Deal or no deal

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The price increase of corn during this harvest season has taken many people by surprise and has dairy producers wondering what the future holds. Are corn prices headed for all-time highs? Should producers use forward contracts to lock in a price today, or wait and hope the cost will decline? 

As a banker, I am seeing some shift in feed-line requirements. Producers are asking for higher borrowing limits for feed, and some are beginning to carry larger feed inventories, especially corn silage. I have some operations that want to carry up to two years of inventory. This creates increased demand for the product, driving the price up, and increasing the cost for the operator. In addition, there are space issues, costs to cover the stacks, increased interest cost to carry, as well as higher interest rates in general (the prime rate has increased 17 times in the last 18 months).

Supply and demand

The nationwide ethanol expansion appears to be driving this change. Numerous plants have come online, and many more are in the construction phase. Many of these plants are being located in areas where there is more abundance of livestock production than corn production. That’s because a by-product that comes from the plants makes a great livestock feed. 

The current price of corn is all about supply and demand. We have a limited land base and, therefore, limited ability to change the supply side. But on the demand side, when we add the growing demand for ethanol with our traditional needs for corn (including feeding livestock), you have to wonder if there is a corn-price ceiling. On the other hand, you wonder what happens if oil prices drop, if large oil companies get involved in ethanol production, or we reach a point when other fuel sources become cheap enough that the profitability of ethanol production is reduced — the result of which could be lower corn prices again. So, the big question for dairymen is “Do I contract now or wait it out”

Talk to your lender

When asking your lender to increase your credit, as it relates to feed, you will need to provide extra information.

In addition to the standard information needed, you also must provide projections on feed costs and the proven ability of management to maintain excellent inventory reporting, controls and records. Also, bring a list of the alternative strategies you have, depending on the cost of corn.

Contracts for feed make the projections more meaningful, along with reducing the potential risk of price variations and showing the banker that you have instituted some risk management. The same holds true for contracting the price for milk sold. Feed cost is the largest expenditure for your operation, and securing this cost is becoming more and more important.

I am continually amazed at the sophistication of dairy producers, at their increasing knowledge of the tools available to assess and reduce their risk, and their willingness to use these tools. Lenders are always impressed when projections are met and when the operator can explain viable alternatives to the “what if” questions.

Every producer will have to make his own “deal or no deal” decision when it comes to corn and other feedstuffs.        

Anthony DeRose is an executive vice president of Wells Fargo Bank in Visalia, Calif.

 

 



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