Are the Most Efficient Herds the Most Profitable?

9/16/2020

Are The Most Efficient Herds The Most Profitable?

As the dairy industry continues to consolidate, there is growing pressure on individual farms to increase profitability, find marginal returns, and improve management. Typically, dairy managers rely on their team of consultants to help them with these challenges. Veterinarians maximize cow health; bankers give financial advice; and nutrition consultants fine tune diets to maximize profitability.

In the process of fine tuning diets, many nutritionists rely on efficiency calculations to make decisions. It is often assumed that maximum profitability goes hand in hand with maximum feed efficiency. There are numerous ways to calculate feed efficiency, but essentially a production parameter, like energy corrected milk or pounds of components, is divided by pounds of dry matter intake. While these calculations are useful, they do not consider two important economic concepts: marginal returns and the law of diminishing returns.

The concept of marginal return is useful for evaluating profitability. Marginal returns are calculated with subtraction instead of division. By subtracting the investment from the return on investment, producers are able to evaluate when actual profitability is maximized. For example, a 10 cent return on a 9.9 cent investment only has a 10% efficiency, but it was still profitable by 0.1 cents.

The law of diminishing returns is an economic concept that can be applied to cow biology. Additional input will increase production up to a certain point. Once this point is reached, additional input yields diminishing increases in production. After a period of diminishing returns, additional input hinders production and creates negative returns.

Diet 1

Diet 2

Diet 3

Diet 4

Diet 5

Feed Cost

$5.50

$5.60

$5.70

$5.80

$5.90

Milk (lbs.)

85

90

92

93

93.5

Milk Income

$14.49

$15.34

$15.68

$15.85

$15.93

IOFC

$8.99

$9.74

$9.98

$10.05

$10.03

Efficiency

2.63

2.74

2.75

2.73

2.70

By combining these simple economic concepts, it becomes clear that peak efficiency and peak profitability do not occur at the same point. The table illustrates a hypothetical cow fed diets that increase in investment by 10 cent increments. Milk production is corrected to 3.55% fat and 3.1% protein and components are priced at Michigan Class III from December 2017. Income over feed cost (IOFC) is a marginal return calculation that subtracts feed costs from milk income. Efficiency is calculated by dividing milk income by feed cost. Due to the law of diminishing returns, a cow will not continue to increase production linearly with increases in investment. At some point there will be a diminishing response in production.

In this hypothetical example peak efficiency occurs at a lower level of income over feed cost. If the nutritionist was aiming for peak efficiency, then the producer would be losing out on 7 cents per cow per day. Over the course of a year on a 1,000 cow dairy, that amounts to $25,550 in lost income. Efficiency calculations have their place, especially in regards to cow biology, but are limited as a sole measure of profitability.

 

What does peak efficiency look like on your farm?

  1. Your nutritionist is concerned with feed conversion, feed efficiency, and other efficiency calculations outside of questions related to cow health and biology.
  2. Diet changes are obvious. If the last diet change improved IOFC and efficiency, then the herd is most likely on the linear, low production part of the law of diminishing returns curve. In the table above, diets 1 and 2 are on this portion of the curve.

What does peak profitability look like on your farm?

  1. Your nutritionist is concerned with profitability and uses efficiency numbers to evaluate cow biology.
  2. Diet changes are hard to evaluate. If the last diet change was narrowly profitable, the herd is most likely on the curved, diminishing returns part of the curve. Diets 4 and 5 from the table above are on this portion of the curve.

Ask your nutritionist what they think about feed efficiency.

 

Image from: https://personalexcellence.co/blog/law-of-diminishing-returns/

Tags: income over feed costs