Market Advisor

Drought Economics – Part II

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The optimum drought strategy depends on where we are in the cattle cycle. The 2012 drought is projected to carry a significant negative impact due to its occurrence during record calf prices.

Last month, I summarized my producer educational programs in past droughts. The key lesson I learned from those droughts was that the optimum drought strategy depends on where we are in the cattle cycle. What is an optimal drought strategy for one drought may be sub-optimal for the next drought.

This series of drought strategy articles is focused on the “depopulating” decision; that is, the selling of animals from ranch ownership. I’ll leave “destocking” recommendations up to range scientists.

Depopulating a herd isn’t just a drought-year decision. Due to the associated “repopulation” decisions, it’s a multi-year economic decision. In fact, the economic impact of drought depopulation will impact a ranch for 7-10 years.

Depopulation has two categories of costs – visible and invisible costs. Visible costs are based on selling cows at fire-sale prices and replacing them later at inflated prices. Invisible costs are the hidden costs of not having as many calves to sell in future years. The invisible costs often exceed the visible costs.

In studying the 2006 drought, I developed a 10-year computer simulation model that generates 10 annual net cash flow projections for any study herd. I also developed a producer/client input form for a specific herd’s production parameters.

I start by projecting the study herd’s net cash flow for the next 10-year period without a drought. This is the control run. I then incorporate different depopulation/repopulation strategies one at a time into the model and compare the new 10-year net cash flow projections with the control run. This comparison to the control run gives me a projection of the economic impact of each drought depopulation/repopulation strategy.

The biggest challenge in identifying the optimal depopulating strategy is projecting the economic parameters of the current cattle cycle. Figure 1 presents my current long-run planning prices for selling steer calves at weaning.

planning prices for weaned steer calves

Note that the planning prices for 2011-2016 are record-high, which reflects the current low number of beef cows in the national beef cowherd. The prices for 2017-2020 calves are predicated on a substantial buildup of the national beef cowherd. Clearly, the impact of the 2012 drought is projected to occur at the peak of the current price cycle.

A second economic challenge is to develop a set of long-run cull-cow prices. Figure 2 presents my suggested long-run cull-cow prices.

suggested cow culling planning prices

projected purchase prices of bred heifersFigure 3 summarizes my suggested bred heifer purchase prices. I fully expect bred-heifer prices to get stronger in 2013 and 2014 as the nation’s beef cowherd is rebuilt. Beyond that, there will be less expansion pressure.

My simulation model takes the study herd’s parameters from the year before the drought – 2011– including the Jan. 1 inventory numbers and the herd’s production parameters. It uses this data to set up dynamic herd parameters for the next 10 years. These parameters are combined with the long-run planning prices to generate 10 years of annual cash flow projections.

My example herd is a mature herd running 250 cows/year and maintaining that head count by keeping replacements. The steer calves and the remaining heifer calves are sold at weaning.

Figure 4 presents the inventory and beginning production parameters for the example herd during the 2011 base year. This is a 250-cow herd with an 82% calf crop that weans an average of 550-lb. calves. Calf death loss is 4% for mature cows and 0% for bred heifers. As of the Jan. 1 inventory, cull rate on mature cows is 17%, and 18% for exposed heifers.

inventory and production parameters for example cowherd

Figure 5  presents the example herd’s calf sales data and the herd’s cash production costs for the base year (2011).  The production costs for the base year are adjusted for the 10-year planning period. For example, cash feed costs per cow were inflated 2% compounded annually for the 10-year simulation period. Meanwhile, livestock costs, fixed costs and pasture costs weren’t inflated for this study herd.

calf sales & cash production

Figure 6 presents the cash flow summary for the example herd’s control run showing annual summaries and 10-year accumulated totals. The control run was made under the assumption of normal rainfall and a static herd of 250 cows.

Figure 6 summarizes cow sales, calf sales, cash costs, net cash flow for the herd, net cash flow per cow, gross income per cow and gross income per herd. The bottom line shows the 10-year accumulated totals except for the two “per cow” columns. These 2 columns present the 10-year/cow average.

Figure 7 summarizes the annual net cash flow (Figure 6, yellow column) for the study herd under the assumption of normal rainfall. Each red bar represents the projected annual net cash flow for the example herd. Years 2013-2015 are projected to be the largest net cash flow years.

The projected net cash flow is quite dynamic. First, the five years from 2011 through 2016 reflect record-high net cash flows. Beyond 2016, I project a drop in net cash flow after the national herd buildup during the 2013-2015 years.

The control run’s projected 10-year accumulated net cash flow is $453,132, which averages to $45,313/year or $182/cow/year average net cash flow.

Note where the 2012 drought impacts in the projected net cash flow 10-year pattern (Figure 7). The 2012 drought is projected to carry a significant negative impact due to its occurrence during record calf prices.

Typical 2012 drought depopulation strategies will reduce the number of calves to sell during these 2012-2015 record calf prices. Unfortunately, I project that the invisible cost of the 2012 drought – that is, the calves not sold in future years – will be record-high. My key point is that these high invisible costs would buy a lot of feed to get you through the 2012 drought without depopulating.

Next month, I’ll discuss detailed net cash flow projections for some traditional depopulation and repopulation strategies. 

Harlan Hughes is a North Dakota State University professor emeritus. Reach him at 701-238-9607 or harlan.hughes@gte.net.

Discuss this Blog Entry 1

Joe C. Paschal (not verified)
on Dec 11, 2012

I totally agree with your results. If you can cash flow the purchases and not pay a lot of interest (and find the feed) now is not the time to depopulate!

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Harlan Hughes has spent a professional lifetime helping U.S. beef producers better manage the business end of their beef cow operations.

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Harlan Hughes

Harlan Hughes is a North Dakota State University professor emeritus and author of the monthly "Market Advisor" column that appears in BEEF magazine. He also consults and lectures widely,...

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