Tuesday, April 7, 2009

What Influences Class III Milk Prices? Only One Commodity!

The formulas for 2009 milk pricing are listed on the USDA site. Click on the link and it looks complex. Let's simplify it.

Two thirds of the dairy cows in the U.S. (~ 6M cows) are paid on the component system, so let's concentrate there.

There are only three underlying variables in all those equations - cheese, butter, and dry whey prices. How do variations in the price of these three processed commodities impact the milk check?

Below are three graphs that show how variations in these commodities cause the Class III milk price to vary. In each graph below, two of the variables are kept constant and only one is varied. The butter, dry whey, and cheese prices are varied over their normal ranges.

The butter price has almost no impact. When the price of butter goes up, the value of butterfat goes up, but the value of protein goes down! They are almost equally offsetting. The impact on Class III milk price is insignificant.

When dry whey prices increase, the milk check increases. But whey has such a small value that the impact on the milk check is minimal.

However, when the price of cheese goes up, the milk check gets really interesting!

It's not hard to see that only one commodity matters - cheese price. If you boil the Class III milk price formula down to it's simplest form, it looks like this. (I've rounded the numbers to make them more readable.)

Class III Milk Price = 9.6 x Cheese Price + 5.9 x Dry Whey Price + 0.4 x Butter Price - $3.17

The standard Class III formula assumes 3.1% protein, 3.5% fat and 5.9% other solids.

Combine the above with the cheese price impact on somatic cell count adjustment value (see the March 31 post to this blog) and it becomes clear that for two thirds of the cows in the U.S. , a producer's income is tightly linked to the price of cheese.

The impact is big enough that when cheese prices are high, a lot of operational shortcomings can be "covered". However, when cheese prices are low, it's tough for even the best operations to cash flow positive.

What influences cheese prices? Find out in an upcoming post to this blog.

Some comments please!

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