Agribusiness

Beef prices at historic lows necessitates focus on cost of production

Comment, by Ian McLean and David Counsell* 11/02/2013

 

Current Queensland beef prices have fallen 40 percent in real terms since 2001 and are currently trading around the eleventh percentile of all beef prices over the past 25 years.

The current downward trend in beef prices started in January 2012, and has seen prices decline by 17pc in real terms since then.

If current beef prices continue or decline further, many beef businesses will not generate profits in 2013, even before considering debt and interest cost obligations.

Cattle prices are always front-of-mind for beef producers and the decline in values over the last 12 months, as shown by the Queensland Cattle Market Indicator (QCMI) published by Meat & Livestock Australia’s National Livestock Figure 2: QCMI 1986 to January 2013 (unadjusted for inflation)Reporting Service (see first graph published here, or accessible in larger format at bottom of page), has drawn much recent comment.

But how do the current prices compare to long-term averages?

In Figure 2, published at left, showing the QCMI from 1986 onwards, the recent market fall can be seen, along with what appears to be an upward trend over time. A definition of the QCMI can be found at the bottom of this article.

When looking at long-term trends like this, its necessary to take inflation into account to see the actual change in real prices. Adjusting for inflation is important because the costs of running a beef production business is increasing at least as fast as the rate of inflation.

If the January 2013 QCMI average of 180.7 is adjusted for inflation, it becomes 70.8. To explain the conversion, $70.80 would have bought you the same amount of goods in 1985 that it would take $180.70 in today’s dollars to buy (based on Australian Bureau of Statistics Consumer Price Index for Brisbane).

Therefore prices today are 30pc lower, in real terms, than they were in 1985 (Index was 100 in 1985, and adjusted index at the moment is 70.8). 

Figure 3: Inflation-adjusted QCMI 1986 to January 2013

Figure 3 shows the QCMI adjusted for inflation, and also shows the quartile ranges of the data. Quartiles explain the statistical distribution of data. 25pc of the months will be in the lowest quartile, 50pc in quartiles two and three, and 25pc in the upper quartile.

Figure 3 also shows the changes in real beef prices over the last 26 years, and where current prices are in relation to historical prices.

The inflation adjusted monthly average figure for January 2013 is at the 11 percentile, meaning that the market has only been lower 11pc of time over the past 26 years. Real prices have fallen 40pc since the peak in 2001 and have only been lower than current levels for an extended time period once in the last 26 years – for 32 out of 35 months from February 1996 to December 1998.

 

Cost of Production focus

So what do these low beef prices mean for producers?

The current market downturn will further squeeze what are currently low, and often negative, margins across the Northern beef industry.

If beef prices remain around this level through 2013, then a large percentage of beef producers will not make profits this year and this is before considering interest costs. This is concerning information for an industry where many businesses are carrying high levels of debt.

Beef producers make their profits from the margin between what they get paid per kilogram of beef and what it costs their business to produce each kilogram of beef.

During periods of low prices, it is even more critical to know what the ‘Cost of Production per kg of beef’ (CoP) is for the business; what drives that ratio; and what opportunities exist to improve efficiencies.

As the CoP is a ratio between kilograms of beef produced and costs, in some cases, it can pay to spend money to ramp-up production in an effort to achieve a lower CoP. 

Whilst beef prices are outside the control of beef producers, their CoP is something they can influence.

In fact analysis of beef businesses has consistently shown that prices received explains little (10pc) of the difference in profit between beef businesses. CoP on the other hand explains more than 60pc, and Operating Margin (Price Received less CoP) explains nearly 80pc of the difference in profitability between businesses.

Figure 4: Relationship between price received and Profit (source MLA's Business EDGE)Figure 4 shows the relationship between Price Received and profit per Animal Equivalent (AE) of benchmarked beef businesses, showing there is a slight but weak relationship.

It is worth noting that there are businesses with an average price received of close to $2.00/kg that are not making a profit and businesses with price received less than $1.30/kg that are making a profit.

Figure 5: Relationship between Cost of Production and Profit (MLA's Business EDGE)Figure 5 shows the relationship between CoP and profit. Here the relationship is much stronger with profit increasing as CoP decreases. Also worth noting is that nearly all businesses with a CoP below $1.00/kg are making a profit.

So whether the current market stays at this level, goes up or continues to go down from here, it is those beef producers with the lowest CoP that will be better off.

The profitable beef business managers of the future will know their CoP, what it is doing over time and how to get it down and keep it down.

What determines and how to influence CoP and other key performance indicators at herd and business level, along with topics such as long term economic sustainability, succession, risk management and debt management are all addressed in the Business EDGE course which is being held in regional venues from Katherine to Roma in coming months.

The Business EDGE course is a two day intensive workshop developed by Meat & Livestock Australia and Phil Holmes to provide Australian beef producers with better business management skills.

 

How the QCMI is calculated:

The QCMI is an index which is representative of current market prices based on 132 categories of slaughter animals throughout selling centres in Queensland. The index is calculated by comparing current market prices to the price level in 1985 when the index started and was set at 100. So the average QCMI for January 2013 of 180.7 means that beef prices in January were 80.7pc higher than in 1985. This represents accurately the changes in the cattle market over time, however it does not take into account the inflation that has occurred over the last 26 years.

 

  • * Ian McLean and David Counsell are the principals of Bush AgriBusiness Pty Ltd, delivering specialist business and financial advice for the cattle industry. They will be delivering upcoming Business EDGE workshops across Northern Australia, along with respected industry professionals Steve Banney, Graeme Busby, Steve Petty and Phil Holmes.

 

 

HAVE YOUR SAY

Your email address will not be published. Required fields are marked *

Your comment will not appear until it has been moderated.
Contributions that contravene our Comments Policy will not be published.

Comments

Get Beef Central's news headlines emailed to you -
FREE!