Risk management key to limit milk price losses

In the upside of milk prices as well as in the downside, it is essential to manage the risk of maintaining profits.

Never forget that minimising losses in a down cycle is every bit as important as maximising your profits in an up cycle.

Most people simply turn the light out in a down cycle, but all that does is increase the loss and lengthen the recovery process. You must actively manage, not just monitor or ignore, losses.

With the exception of those on solid rewarded contracts, most milk producers should focus on production costs and output efficiency. There is little sustainable influence a milk supplier can have on milk price.

Risk-management decisions depend upon accurate information, which requires reliable data. Good information can help a dairy farmer make rational risk-management decisions. Information is available from farm records and budgets, statistics and data from input traders such as supply merchants.

Good risk management involves anticipating potential problems and planning to reduce their detrimental effects. Simply reacting to unfavourable events after they occur is not good risk management. Instead farmers should try to act on events in the future and limit the negative effects of these events.

It is essential that all those dairy farmers who want to thrive, and not just survive, recognise the risks in global agriculture and how they can manage them as the first steps in building sustainable profit in dairying and forestalling future farm busts.

Advice for protecting profit

• Quantify what profit level is both required and budgeted – without this knowledge how can you plan and identify the risk areas?
  
• Never budget on current year prices only – you could pick a high or a low year. Use a minimum of the past four to five years, including the current, to ensure your business plan is robust.
  
• If you are risk averse, consider a fixed-rate contract (for example, via a retailer cost of production mechanism or a forward-contract option).
  
• If you are a risk-taker – looking to profit from the good times – your business must have costs of production that can withstand the lowest milk price in the past four to five years.
  
• At present, while we have lower milk prices there are also some good cost savings that can be made, driven by low inflation and low world business activity. These include feed, fertiliser, fuel and interest rates. The risk management process may well encourage some lock-in or forward-fixed prices. Without fixing the gain this cannot be banked and budgeted in.
  
• Communicate risk-management decisions and strategies to all parties involved including farm employees and the supply trade.
  
• Look at other business and talk to owners who operate in the top 10% of performance.

Tony Evans is head of business consultancy at The Andersons 
Centre