Making Quota Decisions - In View of Lower Over Quota Returns

Table of Contents

1. Introduction
2. Quota Economics

Introduction

I recently had the opportunity to sit down with a producer who was concerned about the amount of over quota milk he was shipping. On his April milk statement, total litres shipped were 46,000 of which 30% was at world price. This represented 13,800 litres as over quota and the net payment for this milk was 23¢ /litre or approximately $3,200 for the month. Assuming production is maintained, his June milk payment for over quota milk will drop to about 15¢ /litre or about $2,100/month. DOWN $1,100 FROM HIS APRIL CHEQUE. What should this producer do? Perhaps I can start by focusing on some important issues to consider:

1. For this producer, an additional 17 kgs. of quota is required if all milk is shipped at within quota.
2. Based on the June exchange, this represents a large sum of money - $288,983 (17 kgs. x $16,999/kg).
3. The difference between average component within quota milk and over quota milk is about 40¢ /litre net after deductions. (May 1st average component world price milk has dropped to about 15¢ net/litre)
4. Debt servicing can range from 44¢ /litre if financed over 5 years to about 27¢ /litre if financed over 10 years. The number of years you choose to finance quota can have a tremendous impact on cashflow.
5. If this producer chose to purchase and finance 17 kgs. of quota over 10 years, his monthly milk and subsidy revenue would increase by approximately $1,700. Table #1 indicates returns after debt servicing is 27.5¢ /litre which is 12.5¢ better than net returns from world price milk (13,800 litres x 12.5¢ /l = $1,725/month of extra income).
   

I realize quota is expensive and not everyone is comfortable about financing quota over a long period of time. Table #1 also indicates quota can be financed over 6 years and still show a greater return than world price milk. However, when it comes to quota decisions, my advice is simple - don't do anything that might prevent you from sleeping at night! Perhaps the first place to start is "know your cost of production" and make decisions accordingly.

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June 1999

Quota Economics

Assumptions

• 1 kg of quota at $16,999
• 1 kg of quota represents one good producing cow (approximately 9,360 litres of milk @ 3.9% BF)
• approximate net return (includes subsidy) from 1 kg of quota = $5,100/year
• $16,999 financed over 5 years = $4,128 (P+I/year)
• $16,999 financed over 6 years = $3,564 (P+I/year)
• $16,999 financed over 7 years = $3,168 (P+I/year)
• $16,999 financed over 10 years = $2,520 (P+I/year)

My Thoughts

• shipping a large percentage of over quota milk does not pay! More than 10% of your milk at world price should get your attention, particularly with the recent collapse in world price.
• variable costs such as feed, health, breeding and milkhouse supplies generally run around 20¢/litre.
• land vs quota - consider investing in productive assets (quota) before capital assets (land). Ask yourself how many acres of land could you purchase for the same value of 1 kg of quota, do the economics of purchasing land and then compare to quota!
• focus first on being a low cost of production herd. Some of the most profitable herds I deal with have a 25¢/litre spread between revenue and expenses.
• current quota values will continue to be a problem for a high cost of production producer.
• strive for right balance between quota holdings and optimum milk production - this may mean culling cows or purchasing quota.
• whenever there is a so called guaranteed profit, through time it will likely disappear. Case in point, recent down turn in hog and cash crop prices. Quota, although expensive, provides some stability to the industry and lets people plan with a degree of confidence.

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