How to Increase Milk Revenue and Profit

This subject will be covered in two parts.  The first will deal with FMMO pricing and market movements.  The second will deal with how a producer can improve his income.  Because both subjects are linked, and are also a little complicated, they will be separated in two consecutive posts.

The first part, which will be covered below will explain why high butter prices are not much of  a benefit to producers. The second part, to be posted next week will show how a producer can improve his income and profit with changes he can control.

There is a lot of publicity in the dairy news as to how the current high butterfat prices are making a big contribution to the milk check.  In fact, while high butter prices can help a little, the key word is little.

The FMMO price formulas vary in their complexity.  A simple formula like the conversion of butter prices to butterfat prices is pretty simple.  The National Agricultural Statistics Service (NASS) does a through sampling of butter prices and averages them for the entire United States.  By the formula below, the butter price is converted into the butterfat price.   The "make allowance" ($.1715/lb. in the formula) is an estimate of the cost to churn butter from butterfat.   The cost of butter less the make allowance is then adjusted by 1.211 to recognize that there is more than butterfat in butter.   The primary added ingredient is water.

Butterfat Price = (Butter Price − 0.1715) x 1.211  

The most complex formula is for milk protein.  The first part of the formula below, ((Cheese price - $.2003) x 1.383), mirrors the formula converting the butter price into the butterfat price.  However, the rest of the formula is a little more difficult to understand.  It is easiest to explain this part of the formula, ((((Cheese Price − 0.2003) x 1.572) − Butterfat Price x 0.9) x 1.17), when cheese prices are higher than butter prices.

Protein Price = ((Cheese Price − 0.2003) x 1.383) + ((((Cheese Price − 0.2003) x 1.572) − Butterfat Price x 0.9) x 1.17)

The second part of the formula gives credit to price of milk protein when the butterfat is more valuable when it is in cheese, not butter.  In other words, if butterfat is worth $1/lb. when used for butter, but when that butter becomes a part of cheese, it is worth $1.50/lb.  That incremental $.50/lb. is given to the value of milk protein for its impact on making the butterfat more valuable.  The rationale is that cheese cannot be made without milk protein. which is coagulated to capture the butterfat and not let it pass through the cheese cloth.

However, when butterfat is worth more in butter than it is in cheese, that "adjustment" becomes a big negative.  Currently, butterfat is worth more in the form of butter than it is in the form of cheese.  As a result, as the butter price goes up, butterfat goes up in value and milk protein goes down in value.  As an extreme example,  if the cheese price was $1.20/lb. and the butter price was $2.80/lb., the value of milk protein would become negative.

There is more information on the impact of the FMMO formulas in this prior blog post.

As another example, the table below shows the Class III price change when the butter price doubles and when the cheese price doubles.   When the butter price doubles from $1.50/lb. to $3.00/lb., it changes the Class III price by only $.62/cwt.  However, when the cheese price doubles from $1.20/lb. to $2.40/lb., the Class III price increases by $11.60/cwt.  When the price of butter escalates as it has done recently, it primarily increases the value of butterfat and lowers the value of milk protein, but has very little impact on the Class III price.

Table I - Changes in the Class III Price Caused by Changes in the Price of Butter and Cheese

The two charts below show the price of butter and cheese over the last 17 years.  The run-up in the butter price over the last five years has increased the butter price by a little less than $1.00/lb.  The impact on the Class III price is a little less than the $.50/cwt.  Some recent articles have claimed much more, but that is not the case.  Cheese prices have fallen since 2014 from highs near $2.40 to the current prices around $1.60/lb.

Chart I - NASS Price of Butter

Chart II - NASS Price of Cheese

What moves the Class III price is the price of cheese.  Chart III below shows the tight correlation between the price of Class III milk and the NASS price of cheese.

Chart III - Cheese and Class III Prices Over 18 years

Currently cheese inventories are high and the price is low.  The only way to quickly deplete the excess inventory is to drastically increase cheese exports.  

The price of milk protein and butterfat are not in any way controllable by a producer. A producer has little ability to change domestic inventories or the many other factors that influence the FMMO value of producer milk.  The above information is provided for background for the next post that shows how a producer can have more control over improving his revenue and profit.  Don't miss the next post.  Reminders can be sent by email by filling in the "subscribe via email" in the upper right hand corner of this blog.