18 September 1998

DAIRYING IN

THE NEXT DECADE

What changes will dairy producers have to

make to be successful in the next 10 years?

How can profits be increased? What will happen

to milk price? How can performance be reviewed

and what targets should be set? That was the

challenge we put to some dairy consultancies

Increase output, remain flexible

DAIRY farming is becoming a more professional and competitive business. Those choosing to remain in the industry must increase output, both in terms of cow numbers and yield/cow, but without additional burdens of increased fixed costs.

They must adopt latest techniques, both from UK research and development and experiences of dairy farmers overseas, to compete on a world market. UK dairy farmers have always responded well to challenges, and I am confident that many will build successful businesses over the next decade.

Despite current disastrously low milk prices, many dairy farmers are making good returns. These producers are fully exploiting any opportunities to maximise milk price within the best milk contract for their herd. They are taking advantage of short term opportunities, such as current low feed prices and realistic quota costs, to increase marginal returns.

Businesses must remain extremely focused on increasing output, while remaining flexible enough to respond quickly to any opportunities.

In the long-term, dairy producers must work to add value to British milk. We need to ensure consumers value our quality assurance, and are willing to pay a premium for it.

Milk pricing

The current milk pricing structure is unsustainable in the UK market. But when looking at the world stage, we must accept the heady days of 26p a litre are unlikely to return for some time, and make plans accordingly.

In 1996, ADAS predicted price falls, but it has been faster and more severe than we expected, largely due to sterlings strength. Currency, including success or failure of the EMU, will remain crucial in determining prices.

The strength of sterling should begin to fall soon and with it milk prices will begin to recover. Further falls in milk price, as a result of Agenda 2000, should be offset by compensation packages which producers must tailor production to exploit.

But rather than try to second guess the market, look more closely at improving competitiveness of your business, ensuring you can produce milk at the lowest possible cost. Any rise in milk price will be a bonus.

Aim at standards set by the top 10% of producers, to secure just rewards. Do not just focus on one figure, be it margin over concentrates, production from forage or profit/litre. Total farm profit, a healthy cashflow and balance sheet strength is what matters most.

Remember that it takes time to improve. Experience with the ADAS Hartnoll blueprint and other commercial farms shows that it often takes three years or more to move an average farm to being a top 10% business.

John Allen, ADAS Head of Dairying.

Reduce production costs to 15p

INCREASED productivity will be key to future success if the milk price remains relatively stable. But should it be measured in £/cow, p/litre, £/acre, or return for each £ invested?

Milk Price

While not wishing to be too dismissive of calf and cull prices, it is essential to focus on factors affecting the milk price and in what direction it will go.

These key factors include strength of sterling, the UK milk marketing system and Agenda 2000 proposals.

Milk price may increase a little, by 10-11%, but profitability will relate closely to how producers run their own business.

Increasing profit

Profits must be reviewed based upon p/litre. Focus on a maximum cost of production before rent and finance costs of 15p/litre. Costs need to be, and can be, reduced.

Improved efficiency by changing yield from forage or feed prices can improve profits by up to 1p a litre (14%). But what happens when silage is poor and imported feed costs are high? All the gain in variable costs could easily be lost.

Reducing overheads

Reducing overhead costs can bring about permanent increases in profit, dramatically and quickly. For example, changing enterprise mix, labour utilisation, or reduction in capital employed by simple system will generate larger, more permanent, improvement in profits.

Capital employed/litre must be minimised by cost reduction or increased output, providing optimum return. This can include expansion through contract farming, farm management companies, or partnerships. Producers must learn to work together when the joint benefit is greater than the total of individual businesses.

It is possible that two systems of milk production will dominate in the UK. This will be based on climatic conditions and relative returns and demands from surplus land.

Towards the east, production systems will revolve around high input farming, using highly mechanised systems with large volumes of cheap feeds. Stocking rates will be high due to competitive returns from combinable and root crops.

Further west, production will focus upon optimum yields from forage with grazed grass ahead of silage. Mechanisation and labour will be low, along with lower stocking rates.

However, in both cases, total production costs must be kept at 15p a litre or less.

Reviewing performance and choosing the correct system will depend upon a producers mentality, business physical resources and providing for drawings, investment, tax and loans repayment. When the business is not constructed to achieve these targets it will never succeed, so build a business to deliver.

There will be some who leave the industry, but for those with drive and determination there will be good opportunities.

Tony Evans, Andersons consultant partner

Evaluate then act

LOW milk prices are a reality for dairy producers and wishful thinking will not make the situation better. Producers must be able to evaluate all aspects of their business before deciding on correct action for their particular situation.

To evaluate your business you need to have benchmarks to compare work against, although the most important benchmark is the profitability of your own farm. All other financial criteria are only indicators, for example, vet costs are a poor indicator of farm profitability.

The individual farmer should, firstly, look at medium and long-term strategies for the farm. The correct plan for the longer term will clarify short term issues. It may be that some producers should go out of milk production, some family members may need to take a job outside farming, or for others an expansion policy is the best option.

This long term strategy review is difficult to undertake. It is one of the main areas where DRC and SAC consultants are increasingly working with farmers.

Secondly, evaluate your income. Maximising income may not be the correct approach when this incurs greater costs. There are, however, still too many farmers who do not receive milk quality payments available from milk purchasers.

Thirdly, evaluate cost effectiveness of all inputs. The following questions are a useful starting point.

Is feed being used most efficiently? Could savings be made in amount of purchased feed and distribution through lactation?

Is the silage production system correct? Third cut silage can be particularly expensive. Can better use be made of contractors, leading to a reduction in fixed costs?

Which fixed costs are essential to the business? Which are desirable but not essential?

Even relatively small savings, for example opting for a different electricity tariff, are important to make at this difficult time.

Producers staying in milk production must accept that standards of production must improve. Cost-effective improvements may therefore need to be made in the next couple of years. There is no point in surviving this difficult period only to find that there is no future market for your milk.

David Roberts, Dairy Research and Consultancy and SAC

Optimise output

THE current economic climate will undoubtedly mean that smaller herds of cows milked by employees will become non-viable. This will inevitably lead to fewer, larger herds.

Producers will not only need to maximise efficiency, but also review their herds yield level. For example, lifting yields from 6500 to 7500 litres a cow will only affect concentrates and one or two other variable costs in a minor way.

Extra cow numbers will mean expenditure on winter housing and forage storage, whereas increasing yield only requires capital investment on milk quota.

Extra profits are unlikely to come from higher milk prices. Therefore, ensuring optimum litres are produced from dairy units will be the key to making a profit over the next few years.

Careful examination of all costs will be essential, especially replacement and labour costs a litre. Producing as much from forage and less from bought-in feed will also be essential to profitability.

Milk pricing

It is certain that should prices drop any further there will be serious damage done to the dairy industry.

The question of where milk prices will go over the next few years will be dictated largely by the outcome of the current review of milk marketing being carried out by the Monopolies and Mergers Commission.

Where the result is half sensible then we may see prices move up gradually to just over 20p a litre. It will be a long time before we see 25p a litre again.

Reviewing performance

Careful, regular, monitoring of performance is essential.

Using cow performance is no longer relevant as the dairy industry is marketing litres of milk, not cows. Cost a litre, therefore, must be the measure for the future.

When a unit currently producing 800,000 litres a year can increase output to 900,000 litres then fixed costs a litre, excluding quota, must drop.

Comparing one herds results with those of a similar herd, coupled with good advice is essential for a successful future.

Peter Ridout, AKC dairy consultant

Surviving at 18p

a litre

HOW can dairy farmers manage their businesses in the face of adversity, with a milk price of 18p a litre?

Many dairy farmers face their future with an understandable feeling of despair, disillusionment and sheer frustration. But now is the time to remain positive and focused.

When asked what the future holds for dairy farm incomes I reply that in my experience of dealing with successful businessmen they focus on the need to react and change. Then, they prioritise those things that they can do something about.

Many view dairy farming as a way of life. Until recently, profit may not have been the be all and end all. It is possible to excel in technical performance for instance, yields and margins, without necessarily resulting in bottom line profit.

Profitable businesses are invariably business-like. This has more to do with the personality, approach and motivation of the person in charge than any particular system of dairying.

For those looking to improve profit, theres no universal solution or system. No two farms are alike. Thats why you need to produce your own personal approach to managing your business to survive at a milk price of 18p a litre.

However, there is a method that all successful businesses can adopt.

Firstly produce a budget. Knowing the likely outlook for the future can reduce the shock when the day actually comes. It also allows you to start making priorities.

Benchmark your business against others. You need to do this not to take comfort from being above average but to identify key factors that most affect bottom-line profit. Decide where you can make the biggest impact upon income generation and cost savings.

Cost savings and output cannot be taken in isolation. Most costs are investments, and cutting some might save today but cost three times as much tomorrow. The accountancy terms for costs – either fixed or variable – can be misleading. Variable costs are often fixed and cutting them can reduce profit.

Do not make sweeping changes in haste. This can be as dangerous as not acting quickly enough. Good businessman tend to make one change at a time so the effect can be seen.

Above all, remain positive whilst reviewing costs. Ask yourself how is it possible to generate more output from costs carried by the business. This is especially so of labour. The herdsman and his motivation are key to profitability of any dairy farm. I cannot recall ever seeing an overpaid herdsman.

Budget the outcome of changes you plan to make. Ask yourself if they achieve enough. For many businesses making marginal profits and facing a downward spiral of rising borrowings, the answer may be to dig deeper. Some decisions are going to be tough and difficult to take.

Finally, monitor change. Making profits and growing a business needs management accounts that provide a meaningful, up-to-date picture. &#42

Tom Kelly, director of Axient Farm Business Solutions