Handling the Farm Bill and Dairy Margin Protection Program

5/17/2014 7:00 AM

Virginia Ishler and Heather Weeks

Penn State Extension

When it comes to risk management it seems like things are never simple. The new approach in the Farm Bill appears complicated. However, farms that have developed cash flow plans on their own or with the Extension Dairy Team already have the tools available to implement the program effectively.

Deriving the margin

The Margin Protection Program, or MPP, in the Dairy Title of the Farm Bill uses a ration described with market prices for corn, soybean meal and alfalfa hay that was developed by the National Milk Producers Federation in conjunction with prominent dairy nutritionists. The ration incorporates all animal groups including the lactating and dry cows as well as heifers. The ration is based on a 1,000-cow herd milking 68.85 pounds per day with an 80 percent replacement ratio.

Using this ration, the coefficients making up the final national margin formula are calculated based on the ration quantities of each ingredient for each animal group. The national all-milk price and shelled corn and alfalfa hay prices will be determined by the Agricultural Price Report from USDA National Agricultural Statistic Service. The soybean prices will be based off of the Central Illinois Soybean Processor Report from USDA Agricultural Marketing Service.

The final margin formula is: All milk price - (1.0728 × shelled corn price per bushel + 0.00735 × SBM price per ton + 0.00137 × alfalfa hay price per ton).

This margin is used to determine the level of support producers enrolled in the MPP will receive based their elected coverage. The following considers theoretical implementation of the MPP comparing to the Penn State dairy herd’s margins during 2009 and 2012.

Margin Protection <\n>Program payment scenarios

Of the past five years, 2009 and 2012 have been the most challenging for dairy producers. The Margin Protection Program offers margin protection between $4 and $8, at $0.50 increments. In these scenarios, three levels of the dairy producer margin protection were examined: $4, $6 and $8 per hundredweight. We will focus on the $4 per hundredweight margin protection because there are no premiums to obtain coverage at this level. Premiums for margin protection begin at $4.50 per hundredweight through the maximum $8 per hundredweight. A $100 annual fee is applied at program sign-up and guarantees the $4 per hundredweight margin protection with no premium payment.

Using Penn State’s feed and milk prices, the margins will not be identical, as would be the case with any farm calculating its own margin. Additionally, Penn State calculates its margin using only the feed costs from the lactating cows, whereas the USDA margin uses the total feed costs. Therefore the two margins cannot be compared directly.

The USDA and Penn State margins track in similar patterns showing the trend in lower milk prices during the 2009 year and the volatility of both milk and feed in 2012. In 2009 and 2012, there were four and two instances respectively that the margin fell below $4 per hundredweight and would have generated payments to the producer. The USDA margin and its payments will be calculated on a bimonthly basis.

Case farm example

The first question that comes to mind regarding the MPP is, “What level of coverage should I sign up for?” However, this question is impossible to answer accurately without first knowing the actual margin on the individual dairy farm. Producers must calculate their actual break-even margin in order to compare that with the USDA margin protection program. Even after determining this value, a producer must compare the benefits of varying levels of coverage to that of the premium structure.

Dairy producers should be asking, “What would I receive in cash payments at the $4 per hundredweight base protection level and how would this off-set the losses the farm would experience due to either extremely low milk prices (2009) or extremely high feed costs (2012)?”

For example, how would a dairy operation milking 80 cows and shipping 1.9 million pounds of milk annually with a yearly net margin of $285,000 have fared during 2009 and 2012 if the margin protection program was in place? This case farm needed $285,000 to pay all other expenses after feed costs. In 2009, with an average milk price of $13.33 per hundredweight, this farm reported a cash deficit of $170,000. In 2012, with an average milk price of $19.16 per hundredweight, this farm showed a smaller cash deficit of $54,800.

Based on the information in the Farm Bill, when viewed from a risk management standpoint, an investment of $100 a year to participate in the program and to get the lowest level of coverage would provide compensation in the event of another disastrous year. Even during relative “good” years the $100 fee is a cost-effective insurance policy to know that in months when markets may turn and negatively impact margins, the dairy operation would receive a payment.

Before the USDA opens enrollment in this program, dairy producers should know what their current margins are based on actual costs and how they relate to the USDA margin, which is based on market values. When a repeat of 2009 or 2012 occurs, this program has the potential to offset losses due to low national milk prices or high feed prices. However, it is important to note that if a farm experiences losses due to other internal circumstances such as milk production decrease, extensive machinery repairs, sick cows, etc., this protection program will not alleviate those on-farm challenges.

Additional resources on the specifics of the dairy title of the Farm Bill and how to determine your own farm margin are available at http://extension.psu.edu/animals/dairy/business-management/farm-bill-resources.

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