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Articles from 2001 In February


Knowing For Profit's Sake

Tracking individual cattle reveals the effect of genetics and management.

“Going to the feedlot and the rail the first time I retained ownership scared the hell out of me.”

Survival is a powerful motivator. His background being in ag economics, James Fuqua says he could see his Lazy U Ranch in Quanah, TX, would not be profitable into the future. Adding salt to this wound of reality was that the Lazy U was one of those multi-generation ranches that had been in the family for more than a century.

“I had to figure out where I was to see where I was going. I didn't feel like I'd be fulfilling my responsibility to the family ranch if I didn't give it 100 percent,” says Fuqua.

So, rather than keep trying to build a product and hoping the customers would come, Fuqua set about building what the customers wanted first. And, that required coloring outside the lines of tradition that had the Lazy U selling all of its cattle as calves or yearlings on the average market.

Until five years ago, Fuqua had never retained ownership in any of his cattle.

“To be honest, going to the feedlot and the rail with my cattle the first time scared the hell out of me,” remembers Fuqua. “I didn't have enough education to tell the right thing from the wrong thing and the margins were so slim that I couldn't afford to do the wrong thing.”

Like a lot of producers, Fuqua thought he had the kind of cattle that gain in the feedlot, then go on to grade and yield, but he wasn't sure.

To find out, Fuqua started by selling a load of calves to Bradley's B3R Country Meats and getting feedback about their feeding and carcass performance. “We put ear tags in our cows for the first time and started tracking individual cows,” says Fuqua.

Once he could accurately look at individual cow costs and revenues rather than at the group, Fuqua says the doors of economic opportunity flew open.

As an example, Fuqua says that by changing their management to match the environmental cycles on the ranch (calving and weaning seasons, specifically) he increased weaning weights by 100 lbs. and decreased cow costs by $50/head. “And, it didn't cost us a dime to do,” he adds.

Couple that with retaining ownership in his first set of calves — fed side by side with another pen of calves he sold to Cactus Feeders — and Fuqua began to see how he could build a product the consumer wanted and increase his profit potential.

“Since we've been doing this, we get a $7/cwt. premium up front, then the regular grid premiums on top of that, and it's strictly because what we say the cattle will do, they do,” says Fuqua.

Fuqua negotiated his own grid through Angus GeneNet. His calves are grading better than 90% Choice with no Yield Grade 4s or 5s.

“There are a zillion grids out there and you'd better stick them on a computer because what they giveth in one area they taketh away in another,” says Fuqua. “We can negotiate a grid with steeper premiums and discounts because our system allows us to know which cattle to send on the grid and which ones not to.”

Sharing The Power Of Information

By tracking individual cattle and discovering the effect of specific genetics and management strategies, Fuqua developed a system that serves up a predictable, profitable consumer-based product. It's so consistent that Fuqua established the U Lazy 2 Cattle Co. three years ago to help other producers take advantage of the upside.

U Lazy 2 blends the concepts of cooperatives with contract growing so producers can earn a premium on the front end and still share in the ultimate premiums of superior carcass performance. Here's how it works:

Producers lease bulls by the season (lease cost is 5% of the weaned lbs. produced by the bull multiplied by the price paid for the calves). Participating producers follow health and nutrition guidelines designed by the company. The cattle are electronically ID tagged so they can be tracked.

At weaning, U Lazy 2 buys the calves for up to $8 over the average price paid the week previously in the relevant regional market. The calves are purchased direct (no commission) with a 3% pencil shrink (see Table 1).

In addition, U Lazy 2 currently pays 35¢/lb. of gain for the weight gain during a 45-day (minimum) preconditioning period. If Fuqua had his druthers, he'd just as soon producers background them on to 700 lbs.

Rather than pay the entire premium up front, Fuqua ultimately plans to tie it to the carcass premium and discount on the other end.

“They just have to have the right kind of cattle, and for us the right kind of cattle are those that match the environment, number one,” says Fuqua. “The other thing is that we need something that has high eating quality ability. I'm sure there are others out there, but for our program Angus, Red Angus and Baldies are the cattle that will do that.”

At the same time, Fuqua is beginning to franchise other cattle operations to grow females for the system and line up other producers to add supply.

Table 1: U Lazy 2 payout vs. sale barn (683-lb. steers selling for $87/cwt.)
  Sale Barn U Lazy 2
Average Sale Price $594.21 $594.21
Normal Shrink (%) 9% 3%
Sale Price after Shrink $588.86 $592.43
Minus    
Normal Commission $9.00 0
Insurance (per head) $0.15 0
Beef Checkoff $1.00 0
Plus    
Bonus (per cwt.) 0 $8.00
Gross/head $578.71 $647.07
Source: U Lazy 2 Cattle Co.

Besides a heavier paycheck, Fuqua explains producers participating in the U Lazy 2 program have other opportunities. They can utilize proven genetics and management strategies, receive help with their records and management and the opportunity to purchase inputs such as feed and pharmaceuticals at bulk cost.

Regarding management, only two head of U Lazy 2 cattle have died in the feedlot, both accidentally. There's been zero morbidity. Fuqua attributes it to the health program and time spent devising handling practices that reduce cattle stress.

As for the consumer, Fuqua explains, “Our product is there cheaper and at a higher quality level, and it's safer because we track the cattle individually. We know what we did and who did what. And, it's better for less every time…. We know where we stand so we know when there is a problem and how we can go about fixing it.”

Although Fuqua says U Lazy 2 is still in its infancy, it is already helping some producers see where they stand relative to the future.

“I talked to a guy yesterday who told me that participating in this program saved his ranch,” says Fuqua. And, he has to agree. After all, his own Lazy U Ranch was the first cooperator in the program.

Bottom line, Fuqua explains, “We're doing it this way because we're in the food business now. We're not in the ranching business.”

Living By The Numbers

The 1990s were a time of drastic makeover for the L.U. Ranch Co., a 1,500-cow, high-desert operation in Worland, WY. But, the retooling of the ‘90s, which included overhauling cattle genetics and calf, heifer and cull cow management, as well as improving efficiency in range management and labor, put the family operation in a better position to weather the decades after 2000.

What made it possible, says owner Mike Healy, is implementing processes to track performance and progress.

“We were a high-cost, low-output operation. These new processes made it possible to focus on not only our cattle but how we run the ranch,” Healy says. He points to the data-driven, carcass quality-based progress his herd has made as an example.

Healey has retained ownership on the calves from his family's closed, straight Angus herd since 1989. He knew his steers were finishing light (1,050 lbs.), but he was making reasonable returns. It was the results of two studies in the mid '90s — the checkoff-funded Strategic Alliances study and another from the U.S. Meat Animal Research Center in Clay Center, NE — that convinced him he needed to crossbreed to improve carcass yield grade.

He phased in his crossbreeding program over three years beginning in 1995. He used composite bulls of Angus, Salers, Braunvieh and Gelbvieh. He retained ownership on his calves, through Decatur County Feed Yard in Oberlin, KS.

Owned by Warren and Carol Weibert, the feedyard uses ultrasound video imaging, multiple weigh-ups and computer analysis to predict optimum finish dates for each animal. When finished, animals are marketed through a negotiated grid with Excel. Weibert provides his clients with a feedlot, carcass and net return analysis for each steer.

Healy uses the data to vigorously cull the dams of the poorest performing calves. “We cull according to profitability,” Healy explains.

“Our animals are now finishing closer to 1,250 lbs., and our average carcass weight is now over 750 lbs.,” says Healy. “What we'll try to do now is keep a percentage of Angus in the breeding and a percentage of Continental. With that compromise, we get the cutability as well as the marbling. And, our average profits are looking at $50-$120/head. Hopefully, we'll keep improving that.”

Two To Tango

With the number of alliances growing, producers are finding healthy competition.

When it comes to targeting your cattle to a specific grid, a little healthy competition among alliances is good thing. That's been the experience for Jim Price, Miles Land & Livestock, Alcova, WY.

He and wife Peggy have been marketing their mostly Charolais/Limousin-cross cattle to Laura's Lean Beef, Lexington, KY, for more than 12 years. But last year, they marketed a few to Future Beef Operations, Parker, CO.

“We don't just wait until the time comes and sell our cattle. We try to market them where they'll fit,” Price says.

Heavy-muscled, lean cattle are the specialty at the Prices' 1,300-cow operation on 50,000 acres. Last year, about 90% of their calves went to Laura's Lean, an all-natural, branded beef company that started in 1985.

“After handling these cattle all-natural for about 10 years, I have no qualms about not medicating the cattle and not implanting them,” Price says. “It requires a little tighter weaning management. You've got to watch those cattle pretty close. But with the right vaccination program, you can get along fine.”

And, he says, Laura's Lean pays a premium that covers the gain lost by not using implants.

Of course, not all of Price's calves hit Laura's very specific target. The calves he treats and those with English breeding don't fit Laura's all-natural, exotic-breeds-only program.

Fortunately, with the increasing number of alliances in the industry, Price can now try to market these calves to fit another value-based grid.

Last fall, Price marketed a few calves to newcomer Future Beef. Rather than the all-natural emphasis, Future Beef's focus is providing one retailer a safe, consistent product and a system that's source-verified all the way back to the cow/calf producer.

Since they are so new, Price says it's too early to say how much business he'll do with Future Beef down the road. But, he certainly welcomes the competition.

“We're looking forward to doing business with both outfits,” he says. “In this day and age, if you can find a home for your cattle… it's good to have some competition in that market.”

He recommends that producers feel secure about how their cattle will perform on a particular grid.

“If your cattle won't work on their grid, you can get crucified on it,” he warns. “But if you can get your cattle to fit, grids really offer premiums.”

Selling to Laura's has been beneficial for his operation, especially in those years when the market wasn't very good, Price says.

The cattle bring $40-$70 more than conventional markets, he says. Plus, at about 120 to 180 days after he sells the calves, Laura's pays a cow/calf bonus — a percentage of the profits they make depending on how well his cattle did. In addition, Price receives carcass data.

“If you're making genetic changes, you can see where your cattle are going,” he says. “We're trying to grow cattle for a specific market — heavy muscled, lean cattle. And we try to pick our bulls that way.

“We can't specifically identify each cow individually and what she's doing. But, we do know which groups of bulls we turn out with our cows, so we track our genetics that way,” he says.

Having the carcass data up front also helps make dealing with Laura's a good experience, Price says.

“They know what your cattle will do, and they know that you know because they feed the data back to you,” he says. “It's been a win-win deal for us.”

Future Beef also plans to provide carcass data to its suppliers.

A Grid Pricing Primer

Grid pricing has advantages, but don't participate without thorough knowledge.

Recently, there has been increased emphasis on improving the quality and consistency of beef. Cattle producers, breed associations, feed suppliers and packers have initiated value-based pricing methods commonly referred to as grid pricing. While these various schemes may differ substantially in the carcass traits they seek to reward or penalize, they all have one common feature: price is established on each individual animal based on carcass merit.

With most grids, price is discovered after animals have been slaughtered. With a few exceptions, most grids are based on dressed weights for fed cattle. Unlike live weight pricing or dressed weight “in the beef” pricing where there is a single average price for the entire sale lot, a price is discovered for each animal with grid pricing.

As a result, higher quality cattle receive higher prices and lower quality cattle receive lower prices. Thus, cattle producers who market desirable types of cattle are rewarded.

Most grids consist of a base price with specified premiums and discounts for carcasses whose quality perform above and below the base or standard quality specifications. An example is shown in Table 1, but does not represent the grid for any specific packer or marketing alliance.

Some grids may provide added premiums for carcasses meeting specifications of Certified Angus Beef or other marketing programs. Likewise, packers may specify discounts for hide damage, injection site blemishes and other “out” or unmarketable carcasses.

To compute a grid-based price, the distribution of carcasses by quality grade (QG) and yield grade (YG) from a sale lot of fed cattle must be known. That distribution also is put into a matrix framework.

A hypothetical distribution of carcasses for a 100-head sale lot of steers is shown in Table 2. The hypothetical pen is a fairly typical pen of cattle — 65% QG Choice and Prime, and 60% YG 1 and 2.

Once the base price is known for the grid in Table 1, the net price for a pen of cattle can be computed by multiplying the percent of carcasses in each matrix cell in Table 2 by each premium and discount cell in Table 1. For example, if the base price is $110/cwt. of dressed weight, then the weighted average price for the pen distribution in Table 2 is $109.68/cwt. See Figure 1. We assumed there were no “out” carcasses. The actual net price for a pen of cattle may vary from the calculated price due to differences in carcass weights.

Some other thoughts:

  • A higher base price is probably more critical to receiving a higher net price from a grid than are the specific premiums and discounts. The base price affects all cattle in the sale lot, whereas premiums and discounts affect only selected carcasses.

  • Many grids compute the base price using the previous week's cash price. These formula base prices don't contribute to price discovery and provide packers an incentive to lower cash market bids.

  • Formula base prices tied to the Chicago Mercantile Exchange Live Cattle Futures or to the wholesale beef market price are preferable to formulas based on fed cattle cash prices. Preferably, base prices can be negotiated weekly in the fed cattle market and contribute to competition and price discovery.

Pricing And Management Issues

  • Without knowledge of the cattle's carcass quality, marketing on a grid may be disappointing and risky. Grids can provide an incentive to market higher quality cattle, but the penalty for not recognizing and marketing lower quality cattle is large.

    Even a few lower quality cattle, priced at large discounts to higher quality cattle, can offset the premiums for higher quality cattle. The bottom line results might be a price that is lower on average than a live weight or dressed weight cash price.

    Cattle quality significantly affects the bottom line price results when marketing by a grid. For example, in Table 2 there are 30 head of Prime and Choice, YG 1 and 2 carcasses. Using the grid in Table 1, they add a premium of $1.08/cwt. to the base price.

    Table 1. Example grid in a completed matrix format. ($/dressed cwt.) Base price is $110/cwt.
    Yield Grade
    Quality Grade 1 2 3 4 5
    Prime 11 9 6 -14 -19
    Choice 5 3 Base -20 -25
    Select -1 -3 -6 -26 -31
    Standard -11 -13 -16 -36 -41
    Dark Cutters -20
    Light Carcasses (< 550 lbs.) -10
    Heavy Carcasses (> 950 lbs.) -20
    Table 2. Example Distribution of Carcasses by Quality and Yield Grades (100 Head Total).
    Yield Grade
    Quality Grade 1 2 3 4 5 Total
    Prime 0 1 5 3 0 9
    Choice 6 23 26 1 0 56
    Select 10 19 5 0 0 34
    Standard 1 0 0 0 0 1
    Total 17 43 36 4 0 100
    Fig. 1. Example of grid pricing calculations.
    Yield Grades
    1 2 3 4
    Prime $119 × 1 + $116 × 5 + $96 × 3 = $987
    Choice $115 × 6 + $113 × 23 + $110 × 26 + $90 × 1 = $6,239
    Select $109 × 10 + $107 × 19 + $104 × 5 = $3,643
    Standard $99 × 1 = $99
    _______
    $10,968
    $10,968 100 head = $109.68 Net price/cwt.

    Also in Table 2, there are four YG 4 and one Standard carcasses. These five discounts reduce the base price by 96¢/cwt., nearly offsettinxg the premiums from 30 higher quality carcasses.

  • Should pens of cattle be sorted to fit different grids or sorted to sell some cattle on the cash market? Sorting cattle to fit different grids may be economical provided a producer has a good idea how the different groups of sorted cattle will perform in carcass form. Sorting off “out” or lower quality cattle just before marketing them and mixing them with a pen of cattle sold on an average live weight or dressed weight price is a shortsighted approach to marketing.

    Profit from sorting may be higher for both pens but, over time, packers will likely bid lower for the cash market cattle. However, sorting cattle earlier may enable the feeder to manage both pens of cattle to meet specifications in more than one grid. This management change may reduce feeding costs, increase returns and enhance short- and long-term profitability.

  • Producers must realize that if feeding and other management practices are altered, then receiving the highest price doesn't imply the greatest revenue. Nor does the greatest revenue imply the largest profit.

Revenue is price multiplied by weight, and profit is revenue minus costs. To maximize profit on a pen of cattle, the selling weight and feeding costs need to be considered, in addition to the selling price.

Grid pricing methods have become more common in recent years. Grids have the advantage of pricing each animal, thereby improving pricing accuracy. Cattle are paid on actual dressed weights and the price is adjusted for carcass traits. Better quality cattle are rewarded and poorer quality cattle are penalized.

While grid pricing has definite advantages, producers need to know the quality of their cattle and how grids are calculated before knowing whether grid pricing is advantageous for them. Producers also must consider profit (cost and revenue) implications of altering feeding practices to target specific grids.

Dillon Feuz is an associate professor of agricultural economics at the University of Nebraska's Panhandle Research & Extension Center in Scottsbluff. He can be reached at 308/632-1230; e-mail: [email protected]

Unclaimed Dollars

If you produce quality cattle, you could be leaving money on the table by selling on the averages.

With an average of $30/head pricing error when fed cattle are sold via live weight or dressed weight methods relative to grids, incentives for adopting new pricing and marketing methods are significant.

Selling fed cattle based on average live or dressed weight prevents important pricing signals from being passed from packers down to feeders and ultimately to cow/calf producers.

Pricing cattle on the average, a common method of selling cattle for decades, refers to all finished animals in a pen receiving the same price. It also refers to pens of cattle sold on a particular day in a given region of the country bringing prices within a narrow band of each other.

It's a relatively simple pricing method and doesn't require a lot of information by either the buyer or the seller. Average pricing, however, penalizes producers of high-quality cattle and benefits those with low-quality cattle. It's also detrimental to the beef industry.

Producers of high-quality cattle who want to receive their cattle's added value need to move from average pricing to value-based pricing where price received is based on the merit of each carcass.

A recent Kansas State University study looked at the amount of money producers of high-quality cattle were losing as a result of pricing cattle on average live or dressed weight prices. The study looked at 71 pens of cattle — a total of 11,703 head — produced and marketed in 1997 under a grid pricing marketing agreement with a large Midwest packer.

Each pen of cattle had packer kill sheets indicating slaughter date, overall revenue, price received for each carcass, and individual carcass weight, quality grade, yield grade and “out” carcasses. In addition, pen-average dressing percentages and total pen live weights were available.

The grid system under which these cattle were produced and sold had a base price for Choice Yield Grade (YG) 3 fed cattle based on a local USDA market quoted price. The discount for Select quality grade and lower followed the USDA boxed beef Choice-to-Select carcass price spread.

The grid offered modest premiums for Prime relative to Choice and no premiums for cattle fitting certified programs (i.e., Certified Angus Beef). Typical premiums for YG 1-2 relative to YG 3 cattle and common time-varying discounts for YG 4-5 cattle were offered under this grid.

The discounts for light-weight, heavy-weight and “out” carcasses were comparable with other grids. The cattle in this study were from a single feeding operation. As such, they're not necessarily representative of typical pens of cattle marketed on any given day across the nation.

The 71 pens of cattle were sold under three pricing methods to determine differences in prices received by various methods:

  • Live weight fed cattle prices,
  • Dressed weight prices and
  • Actual grid prices received.

The cattle graded 65% Choice or higher with a few “out” types of cattle. There were 40% YG 1 and 2 and 43% YG 3, with a few YG 4 and 5. Fourteen had carcasses less than 525 lbs., while 219 weighed more than 950 lbs. Average carcass weight was 798 lbs. with a 63.6 average dressing percent.

Value Of Information And Sorting

To determine the value to the cattle owner of information on cattle quality traits, each carcass was priced using the method that resulted in the highest price among the three alternatives (live, dressed or grid). If the cattle were sold using the method that resulted in the highest price for each carcass, the overall average price would have been $68.37/cwt., $1.21/cwt. more than selling all cattle on the next highest average pricing method (dressed weight).

Selling cattle using the method with the highest price resulted in 198 head (2%) sold on a live weight basis, 5,401 (46%) on a dressed weight basis and 6,104 (52%) head using the grid pricing system.

Selling all carcasses using the pricing method with the highest price increased total revenue:

  • by $406,590 ($34.74/head) relative to selling all cattle using live-weight pricing;

  • by $177,171 ($15.14/head) compared to selling all on a dressed-weight basis; and

  • by $218,455 ($18.67/head) compared to selling all on the grid (See Fig. 1 on page 21).

Thus, there is considerable value in understanding cattle quality and properly marketing cattle by the method returning the highest price, compared to selling all cattle using the same method, be it by live weight, dressed weight or grid.

Based on these results, considerable value is being lost in this industry. Someone will find a way to more efficiently increase the flow of information to claim that lost value. If producers don't do it, then vertical integration is likely to increase in cattle feeding and beef packing.

To the extent cattle producers prefer less integration, they have perhaps even more incentive to invest in technology to better identify and predict animal quality than these estimates suggest.

This represents short-term value of information. Long-term value is influenced by management changes made in response to information.

This analysis demonstrates the worth of information if a producer was sorting and selling cattle via different methods. This is not, however, a recommended cattle production and marketing management strategy.

Over the long run, producers will perform better if they find grid pricing alternatives that best fit their genetics, production system and marketing program. This is a long-term process.

Most producers will not succeed in targeting pens of cattle or even individual animals to different selling methods (live weight, dressed weight or grid) or even to different grids. Considerable learning is involved in collecting and using information and adjusting management and marketing accordingly for cattle sold under a grid.

So, what's the value of pricing cattle on a grid rather than by live or dressed weight pricing? We compared the carcass revenue received under each pricing method.

Let's assume the grid price fully reflects market value of the carcass (or at least market value for that grid). Then, any carcass that sells for a higher price brings more than it is worth and any carcass that sells for less is under-priced. This is what many argue is the case of poor-quality cattle being subsidized by higher-quality cattle when cattle are sold live or dressed with little price difference for levels of quality.

To determine the amount that cattle were “over-priced” or “under-priced” relative to the grid price, the difference in revenue from selling cattle on the grid relative to live or dressed weight was computed.

Remember that pricing these cattle on a different grid could result in different estimates of pricing error. Grids vary in their premium/discount structures.

Table 1 (above) presents amounts of “over-pricing” or “under-pricing” had our 11,703 cattle been sold live or dressed weight instead of on a grid.

  • For 3,650 of the cattle, the grid price was less than the live weight price by $2.90/cwt. or $36.80/head. This means these cattle if sold live would have received $134,335 more than their actual worth.

  • For the remaining 8,053 head, the grid price exceeded the live weight price. If these cattle were sold live instead of on the grid they would have received $322,442 ($40.04/head) less than they were worth.

Similar magnitudes of pricing errors were present for dressed pricing relative to grid pricing. The primary conclusion is if these cattle were sold via live- or dressed-weight pricing, assuming the grid pricing system is the most efficient in terms of sending appropriate price signals, this would have resulted in average “pricing error”(positive or negative) of more than $30/head.

Table 1. Magnitude of pricing error from selling cattle on a live weight or dressed weight basis instead of a grid (11,703 head of cattle marketed weekly during 1997).
Revenue Comparison Number of
Cattle (head)
Average
Price Difference
($/cwt. live wt.)
Average
Revenue Difference
($/head)
Total
Revenue
Difference ($)
Grid Less than
Live Weight Revenue
3,650 -$2.90 -$36.80 -$134,335
Grid Exceeds
Live Weight Revenue
8,053 $3.20 $40.04 $322,442
Grid Less than
Dressed Weight Revenue
5,521 -$3.11 -$39.38 -$217,435
Grid Exceeds Dressed
Weight Revenue
6,182 $2.28 $28.49 $176,150

The pricing error ranged from in excess of $150/head under-priced to more than $150/head over-priced. That means a $300/head value range existed across carcasses when sold on a grid that was not reflected in average live weight or dressed weight sales.

Producer Implications

Cow/calf producers can increase profitability by being rewarded for the value they add to their calves. When fed cattle are sold using average live weight or dressed weight methods, nearly no signal is sent to either the producers striving to produce higher quality calves or to producers who pay little attention to improving the quality of their cattle. This is true whether the producer retains ownership or sells the calves as feeders.

If a particular calf is worth $20/head more than another calf when finished because of quality traits developed by the cow/calf producer, it's also worth $20/head more when sold by the producer. Similarly, if an animal is worth $20/head less when finished, it was worth $20/head less as a calf.

The challenge is to develop a market information system that recognizes these value differences and gets the $20/head back to the producer that generated the added value while paying the $20/head lower prices for lower quality animals.

To do this, fed cattle need to be sold on a grid that identifies and pays accurate value for finished animals. Second, cow/calf producers need to ensure they get information and value passed back to them. The producer can do this either by retaining ownership of animals through finishing or by developing some other kind of vertical alliance to guarantee them this value differential.

To be successful in this strategy, cow/calf producers must have detailed information about their calves' probable performance to make production and marketing decisions. With an average of $30/head pricing error when fed cattle are sold via live weight or dressed weight methods relative to grids, incentives for adopting new pricing and marketing methods are significant.

With this reward potential, comes increased risk and a need for intensive management. Detailed information is needed to reduce the chances of adverse outcomes and enable producers to make more informed production, management and marketing decisions.

Ted Schroeder is a Kansas State University agricultural economist in Manhattan. Phone: 785/532-4488; e-mail: [email protected]

Understanding Market Prices

Price discovery and price determination are not the same thing. But both affect the value of your calves.

You can affect the physical attributes of your calves by your breeding, cow management and calf handling programs. You choose when calves will be marketed, in what size groups and by what marketing method.

Calf prices some years are $90/cwt. and some years $120/cwt. In a $90 market, some producers receive $85 and others $95. In a $120 market, some producers receive $112 and others $128. Why? What causes wide swings in prices and the variability at any given time?

The example above illustrates two economic concepts — price determination and price discovery. The two are often confused and too frequently used interchangeably. While they are related concepts, they are different. Understanding the difference provides insight into what you can and cannot do to affect the value of the calves you raise.

Low or high cattle prices are related to price determination factors. Low calf prices result from supplies that are too large relative to the demand for calves. Widely varying calf prices, both above and below the market price level, result from many factors related to price discovery. These include quality and characteristics of the calves, the time and place calves are marketed, and the prospects for fed cattle profitability.

Price Determination

Price determination is the interaction of the broad forces of supply and demand that determine the market price level, whether it's $90 or $120.

  • For calves, the factors that affect the quantity of calves on the market include cow herd inventory and calving rate, cost of raising or buying replacement heifers, the cost of borrowing capital, and the availability and cost of forage.

  • The factors that affect the number and willingness of stocker/feedlot buyers to purchase calves include the price of grain and the expected price for fed cattle.

While supply begins with producers, demand really begins with consumers. The demand for calves is influenced by the packer demand for fed cattle, the wholesale demand by retailers for boxed beef and, ultimately, by the consumer demand for beef at retail supermarkets and in restaurants.

(Editor's note: For the supply/demand picture and calf price outlook, see Wayne Purcell's “The Demand Picture,” page 10.)

Price Discovery

Price discovery is the process of buyers and sellers arriving at a transaction price. For calves, it involves a specific quality (breed, frame, muscling, etc.), a specific quantity (few head or a semitrailer load), a specific time (day or week) and a specific location (local market in Alabama or direct trade in Montana). These are the factors that affect whether a producer gets $85 or $95 in a $90/cwt. market, or $112 to $128 in a $120/cwt. market.

The price discovery process begins with the market price level and the information available to the buyer and seller:

  • Are calves trading for $90/cwt. or $120?

  • What is the value of this sale lot of calves relative to the market average?

  • Are they worth more — or less — than the market?

Part of the information needed by calf buyers, therefore, involves the physical attributes that will influence the animals' stocker and feedlot performance, carcass characteristics and, ultimately, the eating quality of the beef produced from them. Another part involves the competition for the purchase of the calves. How many bidders want them? How many similar sale lots of calves are being offered at that time?

Market analysts constantly examine the changes in broad forces affecting supply and demand to understand and forecast the price level for calves. While most price discovery research in recent years has focused on fed cattle, research is available on the many physical attributes of calves that influence the final sale price for calves.

(Editor's Note: See “The Value Of Feeder Cattle Traits,” page 36, to learn more about the physical attributes that affect calf value.)

Discovery Vs. Determination

Price determination and price discovery are interrelated. Again, price determination finds the market price level. The relationship with price discovery involves whether or not satisfaction or dissatisfaction arises concerning price discovery.

Fig. 1 is a matrix showing potential price discovery problems or concerns under given supply and demand scenarios. When demand for beef is strong or expanding and when calf supplies are small or declining, price discovery problems are generally not a major concern (as indicated in the lower left cell of Fig. 1). Competition is generally keen, calf prices are strong and price discovery is thought to be efficient.

In contrast, the opposite conditions may exist. Beef demand may be weak or declining and calf numbers may be increasing through the inventory building phase of the cattle cycle. Under these conditions, calf prices are likely low and producers have heightened concerns about price discovery (as in the upper right). When these conditions occur, many factors become targets for producers' concerns, such as packer concentration, captive supplies and beef imports.

For the other two cells (upper left and lower right), limited concerns may exist. However, one side of the price determination equation, either supply or demand, differs from the other side. So, while one side is positive, the other is negative. The positive feature offsets the negative influence from the other.

Fig. 1. Price discovery concerns under alternative price determination conditions.
Demand for Beef
Strong or
Expanding
Weak or
Declining
Supply of Calves
Large or
Expanding
Potential
Concerns
Probable
Concerns
Small or
Declining
Unlikely
Concerns
Potential
Concerns

How does this affect cow/calf producers? First, producers must recognize that they have little effect individually on the broad forces of supply and demand. Individuals can't control the market price level (price determination). An individual increasing or decreasing the size of their cow herd has almost no effect on the calf supply.

However, all cow herd owners increasing or decreasing their cow herds at the same time greatly affects the calf supply. Cow herd owners react to the same price signals — higher prices signal to expand the herd and lower prices signal a cutback in cows.

You do, however, have more control over price discovery factors. Will your calves bring a premium relative to the market level or will they be discounted? You can affect the physical attributes of your calves by your breeding, cow management and calf handling programs. You choose when calves will be marketed, in what size groups and by what marketing method.

Understanding the difference between price determination and price discovery will illuminate what you can and cannot do. It will also help you focus on what you can do without fretting unduly over what you can't.

Clement Ward is a professor of economics at Oklahoma State University, Stillwater. He can be reached at 405/744-9821; e-mail: ceward @okstate.edu.

The Value Of Feeder Cattle Traits

Feeder cattle traits influence premiums and discounts paid under a value-based system.

Sex, weight, lot size, health, uniformity, condition, fill, muscling, frame size, breed and presence of horns all affect prices paid or received for feeder cattle.

A wide variety of characteristics affect feeder cattle prices. Obvious factors such as sex and weight have a big impact on price, but other factors can also affect prices received or paid for feeder cattle.

Good cattle managers pay attention to the values offered by the marketplace for various feeder cattle traits. They then manage their operations to take advantage of the premiums and discounts.

A number of studies have examined the factors affecting feeder cattle prices. Most conclude that sex, weight, lot size, health, uniformity, condition, fill, muscling, frame size, breed and presence of horns all affect prices paid or received.

Research also shows that discount and premium levels vary over time. Let's look at general trends affecting discounts and premiums.

Genetic Traits

  • Breed has a significant impact on feeder cattle price. Research indicates Angus or cross-bred Angus feeder cattle, based upon visual appraisal, receive price premiums relative to other breeds. Moreover, the marketplace's preference for cattle with Angus breeding appears to be increasing.

    For example, Kansas State University (KSU) research in the mid-1980s found that straight Angus feeder steers sold at a small discount to straight Hereford cattle. This had reversed by the early '90s and straight Angus cattle sold at a small premium to straight Herefords. Oklahoma State University (OSU) research found the premium widened further by the late 1990s.

    Why the shift? One likely explanation is that feeder cattle buyers are more concerned about carcass quality. They're more willing to pay for cattle based on expected carcass quality characteristics. For instance, cattle with more than 25% Brahman breeding consistently receive price discounts. Today's marketplace does differentiate between cattle with more than, and less than, 25% Brahman breeding based on visual appraisals.

    The early ‘90s KSU study found that cattle with less than 25% Brahman breeding received discounts less than half those of cattle with more than 25% Brahman breeding. OSU research in the 1990s, however, found cattle of more than 25% Brahman breeding received discounts nearly triple that of cattle with less than 25% Brahman breeding.

    Producers using this price information to determine which breeds fit their program should keep in mind that there can be cattle performance tradeoffs when selecting different breeds.

    For example, many Southeast cattle producers find the performance benefits associated with incorporating some Brahman breeding in their cattle offset the price discounts when the cattle are sold. But, the price trends clearly show the marketplace rewards producers who have identified the minimum amount of Brahman breeding necessary to maintain cattle performance.

  • Frame size and muscling. Feeder cattle buyers prefer heavily muscled cattle with large frame scores. Light- and medium-muscled feeder cattle were routinely discounted by buyers relative to heavily muscled cattle.

    KSU and OSU research found that cattle less than 600 lbs. and classified as light muscled were discounted $18-$26/cwt., compared to heavy-muscled cattle. Large-framed cattle, on the other hand, bring significantly higher prices than small-framed cattle. Feeder cattle buyers perceive that larger framed cattle have more growth potential and are less likely to incur packer discounts due to small carcass size.

    Data suggests the discount for small- vs. large-framed cattle is increasing. Discounts for small-framed feeder steers in Kansas vs. large-framed feeder steers increased from $5/cwt. in the mid '80s to near $9 in the early '90s.

    Lightweight, small-framed steers were discounted $10-$11/cwt. in both KSU studies. By the late '90s, however, OSU data found average discounts for lightweight, small-framed steers as large as $19/cwt.

Management And Nutrition

  • Health. Cattle buyers strongly prefer healthy cattle. Discounts for sick cattle are very large and can exceed the costs of treating those calves.

    The reason is twofold. First, when purchasing sick cattle, there is an elevated risk of death loss that must be considered. Second, research suggests sick cattle, even upon recovery, won't perform as well in a feedyard as cattle that were never sick.

    KSU researchers found discounts for obviously sick cattle ranged from the high $10s to the low $20s/cwt. OSU's work in the late 1990s indicates discounts for lighter weight sick cattle may be even more severe, averaging in the upper $20s/cwt.

    Even cattle with less severe health problems receive sizeable discounts. For example, cattle classified as “stale” received average discounts of $5-$9/cwt. Cattle with dead hair and/or mud were discounted $1-$3/cwt.

  • Condition. Cattle buyers generally prefer cattle purchased in average condition. Compared to average condition cattle, discounts for fleshy cattle range from $1 for feeder weight cattle to more than $3.50/cwt. for lighter cattle.

    Discounts for thin cattle, however, varied seasonally. In the spring, prices for thin cattle did not vary significantly from prices paid for average condition cattle.

    However, fall prices paid for thin cattle were more likely to fall below prices for average condition cattle. KSU research from the '80s and early '90s indicates thin yearling weight cattle in the fall received discounts averaging near $2/cwt. OSU research suggests lightweight cattle received even larger discounts in the fall than yearling weight cattle, averaging $3-$4/cwt.

    Discounts of thin cattle, particularly in the fall, probably relate to concerns over cattle health. Yet, both KSU and OSU research shows the discounts for thin cattle were separate from those received for sick cattle. That thin cattle discounts were larger in the fall than in spring implies buyers were concerned about cattle health during cold weather.

    Buyers also tend to discount fleshy cattle. Fleshy yearling weight steers received average discounts of $1/cwt. in the spring to $2 or more in the fall. Lightweight steers received discounts ranging from $2.50 to more than $3.50/cwt. Again, discounts for fleshy yearlings were larger in the fall than in spring, perhaps due to buyer concern over the performance of fleshy cattle on high-energy diets during winter.

  • Weight. Differences in feeder cattle prices across weights depend on the profitability of backgrounding and finishing programs. Moreover, expected fed cattle prices, feeder cattle prices, corn prices, interest rates and feeding performance all affect cattle feeding profitability. Since these factors can vary dramatically by time period, we'll consider some general rules of thumb.

    Generally, lighter weight cattle sell at a premium to heavier weight cattle. This is because the cost of 1 lb. of gain in a typical feeding program is less than the value of the gain when the steer or heifer is fed to a heavier weight.

    When feed costs rise, the premium of lightweight cattle over heavyweight cattle declines. In cases when feed costs are extraordinarily high, heavyweight cattle might sell at the same price per cwt. (or even a small premium) as light cattle.

    When evaluating the value of gain from a specific management practice, the value can be calculated by subtracting the value per head of the lighter weight animal from the value per head of the heavier animal. Then, to calculate the value of gain per cwt., divide the value of gain per head by the pounds gained and multiply by 100.

    Doing this prevents falling into the common trap of overestimating the value of the gain from a specific practice that occurs because heavier weight feeder cattle typically sell at a lower price per cwt. than lighter weight cattle.

Marketing Characteristics

  • Lot Size. Lot size impacts feeder cattle prices big time. Buyers strongly prefer buying cattle in lot sizes that will fill a truck.

    The preferred truck size seems to vary as cattle weight varies. Examining prices paid for steers weighing 600-899 lbs., the highest prices went to lot sizes of 60-80 head. This suggests buyers of feeder weight steers prefer shipping cattle in semi-trailers, perhaps to a feedyard.

    But buyers of lighter weight cattle seem to prefer smaller lots. Peak prices were paid for steers marketed in lot sizes of 30-50 head when steer weight ranged from 300-599 lbs. The difference in lot size preference suggests buyers of lighter weight cattle were often located near the sale site and planned to ship cattle in either pickup trailers or a single-or tandem-axle farm truck.

    The premium associated with selling cattle in buyer-preferred lot sizes is substantial. KSU research found that in the early '90s selling 300- to 599-lb. steers in lot sizes of about 40 head netted $7.50/cwt. more than if the cattle were marketed in a lot size of about 11 head. Yearling weight steers sold in the optimum lot size of about 70 head netted a price $4.50/cwt. higher than if sold in a lot size of 11 head.

  • Fill And Weight Uniformity. Feeder cattle marketed with above-average degrees of fill receive discounts compared to cattle with average fill. KSU research indicates yearling steers classified as “full” were discounted $1/cwt. in the early '90s compared to cattle with average fill. In contrast, 1997 OSU research showed lightweight steers and heifers classified as full received average discounts of $3 to more than $4/cwt. In both studies, cattle classified as “tanked” received large price discounts, ranging from $9/cwt. in Oklahoma (1997) to nearly $12/cwt. in Kansas (1993).

    Buyers also prefer uniform lots of cattle, but price differentials offered for uniform lots seem to vary. For example, uniform lots of yearling steers in Kansas received premiums of about 50¢/cwt. compared to lots classified as not uniform. However, there did not seem to be a corresponding premium for uniform yearling heifers.

    Similarly, researchers did not observe a lot premium for uniform steer or heifer calves marketed in Kansas in 1993. However, 1997 Oklahoma data suggests that lot uniformity resulted in premiums for lightweight cattle of just under $2 for steers to more than $2 for heifers.

James Mintert is a professor in the Kansas State University Department of Agricultural Economics. He can be reached at 785/532-1518; e-mail: [email protected].

Balancing Act

Today's cattle business is like a teeter-totter. On one end is an industry trying to settle into a system where dollars are passed along the production chain based on end-product quality and value. One the other end is a system of commodity marketing where quality and value take a backseat to low-cost production.

In the middle are a lot of ranchers trying to find a comfortable spot where they can balance reasonable input costs with a fair return.

When it comes to figuring out a fair return for a feeder calf, John Rose comes from all angles. Operating in Three Forks, MT, Rose manages the Park County Rancher's Marketing Association. He's also an order buyer. And, as a rancher, he has his own feeder calves to worry about pricing.

Five years ago, Rose thought the cattle industry would be tipping in favor of a value-based marketing system by now. He's still looking for that day.

“Everybody today is thinking about how to capture the value of their cattle. We're not there yet, but we've certainly intensified the thought process about what adds value and what cattle should be worth,” says Rose. “It used to be that we would just eyeball cattle and come up with a price. Now, we're needing more information about what they are and what they will do — then you can decide which way to go.”

He warns, however, that a producer first must make sure any performance information is collected over a long enough period of time and the data is accurate.

“You have to be darned careful when matching performance to a genetic program. If you have one year's feedyard data or carcass information, I'm willing to look at it. But, I'm not sure that with one year's data I can get more money for your calves.”

Conversely, if there is consistent information, for two or three years from a reputable feeder or packer where a producer can show that the cattle perform and hang well, Rose says he's in a position where he can get more money for the cattle.

The problem is they still have to be the right animals at the right place at the right time — and it all has to match the psychology of the market.

“Calves worth $1 today might not be worth $1 in a day or two or three — they might be worth more, they might be worth less.”

When pricing calves, Rose tries to figure a breakeven price on cattle coming out of the feedlot. Then, he works back from that point. First, he looks at the futures markets — managing risk on both the cattle and the corn they'll be fed.

“Then, I look at numbers like on-feed reports, marketings, time-of-year numbers projections — and come up with what I think the cattle will bring when fed,” he says.

Rose admits it's a difficult time to try and merchandise cattle. There are so many programs being promoted today, and some are like a mirage — always moving and changing.

“Just about the time a rancher thinks he's where he wants to be, the thing moves in a different direction or the rules change,” says Rose. “It's not going to be that way forever — there will be a shake-out.”

Some producers, he admits, will continue to be “low-cost,” commodity-calf producers who will put cattle up for sale.

“But, the next guy is going to be a higher-cost producer and his calves are going to be more friendly to some kind of alliance or retained-ownership program,” Rose adds.

For now, Rose thinks even commodity cattle are going to sell well due to strong demand and the current stage in the cattle cycle. His concern is what will happen when herd buildup begins or beef demand falters.

“Then, we're going to really start taking a hard look at the cattle that have information behind them,” he says. “The bottom line is that the more information you have, the more able you'll be to move with the markets and find that balance between commodity production and value-based marketing.”

Welcome To This Spring 2001 Cow/Calf Issue

To some it may seem odd that an issue entitled “What Are Your Calves Worth?” would use on its cover the image of a woman's manicured fingers drafting a personal check. While the image might run counter to the popular notion of who pays the dollars that pass between the beef industry's production segments, the depiction is precisely correct.

All dollars that pass within and between the segments of the U.S. beef industry flow from only one source — the consumer. As a result, giving consumers the beef products they desire — in the form, quality and value that they desire them — is the key to the future and prosperity of the beef business.

That mindset is overtaking the industry. Increasingly, beef producers are adopting the philosophy that their responsibility for quality goes well beyond the gate and all the way to the plate. The result is that more producers are seeking to document and build that quality into their herds and want to be rewarded for it.

Just a few years ago, 15% of fed cattle in the U.S. traded through forward contracts, formulas and marketing grids rather than on a cash basis. In 2000, the figure was 40%, and it will continue to grow.

The situation presents both opportunities and challenges to cow/calf producers. To address these concerns and questions, we've compiled a series of articles produced by the country's top marketing experts. To further illustrate the “on-the-ground” application of these concepts, we've included vignettes detailing producers' experiences with data-driven management and marketing. I hope you find this package useful in seeking your opportunities and fine tuning your competitiveness in this new beef cattle business.