Transcript ECON 337: Agricultural Marketing Chad Hart Assistant Professor [email protected] 515-294-9911 Econ 337, Spring 2012 What Causes Cycles Response to economic signals Time lag Psychology Biology Investment Livestock Tree crops Land development Econ 337, Spring 2012

ECON 337:
Agricultural Marketing
Chad Hart
Assistant Professor
[email protected]
515-294-9911
Econ 337, Spring 2012
What Causes Cycles
Response to economic signals
Time lag
Psychology
Biology
Investment
Livestock
Tree crops
Land development
Econ 337, Spring 2012
Seasonal Price Patterns
Patterns that repeat themselves with
some degree of predictability within a
year’s time frame.
Driven by supply and demand factors
that are impacted by time of year
Weather
Holidays
Input prices
Econ 337, Spring 2012
1.10
Seasonal Pricing Patterns
1.08
1.06
1.04
1.02
1.00
0.98
0.96
0.94
0.92
0.90
Jan Feb Mar Apr May Jun
Cattle
Econ 337, Spring 2012
Jul
Aug Sept Oct Nov Dec
Hogs
Source: USDA, NASS,
Monthly Price Data 1980-2011
How to Calculate Seasonal Index
Pick time period (number of years)
Pick season period (month, quarter)
Calculate average price for season
Calculate average price over time
Divide season average by over time
average price x 100
Econ 337, Spring 2012
U.S. Cattle Prices, Cattle 500 Lbs. or Higher
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sep
Oct
Nov
Dec
Annual
2002
67.40
70.00
70.60
67.30
65.10
64.00
63.70
64.40
64.50
64.60
67.30
70.40
67.40
2003
72.90
73.90
72.60
74.50
75.50
74.90
75.80
79.30
84.90
91.50
93.40
90.40
72.90
2004
81.10
78.50
83.70
84.90
88.50
89.80
88.00
87.60
85.90
86.50
85.30
86.70
81.10
2005
89.10
88.80
91.00
93.70
92.10
88.00
85.00
84.40
88.00
90.40
90.80
93.30
89.10
2006
95.00
92.40
87.90
84.80
82.20
84.00
85.80
87.20
90.00
88.30
84.40
83.10
95.00
2007
83.70
86.10
91.60
93.70
92.80
88.80
89.00
91.40
93.10
90.90
89.90
89.20
83.70
2008
87.50
89.00
87.90
86.80
91.30
91.90
95.00
95.80
94.20
87.40
84.30
79.70
87.50
2009
80.10
78.90
79.10
83.80
83.20
80.10
80.90
80.40
80.50
79.20
79.60
78.50
80.10
2010
82.30
85.70
90.40
95.60
94.70
90.40
91.70
93.50
94.10
93.10
94.00
98.10
82.30
2011
107.00
108.00
115.00
119.00
112.00
107.00
111.00
111.00
112.00
117.00
120.00
120.00
107.00
Avg.
84.61
85.13
86.98
88.41
87.74
85.89
86.59
87.50
88.72
88.89
88.90
88.94
87.36
Ratio
96.9%
97.4%
99.6%
101.2% 100.4% 98.3%
99.1%
Econ 337, Spring 2012
100.2% 101.6% 101.8% 101.8% 101.8%
Using Seasonal Index to Forecast
Observe price in time t1
Forecast price in time t2
P1
P2
Start with P1/ I1 = P2 / I2
Then P1 x I2 / I1 = P2
Assume that cattle are selling at $125/cwt
in February. What is the forecast of July?
Econ 337, Spring 2012
Cost of Production
Raised livestock
Farrow to finish, Cowherd to finish
Accumulate cost from birth through finish
Relatively stable cost over time
Impacted by input prices and production
Feed is typically 60-70% of cost
Low productivity increases the cost of those that
make it to finish because the fixed costs are
divided by a smaller number.
Econ 337, Spring 2012
Cost of Production
Purchased feeder livestock
Derived demand for feeder animal
Highly variable price
Depends upon
Expected selling price for finished animal
Feed costs
Econ 337, Spring 2012
Cost of Production Budgets
Starts with production function
Incorporates input prices
Project cost per unit sold
Variable $/unit
Total $/unit
 http://www.extension.iastate.edu/agdm/livestock/html/b1-21.html
Econ 337, Spring 2012
Swine Production - Finishing Weaned 12 lb Pigs, Total Confinement - One Pig
Ag Decision Maker -- Iowa State University Extension
For more information see Information File B1-21 Livestock Enterprise Budgets.
Place the cursor over cells with red triangles to read comments.
Enter input values in yellow grid-lined cells.
Income
Market Hogs
Price
Unit
$0.00 per lb
Variable Costs
Weaned Feeder pig
Interest
Price
Unit
$32.00 per head
9%
Feed Costs
Corn
Soybean meal
Dried distiller grain
Vitamin & minerals
Pre-nursery diet
Feed Additives
Feed processing & delivery
Other
Total Feed Costs
Econ 337, Spring 2012
$3.80
$0.15
$0.06
$0.45
per bu
per lb
per lb
per lb
x
Quantity Unit
260 lbs
=
=
$32.00
$1.18
=
=
=
=
$37.24
17.85
1.92
6.48
3.00
3.00
6.75
0.00
$76.24
Quantity
x
x
x
x
x
Unit
1 head
4.9 months
=
Total
$0.00
9.8
119.0
32.0
14.4
bu
lbs
lbs
lbs
Veterinary and medical
Fuel, repairs, utilities
Marketing, miscellaneous
Other
Manure application cost
Interest on variable costs
Death loss
Labor
Total Variable Costs
Income over Variable Costs
Fixed Costs
Facilities & equipment
Total All Costs
Income over All Costs
Break-even selling price for variable costs
Break-even selling price for all costs
Econ 337, Spring 2012
$0.01 per gal
9%
$14.00 per hour
220
3
0.05
0.7
gal
months
head
hours
=
=
=
=
$5.00
4.20
4.00
0.00
2.20
1.03
1.60
9.80
$137.25
($137.25)
$11.28
$148.53
($148.53)
$52.79 per cwt
$57.13 per cwt
Using Budgets in Planning
Project a breakeven “point estimate”
Sensitivity analysis for key variables
Back calculate from revenue to what you
can afford to pay for feeder animal
Economic versus financial costs
Econ 337, Spring 2012
Objective Based Pricing Strategy
Feeder & Financing
+ Feed Costs
+ Operating Costs
+ Labor Costs
+ Fixed Costs
+ Desired Return
Cost/hd
$/cwt
729.24
186.71
30.46
36.55
24.63
25.00
60.77
76.33
78.87
81.91
83.96
86.05
550# steer calf fed to 1200 slaughter weight
Econ 337, Spring 2012
How Much to Pay for Feeder Animal
Work back from total revenue
Expected revenue
- Interest Costs
- Feed Costs
- Operating Costs
- Labor Costs
- Fixed Costs
- Desired Return
Cost/hd
$/cwt
1020.00
41.74
186.71
30.46
36.55
24.63
25.00
185.45
177.87
143.92
138.38
131.74
127.26
122.71
550# steer calf fed to 1200 slaughter weight
Econ 337, Spring 2012
Feeder Cattle Break Even Purchase Price for a Steer Calf
Corn
Price
$125.00
In weight
Out weight
Target ADG
Death loss
Corn (bu)
Hay (ton)
Hay Price ($/t)
Supplement ($/hd)
Interest
Yardage
Vet-Med
Trucking
Other
Target Return
550
1150
2.85
1.50%
63.0
0.5
$100.00
$23.00
9.50%
$0.25
$14.00
$9.00
$5.00
$0.00
$4.00
$4.20
$4.40
$4.60
$4.80
$5.00
$5.20
$5.40
$5.60
$5.80
$6.00
$6.20
$6.40
$6.60
174.12
171.89
169.66
167.43
165.20
162.97
160.74
158.50
156.27
154.04
151.81
149.58
147.35
145.12
Fed Cattle Selling Price
$127.00
$129.00
$131.00
178.09
175.86
173.63
171.39
169.16
166.93
164.70
162.47
160.24
158.01
155.77
153.54
151.31
149.08
182.05
179.82
177.59
175.36
173.13
170.90
168.67
166.43
164.20
161.97
159.74
157.51
155.28
153.05
186.02
183.79
181.56
179.32
177.09
174.86
172.63
170.40
168.17
165.94
163.70
161.47
159.24
157.01
http://www.iowabeefcenter.org/Software/Cattle_feeding_budgets.xls
Econ 337, Spring 2012
$133.00
189.98
187.75
185.52
183.29
181.06
178.83
176.59
174.36
172.13
169.90
167.67
165.44
163.21
160.97
Contractual Relationship
 Focus today is not on internal transfer
 Only relationship is the marketing contract
 Typically 3-10 years in length or evergreen
 Defines delivery schedules, carcass
specifications, pricing, and in some cases
production practices
 Small portion of contracts have risk sharing
provisions
Econ 337, Spring 2012
USDA MPR Definitions
 Negotiated: Purchased in the cash market for delivery
within 7 days.
 Swine or pork market formula: A formula tied to the cash
market for hogs or pork cutout., i.e., weekly average price,
3-day rolling average, percentage of the cutout.
 Other market formula: A formula tied to something other
than the hog market or pork cutout, i.e., feed prices.
 Other purchase agreement: Currently this includes window
contracts.
Econ 337, Spring 2012
Percent of U.S. Hogs Sold Through Various Pricing Arrangements, January 1999-2009*
Year
99
00
01
02
03
04
05
06
07
08
09
44.2
47.2
54
44.5
41.4
41.4
39.9
41.8
38.3
37.1
41.2
Other market
formula
3.4
8.5
5.7
11.8
5.7
7.2
10.3
8.8
8.5
11.0
7.9
Other
purchase
arrangement
14.4
16.9
22.8
8.6
19.2
20.6
15.4
16.6
15.2
13.4
11.6
2.1
2.2
2.1
2.4
2.6
6.7
6.1
5.6
16.4
18.1
17.1
21.4
20
22.7
23.1
25.7
16.7
13.5
11.6
10.6
10.2
8.6
9.2
8.1
Hog or meat
market formula
Packer-sold
Packer-owned
Negotiated spot
35.8
25.7
17.3
Source; Grimes and Plain, University of Missouri http://agebb.missouri.edu/mkt/vertstud09.htm
Econ 337, Spring 2012
Contract Specs
Product specifications
PQA, Right to approve inputs
Method of pricing
Which markets and formula
Delivery scheduling
Short and long term
Exemptions
Econ 337, Spring 2012
Types of Contracts
Formula
Most common contract
Price tied to another market, typically spot
No risk share
Examples:
3-Day rolling average of ISM weighted average
+$1.50
Last week’s average excluding the high and low
92% of the previous day pork cutout value
Packer does not share risk
Econ 337, Spring 2012
Types of Contracts
Fixed window
Formula tied to cash price
Predetermined upper and lower bounds
Share pain and gain outside window
Example: $50 and split 50/50 above and below
Floating window
Formula tied to cash price
Boundaries move with feed prices
Do not share outside of window
Packer shares risk
Econ 337, Spring 2012
Weekly Hogs Prices, Cost of Production and Window
$70
$60
$50
$40
$30
$20
$10
Cash
COP
Floating Window
Fixed Window
Econ 337, Spring 2012
J-01
J-00
J-99
J-98
J-97
J-96
J-95
J-94
J-93
J-92
J-91
J-90
$-
Types of Contracts
 Cost-Plus
 Price direct function of feed prices
 Fixed amount for non-feed costs + known margin
 Packer assumes all price risk
 Ledger
 Floor price is fixed or based on feed prices
 Producer is “loaned” the difference between floor and
lower cash prices
 Loan is repaid at higher cash prices
 Packer provides line of credit but not risk share
Econ 337, Spring 2012
Weekly Hogs Prices, Cost of Production and Contract
$70
$60
$50
$40
$30
$20
$10
Cash
Cost +
COP
Ledger
Econ 337, Spring 2012
J-01
J-00
J-99
J-98
J-97
J-96
J-95
J-94
J-93
J-92
J-91
J-90
$-
Contract Examples
Iowa Attorney General
 http://www.state.ia.us/government/ag/working_for_farmers/contracts/index.html
Econ 337, Spring 2012
Motivations for Vertical Linkages
Consumer satisfaction
Moisture enhanced pork
Preference for attributes
Growing interest in safety and
production
Spot market not sufficient
Premiums and discounts
Market access and risk
Econ 337, Spring 2012
Motivations for Vertical Linkages
Traditional IO theory
Avoid market power, reduce price
volatility, technology complements,
minimize transaction costs
Agency theory
Integrate rather than contract to avoid
opportunism and shirking by contract
partners
Econ 337, Spring 2012
Motivations for Vertical Linkages
 Asset specificity
Firms with more significant relationship-specific
investments (RSI) benefit from predictable
throughput and prices
As assets become more specialized, the costs
of using the spot market increases
Costs are particularly high when food safety and
product quality problems occur encouraging
greater process control
Econ 337, Spring 2012
Attitude Toward Marketing Contracts
by Pork Producers with and without
Marketing Contracts
1 = strongly disagree, 6 = strongly agree
With Without
Coordinate slaughter to better meet Industry needs
Have caused lower cash market prices
Producers with contracts have received higher prices
Packers show preference in who was offered a contract
Contracts should be made illegal by Congress
Contracts should be more closely monitored by USDA
Prefer to market all my hogs on the cash market
Econ 337, Spring 2012
3.7
4.2
3.9
3.5
2.7
4.0
3.0
2.9
4.2
3.5
3.5
3.1
4.0
4.1
Summary of Cattle Volume of
RTI – GIPSA Study
Stephen Koontz, John Lawrence, Gary
Brester, Mary Muth, and John Del Roccili
(formerly Beef Team Leader; deceased)
Econ 337, Spring 2012
Marketing and Pricing Methods
 When selling to packers 85% of small producers and 24%
of large producers surveyed used only the cash market
 Pricing methods by size of operation
Large
Small
 Individually negotiated pricing
74%
32%
 Public auction
35%
84%
 Formula pricing
57%
6%
 Four times as many large producers sold cattle on a
carcass weight basis with a grid compared with small
producers.
Econ 337, Spring 2012
Beef producers and packers interviewed
believed that some types of AMAs
 Helped them manage their operations more efficiently,
reduced risk, and improved beef quality.
 Feedlots identified cost savings of $1 to $17/head
improved capacity utilization,
standardized feeding programs
reduced financial commitments to stay full.
 Packers identified cost savings of $0.40 per head in
reduced procurement cost.
 Both agreed that if packers could not own cattle, higher
returns would be needed to attract other investors and
that beef quality would suffer in an all-commodity
market place.
Econ 337, Spring 2012
Packer Purchases
 Using only the cash or spot market
 10% of large beef packers surveyed
 78% of small beef packers surveyed
 While nearly all packers bought some cattle on a live
weight basis, 88% of large packers purchased cattle on
carcass grids, while almost no small packers used this
method.
 Neither the producers nor packers surveyed expected the
use of AMAs to change dramatically in the next 3 years
Econ 337, Spring 2012
Reasons for AMAs
Producers surveyed
The ability to buy/sell higher quality cattle,
Improve supply management,
Obtain better prices
Packers surveyed
Improve week-to-week supply management,
Secure higher quality cattle,
Allow for product branding in retail stores
Econ 337, Spring 2012
Reasons for Cash Only
Producers surveyed
Independence and flexibility,
Quick response to changing market
conditions,
Ability to buy at lower prices and sell at higher
prices
Packers surveyed
Independence and flexibility,
Quick response to changing market
conditions,
Securing higher quality cattle
Econ 337, Spring 2012
What did the analysis of procurement
transactions data show?
 Cash, marketing agreement, and packer-owned
prices similar.
 Auction higher and forward contract lower than
cash prices
 When AMA use increases cash prices decrease:
 10% increase in AMA use (as % of plant capacity) is
associated with a $0.40/cwt of carcass weight.
 10% increase in AMA use is associated with a 0.11%
decrease in cash price.
 Impacts are economically small but statistically
significant.
Econ 337, Spring 2012
What did the packer P&L data show?
 Substantial economies of size (declining average
total costs of slaughter and processing per head)
 Large plants have lower ATCs than small when both
are operating close to capacity.
 For all plants ATCs decline over the whole range of
volumes.
 The representative plant operating at 95% of max
observed capacity is 6% more efficient than when
operating in the middle of the observed range of
volumes and 14% more efficient than when operating
at the low end of observed volumes.
Econ 337, Spring 2012
What did the packer P&L data show?
 Plant costs are lower for those that procure
through AMAs.
 Costs are directly lower -- all else constant.
 Costs are lower because of increased volumes.
 Costs are lower because of less variable volumes.
 Cost savings are approx $6.50 per animal.
 Weighted-average profits for the four largest
companies were -$2.40 per head for packers over
the 10/02-3/05 time period.
Econ 337, Spring 2012
Role for Economists
The information and characteristics that
consumers are demanding may require tighter
vertical linkages.
 Can the spot market provide the nonmeasurable process control for consumers?
 If so, at what cost?
 Who will pay the added costs?
 Will greater control speed consolidation?
Econ 337, Spring 2012
Role for Economists
The great success of formula pricing contracts is
likely to lead to its demise.
Producers want an agreement, but fear thin
markets.
How much volume is needed for satisfactory price
discovery?
Where should it take place?
Who should be involved?
Econ 337, Spring 2012
Role for Economists
Concerns about contract linkages negatively
affecting prices
Research is inconclusive on price impacts.
Thin market implications.
Arguments have been greater in the
industry where there is less contracting.
Politically charged debate.
Econ 337, Spring 2012
Summary
Marketing contracts are common in hog
market
Most common is tied to dwindling cash
market for price discovery
Less common but widely used in fed cattle
marketing
USDA GIPSA has proposed rules that will
restrict and possibly prohibit use of
contracts
Econ 337, Spring 2012
Class web site:
http://www.econ.iastate.edu/~chart/Classes/econ337/
Spring2012/
Have a great weekend!
Econ 337, Spring 2012