Dairy farming post-quota: Skill before Scale - Lessons from New Zealand

With the imminent abolition of milk quotas, the business environment for dairy farming is changing. Many people believe that with the ‘regulatory spancil’ of quotas removed, they will not only be able to increase in size, but they will, in fact, have to increase cow numbers to achieve a reasonable income and lifestyle. The rapid expansion of dairying in New Zealand is offered as an example of what is possible, with a 90% increase in cow numbers nationally and a doubling of farm size and cows/farm over the last 20 years. People must consider this path carefully; expansion brings significant costs, debt, and additional risks, and, as many of us that have been involved in large-scale dairying in different parts of the world can tell you, it does not always deliver the additional income promised.

Let’s reflect

These statistics are frightening; such business growth is not feasible. However, they reflect the current state of operating efficiency in the Irish dairy industry. The comparable figures for the highest performing dairy farmers in Ireland are much more sobering. In 2010, the best farmers in the country only needed 50 cows to earn the average national wage and they would only need to milk 60 cows in 2020 to keep pace with their urban neighbours. This is the current average herd size!

Expansion or efficiency?

As we look forward to quota removal, what is the most appropriate path for Irish dairy farmers? Nobody wants to admit that they are average. Nonetheless, the fact remains that 50% of Irish dairy farmers are performing at worse than average – that is what the metric ‘average’ means. The greatest opportunity for most, therefore, lies in improving current operating performance and not in expansion – expansion of a poorly-performing business could be disastrous. Once operating performance is good, expansion becomes a viable option. However, there must be ‘skill before scale’.

Dairy farming businesses will need to be resilient to withstand the environment of the future. The storage and delayed selling of commodities in the EU and the US in the past created a stable milk price. With the removal of these storage vehicles, milk price has fluctuated by up to 100% over the last four years alone. In addition to this, energy price and supplement price volatility has led to large swings in the price of inputs. For example, the average price of corn in the US prior to 2006 was US$130/t. This increased to over US$200/t during 2007-’08 and was between US$300-400/t in 2012. Here in Ireland, concentrate prices have increased by more than 100% over the last decade.

This level of volatility will continue in the future and the farm business must be able to weather the bad years while taking advantage of the good years. With the imminent abolition of quotas, this is an opportune time for farmers to look at their business and determine what changes should be made to ensure the farm business is sufficiently resilient to survive and prosper in the long term.

Failing to plan is planning to fail

Resilience is the ability of a system to absorb and manage change. For a dairy farm, this means:

It should provide an enjoyable family lifestyle, with sufficient time off for all people in the business;

Lessons learned from New Zealand

New Zealand is often considered to be the mecca of successful grass-based dairy farming, with regular pilgrimages of Irish farmers to its sunny climes to understand the reasons for its success. Although a worthwhile endeavour to learn from the successes of others, it can be dangerous to emulate what others have achieved without understanding some of the differences. Although possessing a very similar climate to Ireland for grass growth, which is the reason for most of the comparisons, New Zealand had a number of advantages that facilitated the significant growth of the industry since the mid-1980s, which Ireland does not share.

For example:

As a result, New Zealand farm businesses thrived through periods of very low milk prices.

The picture is not all rosy however. Relatively cheap interest-only loans; large capital appreciation on land converted from beef and sheep to dairy (coupled with no capital gains tax); a large steady co-operative providing confidence in the long-term viability of the industry; relatively high milk prices; and, a competitive streak matched by very few industries, encouraged farmers to borrow heavily to expand. On average in 2011-’12, term liabilities were 40% of asset value. This is down from a high of 47% in 2009-’10. Many were fortunate that the downturn in milk price was short-lived.

In addition to the expansion in farm size or additional farm ownership, there has been a significant increase in the use of purchased supplements to increase stocking rate and milk production/cow within existing farms (i.e. expansion through intensification). National statistics (Figure 3) would suggest that this method of intensification has not always borne fruit. On average, New Zealand dairy farmers are paid approximately 12c/litre more now than they were a decade ago. However, profit has increased by only 3c/litre. This is because, on average, variable costs per litre have increased by more than 50% and fixed costs per litre have increased by 80% (total costs have increased more than 60%) during the same period. If the system remained unchanged, with inflation at 4% per year, the increase in profit should have been 8c/litre.

Although the increased costs resulted in greater milk production, this did not result in a commensurate increase in profit. For example, a farm milking 100 cows 10 years ago and producing 430,000 litres of milk expanded to milk 110 cows in 2012 and produced 550,000 litres of milk (a 28% increase in milk production). Profit increased from €18,000 to €34,000 during that time. However, if that farm had not changed its management and stayed milking 100 cows, profit in 2012 should have been €46,000, purely due to the 60% increase in milk price compared with the 30% increase in expenses. The data highlights the dangers of expansion through intensification (i.e. the purchase of feeds to increase stocking rate) when farm management is not sufficiently skilled. Again, I say there must be ‘skill before scale’.

Planning for your future

The role of strategic planning is to position the business for the future, anticipating the opportunities and threats, while capitalising on the strengths of the business and strengthening the weak areas. All successful businesses must undertake such a plan to ensure that they are aiming for the correct targets and to ensure that their day-to-day management is leading them towards their end goal – to use a sailing cliché, ‘you must trade a little speed for direction’.

For dairy farming in Ireland, such a plan must involve growing as much pasture as the land class and climate allows. This will require optimal levels of soil phosphorus, potassium and lime, the drainage of heavy soils in high rainfall zones, and sufficient tracks and appropriate fencing infrastructure to allow grazing of the entire farm without poaching.

Supplements have a place in optimising this system, but they expose the business to global commodity prices and associated volatility. Strategically, therefore, they should be limited to approximately 10% of the feed needs of the cow to ensure that the business can withstand major shifts in commodity prices. If the price of 10% of the feed requirements of a cow doubles, the business can probably withstand it. In comparison, if the price of 20-25% of the feed requirements of a cow were to double, as in higher input dairy systems, it puts the business under significant financial pressure, especially if milk price drops as well.

The farm must be optimally stocked. To do this, the amount of pasture being grown and the potential of the farm to grow pasture must be known. This requires frequent measurement of pasture covers and the identification of poorly-performing pastures for remediation (i.e. correction of soil fertility/pH, drainage, new pasture species, etc). The amount of feed purchased must also be accounted for.

The correct cow must be bred. Ireland is in the luxurious position of having a profit-focused multi-trait genetic index that takes the guesswork out of breeding. The average farm has a herd EBI of €110 and there is even considerable scope for improving this metric on the best farms.

Farmers must aim to have more than 80% of cows in calf in the first six weeks of breeding. This will ensure that pasture utilisation is optimised, the need for purchased supplements is minimised, and the average lactation length for the herd is maximised.

Through physical and financial recording and benchmarking, farmers can understand what is possible for their business. Annual financial planning, monthly cash flow budgeting and budget-variance reporting sharpen the intellect and are an essential part of business. Failing to identify impending shortfalls and manage them accordingly, often results in expensive debt and a loss of confidence by your creditors.

Tactical management

Although strategic plans are important to achieving the goals of the business, a farmer’s day to day management skill is what keeps the ship afloat. It is important, therefore, that he/she recognises their strengths and weaknesses and seeks help and/or training to help manage the components of their business that they do not excel in.

Conclusion

“Change before you have to” was the mantra of Jack Welch, CEO of General Electric and one of the world’s most successful businessmen. To survive the imminent changes, dairy farmers need to plan a strategy to maximise the efficiency of their business before they contemplate expansion.

*Professor John Roche, PhD is Principal Consultant of Down to Earth Advice Ltd, a consultancy company providing strategic and technical advice to farming groups, agricultural businesses, and universities around the world. A native of Castleisland, Co. Kerry, he is Principal Scientist of Animal Science at DairyNZ and an adjunct Professor of Animal Science at Lincoln University in New Zealand. This article first appeared in AIB's Agri Matters.