In commodity production, high prices are the result of more demand than supply.
In the past 20 years, the pork industry has been fortunate to increase demand through exports. More demand than supply results in high prices and creates profitability that attracts financial capital. As capital rushes to the higher rates of return, pork producers inevitably increase productive capacity which eventually increases supply and pressures market prices.
As supply and demand find equilibrium, low prices result. There’s an old saying that “low prices are the cure for low prices” causing producers to slow expansion or even reduce supply.
As we experience another period of oversupply in pork production, producers are again looking for strategies to survive and thrive through this cycle of oversupply and low prices.
Managing through periods of low prices
When periods of oversupply and low prices occur, it’s time to evaluate business strategies that improve cash flow and preserve equity. Unfortunately, during these times, it’s too late to improve working capital, hedge price risk or other business strategies employed during good times with an eye on future low prices.
The following strategies may be helpful in the midst of pressures from low prices.
1. Evaluate your assets
During periods of oversupply, low prices pressure producers to reduce the supply of pigs. This leads producers to evaluate decisions about whether their production facilities should remain in service. While these decisions are complicated and emotional, they require careful analysis and objective decision making focused on preserving equity during times of equity erosion.
Generally, the industry will reward those assets that are the most productive, least susceptible to disease, most sustainable, most employee friendly and have the most remaining useful life. If your assets are disadvantaged in any of these areas, an objective evaluation should be considered.
2. Optimize return over feed costs
During periods of low prices, it’s time to evaluate business as usual. While your production system is designed to produce 285-pound market hogs, you should prudently balance the needs of your packer with an investment in additional feed, labor and yardage that may not contribute to your bottom line.
3. Defer capital purchases
Producers in a strong financial position have often expanded their operations during periods of low market prices and stress. However, if your balance sheet is short on working capital, deferring capital purchases is a strategy that will conserve cash that can be repurposed to weather the storm.
4. Reduce equity draws
It’s human nature to let lifestyle expand as disposable income increases. During times of prosperity, farm families like the general population often see their lifestyle improve. During times of low prices, it’s time to take a careful look at discretionary spending.
5. Defer debt service
Also called forbearance, working closely with your lender to defer principal payments is another way to conserve cash during periods of low prices. This option should be a last resort.
Jim Marzolf Vice President - Pipestone Business Services