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‘We can be price makers’

Angie Molkentin Published on 30 August 2010

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The road to better marketing continues for Dave Geiser and Deb Reinhart of Gold Star Farms. After choosing a marketing consultant in November 2009, Dave and Deb began their journey toward better control of their business through better marketing.

Travel log entry, July 2010: “After two quarters of marketing, we’ve learned that there are many opportunities for us to be price makers rather than to take what we receive on our milk price.”

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As Gold Star Farms began the third quarter 2010, two-thirds of their August milk is forward contracted at what Deb Reinhart calls “a profitable price.” With milk price fundamentals slowly but surely improving, one-third of their production is left open to the market at the time of this writing. One-third of their September milk was sold when a predetermined trigger was hit for $15.00. Fourth quarter price targets are in place, based on a cautiously optimistic outlook for $15.00 milk, with the possibility of $16.00 still in the cards for late this year.

May’s milk contracts came in at $3,760 above mailbox price, and June milk contracts came in at $1,660 above mailbox price.

On the feed side, uncertainty abounds in the markets as all eyes are on weather and potential crop yields. Deb and Dave have an agreement in place with a neighboring farm to buy their corn based on the market price of the December futures for the first week of April, May, June, July and August. With corn prices relatively strong through the first four months, Deb and Dave are set to average around $3.9125 for corn this year. Even if the August price comes in lower, having so much corn locked in at higher prices means their average price won’t come down much. Their marketing adviser, Matt Mattke from Stewart-Peterson, suggested adding some put options for fall corn to give Deb and Dave the opportunity to lower their average price for the year if corn sells off into harvest.

For example, if Deb and Dave cover their corn feed with $3.50 put options at 12 cents and the December corn price falls to $3.00, that move could reduce their purchase price by about 30 cents. If December corn fell to $2.50 it could reduce their purchase price by 63 cents.

Deb, the farm’s business manager, is grateful for the guidance, as summer has brought time crunches for the couple. Wisconsin weather for making hay has been challenging. The farm is participating in an animal well-being assessment, and Deb is also trying to watch milk, feed and energy prices.

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“Right now it would be a daunting task to be focusing on milk marketing and feed buying. Last winter Dave and I made time to focus on learning and developing our marketing strategies, and we are confident that after two quarters it is working for us now,” Deb says.

“We are no longer eroding equity by borrowing money to maintain cash flow. While we are not at an optimal financial position, we are much better than last year. Margins are better because feed is cheaper and the milk price is a bit higher.”

What’s ahead in the markets?
Year-over-year growth in cheese inventories continues to slow, Matt explains. Back in November 2009, inventories were growing at a 17 percent pace year over year; now that growth is down to 5 percent. If that growth rate approaches zero or even goes negative, that will help support better milk prices for the second half of the year than what dairymen saw in the first half.

During the first two quarters of 2010, productivity gains via milk per cow helped cushion some of the drop in the milk price for most producers. In the second half of 2010, producers will not be able to rely on heavy milk production to get them through if milk production per cow starts to fall, as is typical after summer heat. The pounds won’t be there to spread expenses across.

Regardless of whether the delicate balance holds, Deb is optimistic. “We have the security of knowing that we have locked in some profit, and it relieves our stress greatly. This was one of our original goals for marketing milk … it frees us to make hay while the sun shines.”

Gold Star Farms is positioned well going into the second part of an uncertain year, while much of the industry’s hopes are pinned on cheese inventory trends, milk-per-cow productivity and a corn and soybean crop year that has yet to prove its expected yield.

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Mattke and his company estimate that, at best, only about 9 percent of the nation’s milk projected to be produced through December is hedged at this time. That means that at least 91 percent of that milk is set to get the open market price.

Furthermore, equity trends among dairy producers are not improving. Perhaps they are stabilizing due to milk-per-cow productivity, but with productivity in typical seasonal decline, margins, and therefore equity positions, remain tenuous.

Steve Bodart, senior dairy industry specialist with Lookout Ridge Consulting, expects asset values for dairies to erode another 5 percent in the next 12 months. “Revenues may go up, but expenses will also be up. There will be more negative net worth overall due to revaluations and depreciation, and that will continue to put pressure on dairies’ relationship with lenders.”

Bodart says producers need to do everything they can to increase margins. Some producers are doing that by reducing expenses, at the cost of reducing production. “That’s not protecting the margin. Low cost of production is important, but in the big picture, comprehensive risk management provides better assurances of positive cash flow and margin protection.”

So why is much of the industry’s expected production left unhedged? Deb Reinhart, speaking from experience, defends her fellow producers. “I think producers are so overwhelmed by all the management demands of the business that they just haven’t gotten it done.”

Matt adds another possible reason: “Maybe they’ve been burned before in their attempts to market milk, and that experience has soured them to marketing.”

Matt says producers need to remain consistent and committed to managing their marketing if they want to see the benefits. “If producers watch the markets and do a little here and a little there, you won’t see consistent results.”

That approach, he says, is reactionary rather than proactive.

“If strategies are applied consistently through the bull and bear markets, the benefits over the long-term would be seen. Whatever anyone gave up at the market top in risk management through 2007 to early 2008, they easily got that back and more with the bear market from June 2008 to present with a consistent and committed approach, as Deb and Dave are applying.”

Commodity markets for both feed and milk are expected to remain volatile in years ahead. “Markets are trying to determine whether our economy is in an inflationary or deflationary period,” Matt says. “There’s major global economic uncertainty, and there are shifts in money flowing back and forth between commodities and the stock market.”

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If it feels like a roller coaster, it is. Figure 1 shows the percent change of the annual average all-milk price from year to year.

Figure 2 shows the volatility in the corn market, which emphasizes Bodart’s point: “Protecting profit margins with today’s markets requires a more sophisticated and comprehensive approach to marketing, so producers avoid getting trapped when milk prices are low and inputs are high.”

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Volatility lemonade
Can volatility have its benefits? It can, if you view the opposite side of risk as opportunity.

“Any producer who has sought to improve feed efficiency understands this delicate balance,” says Scott Stewart, president and CEO of Stewart-Peterson. “Producers have been balancing production risk and opportunity for years. Pricing inputs and milk is another management challenge to be mastered.”

Stewart believes the next five years will separate the price-makers from the price-takers, the optimists from the pessimists, and those who are proactive from those who are reactionary.

“Dairy producers have tackled every other management frontier. The best will tackle this one as well,” Stewart says. PD

Read the series wrap-up on Deb and Dave in the November issue of Progressive Dairyman.

Angie Molkentin is a writer from Oconomowoc, Wisconsin. She has special access from Stewart-Peterson to observe Gold Star Farms’ interactions with its Market360 program.

Futures trading is not for everyone. The risk of loss in trading is substantial. Therefore, carefully consider whether such trading is suitable for you in light of your financial condition. Past performance is not necessarily indicative of future results.

RELATED RESOURCES
Downloadable pdfs:

'Road to better marketing' Farm Marketing Glossary
Stewart-Peterson's "Get started marketing well" e-Book

Videos:
Now video segments from “Road to Better Marketing” workshops are available for download at www.stewart-peterson.com . Nearly five hours of instructional video is available and can be viewed in segments. Segment topics range from “What is Great Marketing” (27 min.) to “Market Scenario Planning” (17 min.). Hands-on examples are also offered, showing how marketing concepts can be applied during both high and low points of a milk price cycle.

Previous 'Road to better marketing' articles:
Let's get control of our business
How we mapped out our feed strategies
Scenario planning pays off for Wisconsin couple
For better decisions, add structure

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