Farm Decisions Related to rbST Use in Michigan
Dept. of Agricultural Economics
For the past couple of years, an increasing number of retailers and, thus, processors and cooperatives have moved away from use of milk from cows given recombinant bovine somatotropin (rbST). The movement started in 2005 with Tillamook Cheese in Oregon which required producers to supply milk from cows not given rbST (“rbST-free”). The trend then spread to the Northeast US and more recently to states such as Michigan. Kroger and other retailers first approached cooperatives that market milk in Michigan (and more generally in the Mideast Federal Milk Marketing Order (FMMO)) about supplying rbST-free milk in 2006. Recently, these Michigan retailers demanded that all of their fluid (beverage) milk sales be rbST-free by February 1, 2008. Meeting this demand requires dairy producers currently supplying Michigan fluid markets to cease rbST use no later than January 1, 2008.
Current rules require cooperatives to qualify a certain amount of milk into the Class I (fluid) market in order to keep all milk which that cooperative sells qualified to earn the FMMO pool value. Thus, when fluid buyers requested rbST-free fluid milk supplies, cooperatives had little choice. To qualify all their milk in the FMMO and share in the total FMMO pool value, the cooperatives decided to provide the retailers with rbST-free Class I milk. Even though the Mideast Order-wide Class I utilization has averaged about 35 to 40 percent in recent years, the cooperatives cannot simply convert that percentage of their total production to rbST-free status. The average Mideast Order utilization ignores important time and space considerations in the Class I market. Class I utilization changes by large amounts over the year and even within a week depending on market conditions. There are periods when Michigan cooperatives send 75 percent or more of their milk production to Class I use when retailers run sales promotions. With no way to predict these market movements and economically segregate milk supplies to meet Class I demands, cooperatives have little choice but to supply all or predominantly rbST-free milk.
Cooperatives in Michigan have chosen somewhat different approaches to implement the change to a rbST-free fluid milk supply. Michigan Milk Producers Association (MMPA) decided all members should become rbST-free to efficiently and effectively serve the fluid milk market in the region. MMPA members who choose to continue to use rbST will receive the Class III price rather than the uniform pool price for their milk. This decision reflects the fact that milk from cows supplemented with rbST will not be eligible to service the Class I market. Dairy Farmers of America (DFA) decided that the cost of finding a market for milk from cows given rbST will be borne by those producers. Those producers may potentially lose volume, quality, and over-order premiums and perhaps incur extra costs. However, the actual value of losses or cost increases will depend upon how much rbST-free milk is supplied and the market dynamics. Thus, the higher the quantity of milk produced with rbST, the larger the cost and price penalty on that milk will likely be. DMS, which also market milk produced by Michigan farms, recently mandated that their supplying farms be rbST-free for the Michigan fluid milk market effective February 1, 2008. Foremost Farms’ program is similar to MMPA’s in that producers using rbST will receive the Class III price and may have increased hauling costs to find a suitable processing plant.
This article is aimed at supplying information to assist dairy producers in evaluating the decision to continue using rbST or not, and how to proceed if the decision is to cease use. Because revenues and costs are farm specific, a budgeting approach is discussed with the intent that dairy farmers will substitute their own values for analysis and decision making.
Economic Implications of Discontinuing rbST
A partial budget approach can be used to evaluate the decision to discontinue the use of rbST or not. Partial budgeting examines only the changes from the management decision. In this case, the status quo is using rbST and the alternative (challenger) is discontinuing use. We assume that anyone not currently using rbST will not choose to begin using the technology at this time.
Partial budgeting groups the revenue and cost changes and calculates the net difference. The revenue and cost changes one might expect from discontinuing rbST are in Table 1 and discussed in detail below. The net effect is (A + B) – (C + D). To be clear, the analysis and decision is only for dairy producers currently using rbST. The management change being evaluated is whether to begin producing rbST-free milk for a year beginning February 1, 2008 (i.e., as of January 1, 2008 no rbST will be used in the herd). Those farms that stop use will receive a higher milk price for all of their milk, but forego the profit available from the additional milk that could have been produced with rbST during that period.
Discontinuing the use of rbST will entitle the farm to an additional over-order premium. Michigan cooperatives were given a commitment for a 75 cent/hundredweight (cwt) premium to provide rbST-free milk for the Class I market for a 1-year period. This money will be part of the over-order premium. It will be weighted by the Class I utilization resulting in approximately 25 to 30 cents per hundredweight. When this premium is added to the existing over-order premium of about 10 cents, the total over-order premium for rbST-free milk would be about 40 cents per cwt.
The other milk price implications vary by specific cooperative. Because the MMPA decision is more transparent, we examine that case. MMPA decided herds that continue using rbST will receive the Class III milk price plus any quality and volume premiums. In contrast, MMPA herds not using rbST after the deadline will continue to be paid the producer price differential (PPD) from the FMMO as well as the over-order premium. The PPD is the pool value in excess of Class III price. In some years, the average PPD is quite small. In fact, when Class III prices increase rapidly as they have in 2007 (and did in 2004), the PPD can even be negative in some months.
Figure 1 presents the PPD from the Mideast FMMO from January 2000 through July 2007 with a projection of the PPD for the remainder of 2007 and 2008. The year in question is 2008 as farmers will necessarily stop using rbST by January 1, 2008. Coming off the record high prices of 2007, the PPD is expected to be higher in 2008. The average PPD for the Mideast FMMO over the approximately last 7 ½-year period (2000-July 2007) was about $0.70/cwt with a maximum of $3.34/cwt and a minimum of $-3.78/cwt. A negative PPD occurs in times of rapid increase in the Class III price as occurred in 2004 and again in 2007. This will likely not happen in 2008 as current high milk prices are expected to continue for a few months before declining. Current futures prices predict a Class III price above $15/cwt for all of 2008. The Class I price calculation uses the higher of Class III or IV price from the previous month; thus, the Class IV price may drive Class I prices for a period in 2008. If this is the case, then the PPD will be large. Using current futures prices, the predicted PPD for the Mideast Order is $1.75 to $2.00/cwt for calendar year 2008.
Thus, by discontinuing the use of rbST, the total increase in revenue from both the added over-order premium plus the estimated PPD for 2008 is $2.10 to 2.40/cwt on all milk produced. In an attempt to be conservative in the example below, we use $2.00/cwt (Table 2).
Discontinuing rbST use also results in decreased costs. The most straightforward cost savings is the cost of rbST itself. Cost is $5 to $6 per dose that is given every 2 weeks. Thus, the cost savings is about $0.40/cow per day.
Other costs saved include labor for giving the injection, feed to produce the additional milk production, labor for supplying additional feed and longer milking time each day, milk marketing costs, milk hauling costs, and utilities (energy for milking and milk cooling).
The feed cost savings are a function of feed price and the amount of feed required to produce an additional pound of milk times the additional quantity of milk produced resulting from use of rbST. National Research Council (2001) guidelines indicate that it takes 0.48 pounds of ration dry matter (DM) to produce each pound of milk when maintenance needs already are met. In this example, feed cost is estimated as a function of corn, hay and soybean prices. Prices used were $3.25/bushel for corn, $110/ton for hay, and $8/bushel for soybeans which may reflect the feed price outlook for Michigan in the next year. Dairy producers should use their farm-specific ration costs when doing their own budget analysis and decision making.
In the example herd, we estimate that milk production declines 10 pounds per cow when rbST is discontinued. Using the above feed cost estimates results in a $0.26/cow per day feed cost to produce 10 pounds of milk with rbST.
Labor is saved from not giving the rbST injections, not supplying the feed and handling the manure, and eliminating additional milking time required to harvest the additional milk produced with rbST. Assuming $10/hour to give the injection, multiplying by the expected time to inject gives the cost per injection. The time to inject includes time to get the rbST, sort and lock-up cows, give injections, and dispose of the syringes. For example, if it takes an average of 2 minutes per cow, this translates to $0.33/cow for a dose that is given every 2 weeks. In addition, the labor to feed, milk, and handle manure in the 2005 Michigan Farm Business Analysis Summary averaged more than $2.00/cwt. Producers should use their farm-specific costs when doing their own budget analysis and decision making.
Milk marketing and hauling costs are direct functions of the amount of milk produced. The average from the 2005 Michigan Dairy Farm Business Analysis Summary was $0.82/cwt (note that hauling costs rose in 2006 so this may be a low value). In addition, while we are ignoring the potential for increased hauling costs if a herd remains on rbST, it is possible that hauling costs will be even higher if the milk has to be moved longer distances to find a market. Producers should use their farm-specific marketing and hauling costs when doing their own budget analysis and decision making.
We might also expect other variable expenses to decrease with the decline in production. Some rbST budgets recognize only rbST cost, feed cost and a very small charge for labor to give the injection. This assumes there is no additional cost of, for example, hauling and distributing additional feed, increased time required for milking, and increased electrical costs for cooling more milk. Although small, these costs are real. However, if one is comfortable with the assumption that these costs are trivial, they may perform the analysis including only the major costs.
The decline in revenue includes the lost additional milk production with bST use multiplied by the value of that milk. The value will be the Class III price plus any premiums but not including the PPD. Accounting for the expected PPD plus the rbST-free over-order premium, the value of milk with rbST is expected to be about $2.00/cwt lower.
The quantity of milk produced is the number of cows given rbST times the average milk production response. Use according to the label can begin after 9 weeks of lactation. First lactation cows are very persistent to begin with and respond less than older cows so they are often not treated. Previous research indicates an average response of about 8 pounds per cow but there are reports of 10 or 12 pounds per cow on average. In our example, we use 10 pounds per cow to avoid underestimating the effect of rbST. Farm-specific information should be used for an actual analysis.
There are not necessarily any increased expenses from discontinuing rbST. One increased expense might be an increased cull rate if the dairy has been using rbST in conjunction with extended lactations. In this case, the farm will have increased cull rates as it lowers the calving interval (the non-rbST average production per cow will increase as the calving interval declines). The cost of the increased cull rate will depend on cull and replacement prices as well as how much the calving interval declines.
Example Herd Calculation
While dairy producers should use their own revenue and cost values to do their actual analysis and make this decision, an example calculation is in Table 2. The example farm milks 200 cows each day of the year. The assumption is that discontinuing the use of rbST will not result in a change in milking herd size in this example. Seventy percent of the cows (140) were on rbST each day of the year, given according to the label. This is a high percentage of cows treated and many herds will have a smaller percentage as not all eligible cows are treated. In the example, response to rbST is estimated to be 10 pounds per cow per day. This herd expects average daily milk production without rbST to be 58 pounds. Milk value for 2008 is expected to be $17.50/cwt without rbST (with all premiums plus the PPD) and $15.50/cwt with rbST. The $2.00/cwt difference—rather than the milk price itself—is the key in this analysis and decision.
In the example, even with fairly conservative estimates of costs and a substantial milk yield response for those cows receiving rbST, the analysis and decision are clearly to discontinue the use of rbST. The key aspect of this decision is that, while rbST is profitable under the assumptions above, using rbST means that the producer foregoes $2.00/cwt for ALL milk production, not just the additional milk produced using rbST. With all other factors equal in the example, any milk price difference more than $0.56/cwt will result in a gain when rbST is discontinued.
The decision is not particularly sensitive to the specific cost assumptions used above. Even with only rbST and feed costs included, the net gain from not using rbST is still $38,781 for the year.
Even after a dairy producer has decided to go rbST-free, there are still decisions to be made. These include whether to start newly eligible cows on rbST in the meantime and when to stop (they would not be administered rbST after January 1, 2008).
There is little scientific evidence, but conventional wisdom holds that treated cows will revert to their unadjusted (non-rbST) lactation curve when they are taken off rbST. If this is correct, it means that there is little penalty to putting cows onto rbST for a period and then discontinuing it when the price differential takes effect. It takes about 4 weeks for cows to fully respond to rbST so it may not pay to put cows on rbST after December 1, 2007 with a stop date of January 1, 2008. Milk prices are near the historic highs so discontinuing rbST prior to December for cows currently on rbST is likely not economically desirable. This decision also may be affected by existing farm inventories of rbST and the individual farm situation.
According to DHI records from Dairy Records Management Services, about 25% of cows are beyond 300 days in milk. Cows beyond 300 days, given rbST and not pregnant are candidates to be culled when they come off rbST. If the number of these cows is large in a herd, it could temporarily depress cull cow prices. However, beef prices are strong so this price depression may not be large.
Because milk marketing cooperatives must qualify a certain quantity of milk into the Class I market in order to have all of their milk eligible for the Mideast Federal Milk Marketing Order, they were very responsive to the demand for rbST-free milk to service the Class I market. Even with the conservative calculation illustrated in our example, it did not make economic sense to continue rbST with the large revenue implications that the decision entails. With the example (Table 2), dairy farmers can do a farm-specific analysis with their actual costs and revenue values.
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