Economics

Cost of Production Hike Brings Losses

Mark Greenwood
October 2007

Cost of Production Hike Brings Losses – It’s amazing how quickly market conditions can change. Remember back in early August? Cash market prices were in the low to mid $70s and we had every futures month on the board at $70 or above. Plus, the rumor was that China was in the market for buying lots of U.S. pork. Life was good, and it seemed that even though we had more hogs coming to market, prices were going to profitable. Also, at the same time, grain prices were coming down and corn in southern Minnesota was below $3/bu., and it looked like even with the ethanol boom, we were going to have realistic corn prices.

Now at the end of September, the cash hog market is hovering in the high $50s. Corn has jumped from $3/bu. to $3.50/bu. in southern Minnesota, and soybean meal has jumped from around $220/ton to $265/ton.

In just a 60-day period, your cost of production has risen about $8-$9 a head, and your revenue has dropped $30 a head. Needless to say, I do not think September will be a profitable month for the pork industry – and we could be looking at a tough fourth quarter for the industry.

Lots of Pigs – The fact that there are a lot of pigs out there should not be a surprise to anyone in the industry if they have been looking at a couple of things.

The first factor responsible for this trend is the number of weaned pigs and feeder pigs coming down from Canada. I do not see this trend slowing down. The Canadian dollar was on par with the U.S. dollar last week. What many Canadian producers are doing is selling weaned pigs and/or feeder pigs into the United States, retaining ownership and feeding them out. To the Canadian industry, this is a means of self-preservation.

Secondly, performance in most sow herd systems in the United States is excellent. That fact combined with improved production due to the circovirus vaccines being so effective, equates to a lot more pigs being produced and marketed.

I remember writing a column in the beginning of 2007 and stating that death loss on hog farms in the United States was up 1-2%. That equates to a loss of 70,000 sows.

Today I believe that death loss is down at least 2%. Along with the improvement in sow productivity, that equates to the addition of 100,000 more sows to the marketplace, even though we didn’t actually add more sows to the U.S. breeding herd.

The Future for Pork - What does the future hold? If you look at the futures market for pork in 2008, things do not look that bad, and there are still opportunities to lock in profits for next year. If you look at prices on the Chicago Board of Trade through October 2008, the average price is above $72 or a total return of $140 a head on a 200-lb. carcass. Even with the higher feed costs, there is still profit potential for 2008!

I have stated numerous times in this column about locking up profits. It is up to you as a producer to manage that risk. Since 2004, locking up prices on the futures market has proven to be the wrong decision, and you were better off just using the cash market. That still might be true, but also betting that the cash market will always be there is also a hedge in my mind. If you know your costs and can see a margin that you can live with, I think you might sleep better at night than not knowing what lies ahead. I firmly believe in the next two years that marketing – selling your pigs and procuring your feed needs – will separate the best from the rest more than any other factor in the marketplace.

Swine Industry Update Archives

Influencing Global Brands as a Strategy to Change Production Systems

Most people think about Rachel Carson's book, Silent Spring, written in the 1960s as a key turning point or perhaps even the birth of the modern environmental movement in the United States. Rachel Carson was a biologist and author (http://www.rachelcarson.org/) who brought forward the belief that the pesticide DDT (especially), widely used in agricultural applications post WWII, was having a serious negative impact on wildlife, especially birds--hence, the ultimate culmination of such practices being a spring season without the music of songbirds.

Rachel Carson seemed to believe that booming agricultural production systems which were coming into a euphoric period of efficiency gain after the second world war needed to be awakened to the impact of some of their practices. In other words, she could be considered an optimist with respect to systems potentially seeing their error and reforming. Her book was essentially an awakening call. Indeed a tremendous amount of progress has been made in "detoxifying" agricultural chemicals, especially in terms of their more generalized impact and sharpening their focus to the unique set of problems they are meant to target.

The use of GPS guided spraying technologies which precisely target the application of herbicides, pesticides and even commercial fertilizers are another promising technological advance that is minimizing wasteful overapplicaition of agricultural chemicals.

SwineCast 0256 for November 27 2007

SwineCast 0256 Show Notes:

  • Mo Agastino, Senior Risk Management Consultant at Farms.com Risk Management, shares some advice on how to prepare for the unexpected
  • Let's proactively manage odor before our neighbors and our government teach us how to
  • Tom Elam, FarmEcon.com, explains the economics of biofuels 

Selling Weight Considerations

     Let's take another crack at this optimal selling weight idea.  In general, for a single pig (to get the theory down), you want to add weight as long as the next lb added returns a profit.  That is, the cost of adding that pound is less than the return it receives.  Somewhere in late finishing, a pig will start receiving less and less for each pound added.  This is because feed efficiency is deteriorating and the packer matrix will at some point discount the lb because the pig is too heavy.  Even though all lbs are discounted when the sort matrix indicates a penalty, as long as the last pound was at a profit, it should be added.

How Chasing Return on Equity May Lower Return on Equity

    Reducing variation requires first an understanding of the source(s) of variation, the likelihood of mitigation strategies to successfully reduce the variation and the cost/benefit trade-off in source mitigation. As we have discussed, the typical farm record systems and the procedures which are considered practical to perform, work against developing the necessary data and anaylysis to gain a clear understanding of the return for variance reduction.

    However, one of the most powerful aspects of variance reduction strategies is that if they are successful, they favorably affect both revenue and cost simultaneously. This results in a double bang for the buck when considering the potential financial outcomes of variance reduction investments.

    Since little was understood about the role of production variance on net income; building systems, equipment systems, management systems, contract production systems and pig flow rules of thumb etc. have been put in place over the years causing inflexibility and making it difficult to deploy certain new strategies.

    For instance, contract production systems save equity and allow for greater expansion of the sow base since the capital of the grower forms a significant portion of the total investment required. Many growers elect to make this investment because the returns are generally very high to equity and the value of the manure has been increasing dramatically where it can be used as a commercial fertilizer substitute.

Opportunity Revenue and the Cost of Intervention

Causes of variation in pig production are many and not well understood. One of the key issues arises from the spread in pig weights which begins through a kind of competitive process among the pigs beginning well before birth. Competition in the uterus and during lactation results in a sometimes widely spread distribution of potential in pigs by the time they reach weaning. Some common management procedures are implemented beginning at birth to attempt to reduce variation but their outcome is often marginal, while others, such as processing and castration introduce new challenges to subsets of pigs. Pigs of different weights require different environmental temperatures, feed types and other conditions, yet as variation increases, "average" conditions are provided which probably miss the ideal environment for all but a very small number of pigs.

Some producers are experimenting with simply euthanizing the smallest pigs either at weaning or prior to weaning. An arbitrary percentage is chosen, such as the smallest 3-5% as candidates for euthanizing. Recently published trials (Wolff, Lehe, Keffaber and Deen, "A Producer's Tool for Measuring Attrition", IPVS, 2006) suggest that the weight of the pig, relative to its cohort at both weaning and the end of nursery phase are sentinel indicators of eventual final quality with the weight at the end of the nursery phase a stronger predictor. The result was obtained with all other things held constant so it isn’t clear if targeted or more intensive individual interventions aimed at the smallest pigs at weaning and feeder pig stages would affect the outcome.

SwineCast 0214 for July 3 2007

SwineCast 0214 Show Notes:

Too Much of a Good Thing...Is Rarely a Good Thing (with apologies to Martha Stewart)

Variation is a natural part of biological systems and a characteristic that cannot be eliminated. However, the wise producer will institute procedures from the boar stud to the final loading of the finished animals which at a minimum, does not increase the natural variation in growth. Variation costs money, lots of it. Since we adopted systems which produce weekly lots of pigs, the pigs flow through the farm in age-segregated groups, often moving two or three times to different locations. When their growth performance begins to spread, the time and the cost associated with their completion and marketing begins to rise.

Two Peas in a Pod---They Ain't"

So we are talking about not adding to the fundamental problems which biological production systems deal out just because of their nature. Some of those problems include seasonality, the complexity of growth mechanisms as a key variance enhancer (compared to non-biological production—like automobile manufacture etc.) and the fixed periods of production which cannot be speeded up with an extra shift (like gestation). I’m contending that the next major movement forward in competitiveness is the producer’s ability to manage (certainly never eliminate!) variation more effectively. There is lots of money on that table.

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