Unpacking the USDA’s New Dairy Processing Cost Study and How It Could Impact Allocations

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The USDA recently released the Cost of Processing in Cheese, Whey, Butter and Nonfat Dry Milk Plants study, which was commissioned by the University of Wisconsin to update and examine the production costs of dairy processing plants. dairy. The study provides new weighted average production costs of different types of cheddar cheese, butter, whey and skim milk powder for processing plants in the United States. These costs are often used as the basis for evaluating and adjusting compensation allocations. This Market Intel reviews the current state of allocations and discusses the results of the study and its possible implications for future milk price calculations, which drive the outcomes of many dairy producers.

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A review of milk pricing regulations was provided in a previous Market Intel and can be viewed here: How Milk Is Priced in Federal Milk Marketing Orders: A Primer. As described in the article, milk prices regulated by the Federal Milk Marketing Ordinances (FMMOs) are determined based on end product pricing formulas. These formulas use wholesale prices for butter, cheese, whey powder, and skim milk powder to determine milk component values ​​for butterfat, protein, other solids, and solids non-fat, as well as the classified value of the milk. These end product pricing formulas include a standard deduction from the price of each product called Do part of it, i.e. processing credit, as well as yield factors for processing raw milk components into finished dairy products. In general, any increase in manufacturing allowances would increase the deduction to cover processor costs, decreasing take-home pay for dairy farmers in the short term. A decrease in manufacturing allowances would have the opposite effect on dairy farmers’ wages.

Compensation allowances are based on an estimate of the costs associated with converting a quintal of raw milk into basic dairy products, including butter, cheese or powdered milk powder, and are intended to be significant enough to encourage the building and maintenance of transformative capacity. The yield factor is an estimate of the amount of product that can be produced from a certain amount of milk components. The current crafting allowances and performance factors are as follows:

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The compensation allowances were last changed in 2007 following a USDA Class III and IV compensation hearing. Dairy farmer and company views on offset margins and performance factors submitted as part of this hearing can be found here: Class III/IV Price Make-Allowances – Comments and Exceptions. During the hearing, it was discussed whether a 2006 Cornell Program on Dairy Markets and Policy (CPDMP) survey of manufacturing costs and a 2006 California Department of Food and Agriculture survey ( CDFA) should be used as a basis for determining if any changes should be made at this time. – current processing fees. The current butter and skim milk powder (NFDM) allocations were calculated by taking a weighted average of the CDFA and CPDMP surveys using national commodity production as weights and adjusting for marketing costs set by the USDA. The dry whey manufacturing allowance was based solely on the 2006 CPDMP survey and adjusted for USDA-defined marketing costs, while the cheese manufacturing allowance was based solely on the 2006 CDFA survey and adjusted for USDA-defined marketing costs.

The following table shows the difference between the values ​​of the results of the 2006 cost study and the compensation allowances currently in force. Note that, overall, the current compensation allocation ended up being higher than the 2006 cost study results, revealing the impact of the hearing process on final values. For ease of comparison with current milk controls for dairy farmers, the remainder of this article uses current manufacturing allowances as the base value.

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Results of the new study on dairy processing costs

The study released by the USDA on Feb. 14 provides new weighted average production costs for cheddar cheese, butter, whey and NFDM for processing plants based on surveys of 61 plants across the United States. dairy product categories except butter would be required to reflect higher processor costs related to labor, utilities, processing inputs, packaging, administration general and return on investment.

The following table displays the current compensation allocations and the corresponding weighted average cost values ​​estimated in the new report. Keep in mind that the values ​​presented in the study are not the sole determinant of future updates or changes to account for allocations, but have been used as a baseline reference point for FMMO hearings in the past. Butter is the only product estimated to have a reduction in cost of production, about minus 3 cents per pound, while NFDM saw the biggest jump with an increase of 13 cents per pound.

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Using the final product pricing formula, these product-based values ​​can be converted to the equivalent taking into account the four components – protein, fat, solids non-fat and other solids – as shown here:

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Then, using the final product pricing formulas, manufacturing allowances can be converted to dollars classified per hundredweight assuming a butterfat content of 3.5% shown below. Note a general increase of nearly a dollar per quintal in the wiggle room suggested under the new study. Since offsetting allowances are used in the final product pricing formulas for Class I and II milk, the values ​​used in the calculation of Class III and IV milk, offsetting allowances effectively reduce the regulated value of the milk in all classes.

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Combining USDA Agricultural Marketing Service data on total class utilization volumes with the classified value of manufacturing allowances indicates that total manufacturing allowances – based on a fat content of 3.5 % – would have increased by nearly 33% under these updated cost study results values ​​in 2021. This equates to a $1.45 billion single-year increase across the FMMO of formula deductions to cover estimated cost increases for processors. Figure 1 presents the annual cumulative values ​​of compensation allowances from 2017 to 2021 according to the current value system and the values ​​adjusted according to the cost study. Over those five years, the adjusted values ​​would have increased total manufacturing allowances by $6.6 billion, reducing by the same amount the regulated revenues dairy farmers would have received for their milk, all else being equal. Note that the 2020 and 2021 Class III pooling values ​​are adjusted to account for unbundling caused by COVID-19 market forces.

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Conclusion

The 2021 USDA Study of the Cost of Processing in Cheese, Whey, Butter, and Skim Milk Powder Plants suggests that processing costs to turn fluid milk into manufactured dairy products have increased for the cheese, skimmed milk powder and whey both from 2006 estimates and currently applied allocations. This was an expected outcome given ongoing supply chain disruptions that have increased input and labor costs across the economy. Any process to change allocations to reflect higher processing costs will consider additional inputs and information when determining new values. This means that the study will probably not be the only determining factor in future changes to allowances. Any increase in manufacturing allowances can lower the price of milk dairy farmers receive, reducing already squeezed margins, but must be balanced against the need to maintain sufficient plant capacity to process the milk. Careful consideration of the widespread impact of allocation changes on dairy farmers’ bottom lines is essential to any effort, by way of hearing or legislation, to change them.

Contact:

Daniel Munch
Associate Economist
(202) 406-3669
[email protected]

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