NEWS for North Dakotans
Agriculture Communication, North Dakota State University
7 Morrill Hall, Fargo, ND 58105-5665
July 8, 1999
Harlan Hughes, Extension Livestock Economist
NDSU Extension Service
A decade of analyzing Integrated Resource Management (IRM) cooperator beef cow herds suggests that heifer retention strategies have a significant effect on long-run profits from the beef cow herd. The timing of herd expansion, and the buying and selling of females, seems to be critical to long-run profitability.
I am writing this series of Market Advisors to alert readers that my analyses suggest that now is the time for herd expansions and that this optimum expansion time may quickly disappear. In fact, my analyses suggest that the economic value of bred heifers entering a herd peaks in the fall of 1999. Those bred heifers were born in 1997.
The economics of running beef cows is highly influenced by the beef price cycle. The beef price cycle corresponds directly to cattle cycles but moves in the opposite direction. A beef price cycle starts in the middle of a decade with low prices, prices increases through the end of that decade and into the beginning of the next, only to decrease toward the middle of the new decade. The current beef price cycle is projected to run from 1996 through approximately 2006.
Proper timing of heifer retention during a beef price cycle is critical to maximizing long-run beef cow profits. Management strategies that produce more calves in the early part of the beef price cycle and fewer in the last part increase total profits for the complete cycle.
Beef cow producers should add bred heifers whenever bred heifers have a economic value that is greater than the cost of acquiring them. The greater the difference between the economic value and acquisition costs of bred heifers , the greater the herd's profit potential. As a result of the beef price cycle, the timing of adding bred heifers is critical to long-run profits.
The economic value of a bred heifer is the sum of that heifer's future annual net cash incomes plus her final cull market value. More specifically, it is the discounted net present value of her future annual net cash incomes and cull value expressed in today's dollars.
Economic value is different than sale barn price. Sale barn prices of bred heifers tend to be correlated with current calf prices. As we enter the price-increasing phase of the current beef price cycle, calf prices are projected to go up during the next few years, and the sale barn price of bred heifers are projected to follow. Waiting for a price increase to begin holding back heifer calves for expansion reduces long-run cash flow.
Three economic principles need to be brought into play when determining the economic value of a bred heifer in your operation. First, a beef producer has to divide the ranch or farm business into profit centers. Then treat each profit center, including the beef cow profit center, as a stand-alone business. A beef cow profit center is different from a backgrounding or stocker profit center which, in turn, is different from a retained ownership profit center. Forage production is also a stand-alone profit center that sells forage to the beef cow profit center at a fair market price. The forage profit center is then credited for the fair market price of farm-raised forages fed to the beef cow profit center.
Second, producers must have enterprise accounting that calculates the annual profit and net cash flow coming from the beef cow profit center. This enterprise account is a compilation of all costs and returns associated with this specific beef cow profit center. All resources consumed by the beef cow profit center should be identified and priced in this enterprise account. Resources consumed should be valued at both cash costs and economic (opportunity) costs. In reality, you have two accounts — cash flow and economic. This is exactly what we do in North Dakota's Integrated Resource Management program.
All products produced in the beef cow profit center should be quantified and priced. Gross returns should be based on accrual accounting principles — that is, made up of the familiar cash incomes from products sold and the not-so-familiar noncash inventory changes.
As a result of these two resource evaluation schemes, both an economic bottom line and a cash flow bottom line need to be prepared in a beef cow profit center analysis. The economic bottom line is the earned returns (value added) to a family's three contributed resources — unpaid family and operator labor, management, and equity capital. The cash flow bottom line is the net cash flow associated with the beef cow profit center. The net cash flow bottom line will be used in this market advisor series to determine the economic value of a bred heifer.
The third economic principle used is the time value of money, which suggests that money in hand is worth more than money to be realized at some future point in time. This implies that current revenues are more valuable than future revenues and that current expenses are more costly than future expenses.
There are three basic reasons as to why there is a time value of money. First, money has alternative productive uses. Second, inflation means that the purchasing power of future dollars is less than the purchasing power of current dollars. Third, we live in a world of uncertainty. The further we project into the future, the greater the likelihood of some adverse event preventing us from realizing these future dollars. Bringing bred heifers into a breeding herd fits all three of these economic conditions.
We are all familiar with compounding — what happens in savings accounts when interest is added. Discounting is just the opposite. Discounting is stripping interest from a future amount to get a present value.
In determining the economic value of a heifer, the net present value of all future incomes associated with the bred heifer gives the breakeven initial capital outlay for that bred heifer. Net present value is the interest-stripped present value of the net cash flow generated by an investment minus the initial capital outlay. Net present value is my recommended economic tool for calculating the economic value of a bred heifer.
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Source: Harlan Hughes (701) 231-7380
Editor: Tom Jirik (701) 231-9629
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