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• Reducing costs may not maximize profits, consider technologies that increase production efficiency even in times of low milk prices.
• Knowledge of costs to produce 100 pounds milk essential to effective decision making.

In times of low milk prices, dairy managers are tempted to cut costs to maintain positive cash flow and profitability. Adoption of new technology is often delayed because of cost consideration. However, even in periods of low milk prices, it is important to consider new technologies that increase production efficiency, as those are likely to improve cash flow even with additional cost. That is, greater spending is not always associated with lower returns. The challenge is to examine each decision based on its marginal effect. Think of the marginal profit as “extra” or “additional” to that currently received for total output on the farm. The most profitable milk is that produced after all fixed costs of production have been covered. In most cases, this means that every extra pound produced by cows already in the barn is more profitable than the last, because the fixed production costs (such as maintenance feed, animals, facilities) are incrementally diluted with each additional pounds of milk. If one simply cuts costs and production declines, the profitability will further erode.

Essential to this process is knowledge of the production costs for 100 pounds of milk. That information provides the basis for effective decision making. Participants in the Illinois Farm Business Management Program reported average cost of production of $13.90 per cwt. (Table 1). That figure is divided between cash and other costs. Cash costs include feed, by far the greatest single cost, and operating expenses. Other costs include depreciation, labor, and interest charges on capital. Having estimated the costs to produce and given the price received per cwt. of milk, the marginal profit for a particular technology can be calculated.

Lets look at three time a day milking (3X) as an example. Begin with the assumption that cows milked 3X will produce 8 pounds more milk each day relative to cows milked 2X. But, if milk prices are at $12.50/cwt, does it really make sense to make more milk to sell at a loss? On a farm with 100 cows, 8 pounds/day would mean an additional 8 cwt. shipped. Additional costs to produce that milk would be feed and labor. Assuming feed costs $6.56/cwt, and labor at $2.05/cwt, the cost to produce each additional cwt of milk is $8.61. This is lower than the $13.90 because “time” related costs such as livestock expense, depreciation and interest are already covered on those cows. Therefore, even at prices of $12.50, a return of $3.89 is expected on the additional milk. Thus, it is marginally profitable to make more milk even if it sells at a lower price.

Another example is the adoption of bST. Approximately 70 of our 100 cows would be treated with bST at any one time. Using a ten pound/day increase in milk per cow, an additional 7 cwt is available for sale each day, yielding $87.50 in revenue. Cost of feed to produce that milk is $45.92, and the cost of the bST would be $26.25, for a total of $72.17 in costs. The marginal profit on that milk then is $15.33, even though it is being sold at a price lower than the cost of production.

Table 1. Costs associated with production of 100 pounds of milk. Estimates for individual farms can be obtained from IRS Schedule F. Average data was obtained from the 1999 Illinois Farm Business Management summary of 81 dairy farms.

¹May be split into supplements (purchased) and grain and roughages.

²Net from milk price in IL FBMP calculation.

³Other than health.

⁴Includes equity charge.

The preceding examples involve technologies that require very little capital outlay before a return is gained, but that is not true for all technologies. For example, modifications to the animals environment. Consider photoperiod. Assuming a 5 pound/cow increase in production, our 100 cow dairy produces 5 cwt. more each day. Although labor costs are not increased, cows still eat more ($6.56/cwt.). In addition, power costs increase because of the extra lighting. In the most conservative case, lighting for 16 hrs each day, we would add $1.61 for each additional cwt of milk produced. This means that the cost to produce each extra cwt using extended lighting is $6.56+$1.61 = $8.17; still well below the price of milk at $12.50. The marginal profit is $4.33/day or $1,320.65/year. Of course, lighting costs vary widely depending on the type of barn, type of light, and local power charges. On most farms those costs would be much lower than the example above and therefore marginal profit would be greater. There are, however, capital costs to consider in using photoperiod. A typical investment of $50 to $60/cow is a good estimate for a completely new lighting system; for our 100 cows that means $5,000 to $6,000. Remember though that most lighting systems do not require that much expense, so the actual cost will be lower in most situations.

Lets consider another environmental factor that may reduce milk yield – heat stress. High temperatures need not be excessive to limit productivity of cows. Above 78°F, dry matter intake will decrease and milk yields will suffer. Assume a loss of 1 pounds DMI for every 4°F increase in temperature in the housing facility. Using a conservative estimate of 2.5 pounds of milk less for each pounds of DMI the cow does not consume, our example 100 cow herd loses 5 cwt. for each day that temperatures are at 86°F. What is the value of heat abatement? Estimate power costs to run the fans and sprinklers at $0.10/cow/day or at $2.00/cwt, and the increment in feed of $6.56. Total cost to produce the additional 5 cwt of milk is $42.80 each day, value of the milk is $62.50, and marginal profit is $19.70/day. During the hottest 120 days of the year then, heat abatement is worth $2,364.00 to the bottom line, even if milk prices are $1.40 lower than production costs. Estimates for a fan/sprinkler system range between $32 to $50/cow in Illinois, or $3200 to 5000 for the theoretical 100 cow dairy.

Clearly, no dairy can survive long term operation with costs exceeding income for each output unit produced. And, not every technology will be as profitable for every producer. Indeed, one advantage of knowing the costs associated with producing each cwt of milk is the ability to make decisions based on individual added costs associated with each technology. For example, labor may be relatively high on a farm, and thus 3X milking may not be as profitable compared with photoperiod. Likewise, it is easy to envision a situation where electrical costs are high and preclude adoption of photoperiod or fan/sprinkler cooling. The bottom line is that minimizing production costs will not result in greater profit. Rather, good decisions on technologies that improve the efficiency of production overall will. Even in times of low milk prices, technologies that improve the efficiency of production, i.e. that increase “marginal milk”, improve the bottom line.