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Cattle Transition Part Two: Cow/Calf Caution

Cattle feeders aren’t the only ones who have seen price adjustments as production ramps up. Calf prices – including seedstock – have moved in lock step with fed cattle prices, narrowing cow-calf margins as well.

“I think margins will get tighter faster than anyone thought they would,” said Jay Wolf, a member of the third generation at Wagonhammer Ranches, Bartlett, Neb., a family-owned business that’s been in operation more than 100 years. “Everyone manages costs even in good times, but in this environment, some equipment acquisition might be put off for a time.”

University of Nebraska economists have run 2016 budgets for several sizes of operations in several locations, employing data from a survey of producers. Their conclusion confirms Wolf’s observation: Profits have declined compared with 2015 in every budget group.

Lower revenue is a primary cause, as it has dropped 65 percent to 74 percent year-over-year. However, increases in feed costs also contributed to the squeeze in three of four budgets the economists ran. With a cost increase of $251/calf, the budget for 500 cows in the Sandhills showed the greatest bump. This was due to strongly higher grazing lease costs.

Sandhills also saw the largest decrease in profitability – a substantial $916/calf, from a positive $492 last year to an estimated $424 loss this year.

“Lower cattle prices and higher feed costs explain all but $19 of this decline,” according to Roger Wilson, University of Nebraska budget analyst.

In fact, he reports that a 750-cow budget, representative of the Central Agricultural Statistics District in the state, is the only one with a positive profit for 2016 – $218/calf, a $562 decline from last year’s $780.

“Budgets for ranches that rely primarily on owned grazing land may still show substantial profits given the current price structure, if they are not including an opportunity cost for grazing land,” Wilson said. “It may be that the profit is a return on land investment rather than profitability of the cow operation.”

However, Jim Van Kirk, vice president of credit at Frontier Farm Credit, observes that an unprecedented number of good years has generally left cow-calf operations in sound financial condition.

“We expect the price impact of bigger calf and beef supplies to continue and even accelerate in the next few years,” he said. “The higher grazing cost is a significant factor that may need to be adjusted going forward.”

Pasture outlook for 2016

With the exception of California and the Southwest, the United States has started the growing season with very favorable pasture and forage conditions. Only 10 percent of total acres were rated poor or very poor, down from 13 percent last year and a five-year average of 21 percent. The Great Plains, at just 8 percent poor/very poor, and the Western region, at 12 percent, have seen the most improvement, while the Southern Plains and Corn Belt are about even with last year.

The Climate Prediction Center’s three-month outlook for May to July promises additional moisture across the southern half of the United States, before the June to August and July to September outlooks shift to neutral — equal chances of above, normal or below rainfall.

Cow market

As producers adjust to existing and expected lower cow-calf profits, beef cow slaughter is up 4 percent from last year’s levels, while dairy cow slaughter is level, bringing total cow slaughter to about 1 percent over 2015. Bred cows averaged $1,350 to $2,100 in western markets and $1,600 to $2,350 in the Midwest in April; bred heifers, $1,550 to $2,100 in the West and $1,700 to $2,300 in the Midwest; and pairs, $2,000 to $2,500 in the West and $2,100 to $3,000 in the Midwest.

Market cow prices have been quite disappointing, near 91 on CattleFax’s Seasonal Utility Cow Price Index, compared with 104 last year. CattleFax expects cow prices to be flat through spring and summer, in the $70s/cwt. range, dropping to a fall low in the $50 to $60 area.

Hence, the balance is swinging from producers facing a decision between keeping cows to produce another high-priced cow versus selling for a good slaughter price to a decision of keeping for a lower-priced calf for selling for a lower slaughter price.

Wolf expects that in areas such as Nebraska, which remained fully stocked through the liquidation, the decision will be steady as she goes. In areas such as Oklahoma and Texas, where drought forced cattle off the land, additional herd rebuilding is more likely and replacements have gotten more reasonable.

Seeking Efficiency

“In this part of the cycle, it is even more important to know your cost of production at every level of production,” said Jud Jesske, Frontier Farm Credit vice president, agribusiness lending. “It’s a time to make decisions geared to boosting efficiency.”

Main measures that separate high-profit from low-profit operations include calf-crop percentage, weaning rate, calving interval and weaning weight.

An increase in the percentage of cows successfully bred and delivering a calf will have a large impact on profitability. Reducing calf loss will have a similar impact.

The more calves for sale, the more the income and the less expenditure without return on investment. A study from the University of Georgia identified 85 percent as the level required to meet production expenses, on average; 90 percent is considered a well-managed herd. And a goal of a 95 percent calf crop during a 60-day calving season is a target that can be reached, according to Ted G. Dyer, Extension animal scientist at the university.

The chart below illustrates the impacts of percent calf crop and average weaning rate. For instance, if a ranch has a weaning rate of 85 percent and weaning weight of 500 lb., over all cows in the herd, that would be equal to 425 lb. per cow. At 90 percent, pounds produced increases to 450 lb.

Pounds of Calf Produced per Cow

SOURCE: UNIVERSITY OF GEORGIA

An improved calving interval not only means less cow downtime, but the more calves born on the early end of the calving season, the more pounds there will be at weaning. For instance, a calf born 15 days earlier will weigh about 30 lbs. more if one assumes a 2- lb.-per-day rule of thumb for gain.

One recent survey found a 50 lb. difference in weaning weight between high-return and low-return producers. At last year’s prices, that would have been about $125/calf in added return.

“We expect several years of tighter margins and Frontier Farm Credit is looking at all options to help producers get through this challenging time,” said Jesske. “It may be early to say this, but at times, that means looking beyond cash-flow and considering restructuring loans to provide working capital or even considering different business models.”

Transition Time for the Cattle Business: Part 1, Feedlots

Cattlemen are experiencing both long- and short-term effects of the transition to more beef production.

“The feedlot business has really seen a boom–bust move over the past few years,” said Jay Wolf of Wagonhammer Cattle Company, part of a diversified Nebraska ranching business that has been family owned for more than 100 years. “At our Albion feedlot, we often own animals for more than 12 months. We thought that sometime during that period we’d see an opportunity to at least lock in breakeven but that has not occurred.”

Looking at the most recent move, June fed cattle prices, which had traded in the $132/cwt. area in mid-March, fell to $114 in late April before more recently improving to $122 to $124. Negative price action in April took many by surprise since it came during a month when prices usually trend higher, before dropping to summer lows (see seasonal price chart).

Choice Steer Chart
The reason: Slaughter picked up before grilling season demand was able to do so. The last two weeks of April saw steer/heifer slaughter near 590,000 head/week – more than any other week since August 2013 – and the month’s total was 6 percent over a year earlier. Analysts had expected numbers to be flat or lower compared with last year. A fairly large kill is expected to continue through May.

Packers had seen their bottom line move into the black and encouraged pulling sales forward to take advantage of April futures being sharply discounted to cash prices. That now has reversed because they were forced to discount boxed beef prices to move product.

The good news is the industry now is current. As the USDA’s May 12 data in the chart below show, weights now have fallen to 2015 levels. Given the seasonal pattern, it’s likely they’ll begin heading higher again in the next few weeks.

Weekly Steer ChartRetailers are well stocked and should have enough beef to run features through May, fueling up grills as Memorial Day approaches, albeit six days later than last year.

“The big question for the short-term now is whether beef demand will be sustained after the holiday,” says Steve Meyer, coauthor of The Daily Livestock Report.

With recent high numbers moving, fed-cattle supplies are projected to slide lower into July. In this month’s Cattle on Feed report, cattle on feed 150 days or more are projected to be 14 percent below last year, according to Steve Kay of Cattle Buyers Weekly. CattleFax estimates a reduction of just 1 percent. This could lead to contra-seasonal price strength during June (see seasonal price chart), some analysts believe.

In addition, beef supplies in cold storage are being drawn down: In its April report, USDA reported inventories dropped 5 percent from the prior month and were down 10 percent from two months earlier. Compared with a year ago, there was 3 percent less on hand at the end of March than a year ago and a half percent less than the five-year average. Lower imports are helping reduce available supplies.

Demand side

Not only are we entering a seasonally stronger time frame for beef, but exports are showing signs of improvement as well – especially in Asian markets such as South Korea and Taiwan, where volume in the first quarter jumped 25 percent and 20 percent above the same time last year. Our long-term top market, Japan, boosted purchases by a more modest 9 percent from a year ago. First-quarter exports to Canada fell 9 percent and to Mexico, 14 percent, mainly due to exchange rates.

“Exports are critical to beef producers,” said Wolf, “And the last year or so was frustrating, both because of the strong dollar and the fact that Australia was able to negotiate lower tariffs in Asia, putting the United States at a disadvantage. It is encouraging to see some improvement in 2016, but the beef industry really would like to see the Trans-Pacific Partnership signed into law.”

What’s Next

The earlier-than-expected downturn created some potential for producers to lock in breakeven or even a small profit on the next turn of cattle, noted Adam Wacker, Frontier Farm Credit vice president, credit – beef industry.

“By at least one profit estimate, cattle put on feed in the second week of May had a projected breakeven of about $116/cwt. and the futures price for when they leave the feedyard in mid-May was about $118/cwt., implying some profit potential, subject to basis at the time of sale.

Click to read Part two in the series on Cattle Transition: Cow/Calf Caution

The Perfect Storm

The inverse thrills of the past year will be remembered by many livestock market participants. Cattle, hog and poultry producers all had their share of adversity and resulting market turbulence.

Avian influenza ran riot through turkey and egg houses and pork producers saw a slingshot effect that carried production to record levels and prices to four-year lows as output more than recovered from the 2013-14 bout with porcine epidemic diarrhea virus. Fed-cattle prices set new records on short supply only to plunge by $21/cwt. in the course of six weeks, a magnitude of loss for that length of time exceeded only in 2004 – during the mad cow crisis. Even dairy producers saw market volatility.

“The livestock industry experienced back-to-back extremes,” said Jud Jesske, Frontier Farm Credit vice president of agribusiness lending with an emphasis on beef producers. As can be seen in the chart below, weekly total meat production swung from as much as four percent below a year earlier during 2014 to better than 6 percent above in 2015.

Weekly Beef, Pork, Broiler Production

The strong dollar doesn’t help. Based on USDA’s agricultural trade-weighted index, USDA’s index began its upward sprint in August 2014. By the end of the year, it was 10 percent above a year earlier. While foreign exchange rates are far from the only factor affecting exports, it is widely agreed that a strong dollar makes U.S. products more expensive in global markets.

The Strong Dollar provides headwinds for exports

Data: USDA/ERS

Total U.S. meat exports plummeted beginning in May 2015 (see chart below), and the 2015 total is estimated to be down 1.3 billion pounds from 2014, bolstering domestic supplies by a like amount, according to CattleFax  That is the largest one-year drop, with the exception of 2004 in the wake of bovine spongiform encephalopathy.

US Total Meat Exports

From May 2015 to October 2015, beef exports slumped by more than 30 percent to their lowest level in 20 months. Pork exports recovered from the plunge seen during the trough in supply due to PEDv. But in November 2015, they fell 18 percent below the same month in 2014. Broiler meat exports also have slipped by almost a quarter from year-ago levels.

Cheap corn = more meat

Adding to the supply, production rose dramatically as both cattle and hog weights climbed. Combined with slower exports, the net meat and poultry supply in the United States increased nearly 4.5 billion pounds from 2014 to 2015, the largest yearly increase in almost 40 years. Looking at the past decade, meat supplies rose from the third smallest in 2014 to the largest in 2015.

“Many of our customers felt the effects of the disease outbreaks and the resulting market gyrations,” says Marshall Hansen, vice president of Frontier Farm Credit Agribusiness Finance (ABF). “However, volatility is a fact of life in agriculture. And while it was exceptionally high in 2015, most of the operations we work with were in a good position to deal with it.”

Several ABF customer operations hit by the deadly bird flu HPAI H5N1 lost months of business and were forced to lay off employees, but are now rebuilding flocks. Case Gabel, a young Nebraska cattle feeder, notes that “cattle equity swings on a weekly basis have been unprecedented. But forward crush margins are as healthy as we’ve seen in several years and futures and options allow us to minimize financial risk.”

As the year drew to a close, the market looked as if it might improve following the quarterly hogs and pigs report and monthly cattle on feed report, both of which indicated slightly tighter supplies than were expected. Heading into 2016, we will share additional insights into each of the livestock markets, beginning with the impacts of HPAI.

Third Quarter Commodity Review

A snapshot of market forces and current expectations, excerpted from our third quarter financial results for 2015:

GrainThe margin outlook for most crop producers continues to look challenging for the next several years with most forecasters projecting corn and soybean prices to be at or near break-even levels for the average producer. Yields for producers in the Western Corn Belt appear to be above average for most of the crop acres in our territory.

Young TurkeyThe Avian flu that hit the egg and turkey industries in the second quarter resulted in the death or depopulation of approximately 35 million Midwest egg laying hens, decreasing average monthly hen inventories from 300 million in April to 269 million in June, the lowest inventory level in over 10 years. There have been no further outbreaks in 2015 and adversely impacted egg and turkey producers have begun repopulating inventories. However, the potential resurgence of HPAI in the fall from migratory birds returning south represents a risk to the poultry industry in the United States, prompting producers to make bio-security improvements and review potential vaccination strategies. Based on low egg layer inventories, delayed repopulation at HPAI infected sites and seasonal holiday demand, egg and turkey prices are expected to remain high through 2015.

CattleDuring the third quarter of 2015, fed cattle prices declined by $30 per cwt., which represents an approximate 20 percent decline. Feeder cattle prices also declined by $40 to $60 per cwt., a similar percentage decline. This market movement was caused by a larger supply of beef as demand has declined and supply increased. Contributing factors included large numbers of market ready cattle at very heavy weights, competing proteins at lower prices, and a decline in exports related to a strong U.S. dollar. This cattle price decline will result in lower profits for calf producers compared to a year ago, but most calf producers will remain profitable. Cattle feeders will likely experience losses on current inventories that were not covered by contracts or other risk management strategies. In the case of both calf producers and cattle feeders, most producers experienced exceptional profits during 2014 and have retained significant risk bearing capacity going into this market correction.

FarmlandLand prices and demand for farmland have moderated in our territory. Reduced commodity prices compared to previous years has led to some uncertainty and 2015 harvest results could play a key role in future land market values. Lower commodity prices and decreased margins are putting pressure on cash rents and overall land prices.

Click to view full Q3 financial report.

Note: As stated in our third quarter financial report for 2015, current expectations are subject to uncertainty and changes in circumstances. Actual results may differ materially from expectations due to a number of risks and uncertainties.