those that took a wait-and-see approach.”

Producers can’t grow their way out of a ‘cost problem’

A longer-term review shows fixed costs have remained remarkably stable over the past 20 years. In contrast, nearly all the increase in cost of production has come in increases in variable costs or production inputs, at least up until the last two years, when significant savings have been squeezed out of those.

“Not only have variable costs been rising, but the rate at which they have been rising has accelerated,” said Laughton. “This indicates it can be difficult to grow out of a cost problem. Expansion will dilute fixed costs, but fixed costs are often not the problem.

advertisement

If you have a problem in variable costs, expansion will not automatically solve the issue. There are economies of scale in variable costs, but it’s important to get better before you get bigger if you have a cost problem.”

Asset-to-liability ratios have fallen sharply in past two years

The asset-to-liability ratio looks at assets that will be converted to cash in the current year divided by liabilities or bills that have to be paid in the current year. With the exception of 2014, that ratio has been consistent in past years, with current assets at 2.8 times current liabilities. That dropped significantly to 1.8 in 2016.

“It’s still not too bad; the average farm has nearly two times current assets compared to current liabilities, but it is a significant erosion of liquidity compared to the recent past,” Laughton said.

Troublesome is a big chunk of current assets related to feed inventory. While feed will be used to generate revenue, it cannot be directly used to pay bills.

Taking out that inventory, a “quick ratio” compares cash versus current liabilities. According to Laughton, the average dairy farm “was trucking along” at a cash-to-current liability ratio of 1.1-to-1.2, but that fell to 0.5 in 2016.

“The average dairy in the Northeast is relying on that feed inventory being converted to milk, and that milk check coming in to pay bills,” he said. “There’s a lot less money in the checkbook in 2016, and a lot more farms were waiting on milk checks to pay bills that were due.”

In addition to lower costs, the small increase in average net earnings was also due in part to increased per-cow productivity. The top-profit farms were not necessarily the ones who spent the least on feed or paid their employees the lowest. From 2006 to 2016, the average cows per worker increased by 9 percent, and milk pounds per cow increased by 16 percent.

“As the result of a multiplier effect, more efficient workers milking more productive cows meant a 26 percent increase in pounds of milk per worker,” Laughton said. “That’s a big reason why farmers were able to save money on a per-cwt basis.”

Debt level a growing concern

Many farmers took on additional debt or restructured existing debt obligations to bridge the cash gap in 2016, resulting in total liabilities per cow increasing from $3,335 in 2014 to $4,190 in 2016, an increase of more than 25 percent in two years. Per-cow debt increased by 14 percent in 2016 alone.

“This is a bit worrisome,” Laughton said. Adjusted for inflation, current debt levels (per cow) are similar to the 1980s. “The rate of increase we’ve seen over the past two years is probably unsustainable.”

This will be an important issue in 2017 and beyond. The “average” farm has little reserve debt capacity available. If there are additional tough years, the ability for the average farm to borrow necessary funds may be limited.

Herds with 100 to 299 cows are in the toughest position

The DFS study breaks herds into four sizes: less than 100 cows, 100 to 299 cows, 300 to 699 cows and 700 cows or more. Although there were positive correlations between size of farm, efficiency and profitability, size was not an automatic guarantee of profitability.

Farms in the 100- to 299-cow herd size are in the toughest financial position, mostly related to labor, Laughton said. In many cases, herds of that size face large-herd expenses but have small-herd resources and can no longer rely solely on family labor, increasing total (hired) labor costs.

Near-term outlook

The 2017 price outlook looks a lot like 2015.

“Realizing positive earnings (in 2017) will be dependent on maintaining those efficiencies that farms realized last year, and keeping cost of production from rising too much, as it often does when milk prices rise,” Laughton said.  end mark

Dave Natzke
  • Dave Natzke

  • Editor
  • Progressive Dairyman
  • Email Dave Natzke

LATEST BLOG

LATEST NEWS