Farmers cope with markets differently

Dairy farmers face an increasingly turbulent business environment.

Dairy farmers in New Zealand face an increasingly turbulent business environment
-- costs, exchange rate, climate, prices -- as well as added uncertainty around other external factors such as local and national government legislation.

Research by the Centre of Excellence in Farm Business Management has analysed farmer feedback, alongside DairyBase data, to determine how well farmers manage such volatility.

What we have found is that during a positive shock -- a low-price year to high-price year -- certain farms make the most of that opportunity.

Those farms typically:

Have a significantly higher operating profit margin and asset turnover ratio.

Generate and use (invest) more liquidity -- cash.

Produce more milk/ha.

Were more intensive, larger and irrigated.

Had a significantly higher debt-to-asset ratio but debt servicing capacity was no different. They used debt or non-equity capital to leverage their business.

DROP TO LOW PRICES

Conversely, when there is a negative shock -- from a high-price year to low-price year -- the farms that minimise the effect typically:

Have a significantly higher return on equity, operating profit margin and discretionary cash/ha.

Have lower farm working expenses/kgMS -- liquidity.

Produced less milk/ha, were more extensive and smaller.

Had a significantly lower debt-to-asset ratio and debt-servicing capacity. They avoided using debt to leverage their business.

Not surprisingly, the farmers who best captured the upside risk were not the same farmers who best survived the downside risk.

The metric both groups did excel at was the operating profit margin.

This makes sense, as this measure (operating profit/ gross farm revenue) reflects how the farm responds to price, by adjusting costs, up and down.

We then looked for farmers who didn't excel in either extreme situation but were the most resilient overall and who outperformed their peers over time.

ABILITY TO FLEX

Using six years of DairyBase data and a sophisticated statistical method, it was found that mostly system three farms had consistently better performance, due to the ability to flex with the season.

Over the six years, the dominant financial KPI (key performance indicator) was operating profit margin. This is a dynamic indicator (the outcome of spending connected to revenue), so is hard to target but is a critical benchmark on how well decisions have been made.

Operating profit margin is in DairyBase -- check out your latest reports and see how well you compare to the benchmarks. The better the operating profit margin, the better you are managing turbulence.

This work was part of the Transforming the Dairy Value Chain Primary Growth Partnership Programme, funded by DairyNZ and the Ministry for Primary Industries.

Nicola Shadbolt is Professor of Farm and Agribusiness Management, and DairyNZ chair in farm business management at Massey University.