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Herd Size Strategy
Cow-calf producers should strive to allocate the fixed set of ranch resources (land, labor, management and capital) in the most optimum way. The cyclical nature of beef cattle prices offers producers the opportunity to improve and reduce the variability of returns by changing the mix of cow/calf and stocker enterprises on the ranch. Strategic cow culling and retained ownership (stocker) decisions should be made jointly. Decisions should be based on the best use of available forage production. In most situations, other ranch resources (labor, management, and capital) would be available to handle home-raised calves carried to heavier weights on the ranch. The focus here is on returns to the fixed forage asset. Other types of (off-ranch) extended ownership (wheat pasture, feedlot, etc) are not in the scope of this discussion. The attractiveness of off-ranch retained ownership programs is primarily a question of where capital should be invested.
Cattle Cycles
Cattel inventory cycles are an institution in the cattle business. Figure 1 shows six such cycles since 1938. Cycles of prices are the market's way of forcing the industry to make adjustments in production. These cycles are persistent and rather extreme because the industry's ability to make adjustments is retarded by a very complex production and marketing structure and by the information and biological lags that affect the timing of decision-making and resulting changes in production. It is the goal of this paper to help producers recognize these market signals and make adjustments voluntarily rather than being forced to do so by adverse financial outcomes.
Producers often make production decisions based on current prices rather than expected profits. The cattle price cycle is inversely proportional to the cattle inventory cycle (figure 2). When prices are high, producers decide to increase herd size and produce more feeder cattle. They begin saving heifers for breeding and not culling cowherds as much as usual. Then the supply of available beef is reduced and prices rise. By the time heifers are saved for breeding, are bred, calve, and the increased supply of feeder cattle is fed to slaughter weight, prices are no longer as high. In response to lower price, herd size is reduced. Cows are sent to slaughter and heifers are sold instead of retained as replacements for the herd. That increases the supply of beef, and cattle prices decline. When the supply of beef begins to decline, prices rise and the cycle begins again.
Culling cows for productive reasons is an on-going process. Cattlemen get rid of poor producers, open cows or those that become unsound physically. Sometimes, ranchers find it necessary to decrease cow numbers due to drought or other conditions limiting forage production. However, some culling is subjective and fits into the strategic considerations whereby cattle production is adjusted to cyclical market conditions. For example, the old cow with enough teeth remaining to get through another winter. Whether to cull her or not should be guided by market conditions. Distressed culling of cows due to drought or other reductions in forage supplies is usually financially detrimental. Mixing cow/calf and stocker enterprises allows greater flexibility to deal with variable forage production and maintain profitability.
There are other considerations that make keeping some calves past weaning attractive. Generally, the value of stocker weight gain is higher when the price spread between calves and feeders narrows. The price per pound is normally higher for lighter weight cattle that it is for heavier cattle (negative margin or price rollback). For stocker (or feedlot) production, a bigger price rollback mean that the value of weight gain is less because it takes more pounds of gain just to get back the original investment in the animal. Typically, when cattle prices are high the rollback is also bigger. Thus, retained ownership is less attractive when prices are high. When prices are low, the rollback is usually small, so the value of gain is higher and retained ownership is more attractive.
In situations where forage is limited, and expensive, the producer needs to study the tradeoff between keeping stocker cattle versus cows. Stocker cattle are usually cheaper to maintain than cows. Minimizing losses requires the same decision process as maximizing profits, and cost management is the area where producers can do the most to help themselves in poor market situations.
It is awkward for producers to think about keeping stocker cattle when prices are falling. Adjustments in production must also be matched with adjustments in risk management. Periods when prices are falling are when forward-pricing cattle (cash or futures) is attractive. However, basis risk for calves is difficult to determine. When cattle prices fall, calf basis gets worse. Thus, it makes sense to retain heavier feeders, which will have a better (more predictable) basis and lend themselves better to hedging programs.
Culling and Retained Ownership Strategy
The basic market signal when prices are low is to not produce as many animals. The incentive is to have fewer cows and keep calves to heavier weights. The flat price relationship (small rollback) makes stocker gains more valuable.
The message is greatly enhanced when cattle cycle effects are combined with extremely high grain prices, which send a strong signal to minimize grain use in cattle production. This further emphasizes stocker production.
If, for example one can sell 500 pound calves for $65/cwt and 800 pound feeders for $62/cwt., the manager might as well run fewer (high maintenance) cows and grow his calves to heavier weights, thus selling bigger cattle. The marginal value of the 300 pounds of gain in this example is $57/cwt.
When 500 pound calves are selling for around $100/cwt and 800 pound feeders are $80/cwt, the marginal value of gain is only $47/cwt. In this case, it would have been best to have more cows in production and sell additional calves at weaning (for $100/cwt) rather than selling fewer bigger feeders.
General action plan for a typical cattle cycle
The strategy is to have the ranch fully stocked with cows during profitable years and a smaller number of cows producing calves in unprofitable years of the cattle cycle. The general idea is straight forward, but as always, anticipating the turning point and getting the timing right is the hard part. Historically, cattle price peaks early in the decade (1980, 1991) and bottom after the middle of the decade (1975,1986,1996). Following is a summary of action that could be taken by cattlemen to be more financially "in-step" with the cattle/price cycle. If we have another typical cattle cycle, the next few paragraphs suggest the best course of action for the next decade.
When Prices are high, the number of cows in a herd practicing strategic culling should have peaked to allow maximum calf sales. There is no room or economic incentive to grow calves to heavier weights. Also, the producer can take advantage of his young cowherd by selling more heifer-calves and postpone the culling of cows. This is generally where cattle prices are now (2001-2003) in relation to the current cattle price cycle.
When prices are falling (or expected to fall) older and less productive cows should be culled while their value is still relatively high. Strategically, cattlemen should begin culling cows and retaining calves at or just after the peak market (2004) and expect prices to fall through the end of 2006. The additional space created by heavy culling of cows can be utilized through some home-raised calves kept past weaning. Because the rancher expects prices to fall based on the cattle/price cycle, it is important that he use risk management to minimize the impact of the falling cattle price.
When prices are low, our producer would have anticipated this market and his individual herd size should be at a minimum level. Forage value is higher for stocker production as calf prices drop relatively more than feeder-cattle prices. Moreover, when at the cyclical bottom in prices, there is the potential to hit a speculative homerun just by owning stocker cattle when prices start to go up. Looking at the cattle cycle, one would anticipate the next bottom in prices to occur around 2007.
When Prices are low and rising (or expected to rise) it is the time to build herd size by retaining heifers or buying cows while prices are low. It would also be a good idea to replace older cows with younger cows to increase herd productivity. The timing should be right for the cattleman practicing strategic culling to rebuild numbers in 2008 to 2009.
Constant investment is a simple strategy to adjust herd size in response to market signals driven by the cattle cycle. An Iowa State University study compared two heifer replacement strategies over a twenty-five year period. One strategy retained the same number of heifers each year to maintain a constant herd size. The second strategy retained the same dollar value of heifer calves each year based on their opportunity cost as feeder calves. Thus, more heifers are kept during the low part of the price cycle, but they would produce calves that are sold during the high part of the price cycle. The constant investment strategy herd size varied (80 to 160 cows) over the time of the study, but generated higher average annual profits (40%) and a higher net worth ($100,000) at the end of the period than did the more traditional constant herd size strategy. Constant Investment had a lower minimum return and a higher maximum return compared to keeping the same number of replacement heifers each year. This variation in annual profit could be minimized and profit boosted further if the retained ownership strategy discussed above were practiced.
In summary, the cattle/price cycle in quite predictable. Because of the length of the cycle (10-12 years), heifers kept for replacement cows during the lower part of the price cycle will produce calves that will be sold during the higher part of the price cycle and vice versa. Ranchers who pay attention to the cattle cycle and increase calf production for profitable years and reduce production for unprofitable years will receive higher profits. This change in cow/herd size requires that the producer reallocate resources to some enterprise other than cow/calf production as unprofitable years' roll around. Utilizing the extra forage, resulting from a smaller herd size, with ranch raised calves kept past weaning fits economically with the strategy of adjusting herd size based on where we are in the cattle cycle. When prices are low, the rollback is usually small, so the value of gain is higher, and retained ownership is more attractive.
Anticipating general turning points in the cattle cycle is easier said than done. However, market signals driven by the cattle cycle provide cow owners an opportunity to invest more profitably in beef cow/herds. Following a simple "dollar cost averaging" investment strategy used in the stock market produces higher average profits and greater net worth than does a more common constant herd strategy.
Kent C. Barnes
OSU Area Extension Livestock Specialist
Muskogee, Oklahoma
