Milk basis: What does that really mean?
Tuesday, September 4, 2018
Posted by: Joanna Guza, digital communications manager
By Mark Linzmeier, certified public accountant & CEO of MARGINSMART
Milk basis is crucially important because it determines the final pay price that a dairy farm receives for its milk monthly and differentiates how dairy plants pay the farms supplying them with milk.
Technically, basis means the difference between a quoted (or benchmark) price and the price that an individual market participant receives for the same commodity. As it relates to milk, the Upper Midwest generally uses the Class III price as the benchmark.
A number of factors influence basis levels. These include items controllable by the dairy producer, such as component percentages, somatic cell count and other quality factors. Producer price differentials (PPD) determined by the Federal Milk Marketing Order contribute to basis. The dairy plant impacts the final basis levels significantly via the premium programs offered, the amounts actually paid for the FMMO-stated component prices and the PPD, market adjustments and, ultimately, the amount of hauling and checkoff charges.
Milk basis will vary throughout the year primarily due to fluctuations in component percentages and to some degree PPD, SCC and other quality factors. Milk basis is also highly correlated to supply and demand levels.
In recent years, basis in FMMO No. 30 has deteriorated despite higher component levels. The primary reasons for this vary by dairy plant, but they may include one or more of the following:
- Not paying the full FMMO price per pound for component values
- Not paying the full PPD level
- Reducing payment rates for various plant premium programs
- Increasing hauling charges
- Market and other adjustments — most prevalent with coops
I anticipate that the net milk basis will continue to contract in 2018 and until milk supply and demand equilibrate in FMMO No. 30 and the United States. Therefore, the following are key items to consider:
Review your milk settlement statement monthly. If your plant does not specifically show both the FMMO and plant prices being paid for PPD per cwt. and prices per pound of each component, calculate them yourself to see how your plant compares.
Create a historical summary of each portion of your basis.
Consider the impact of items that the dairy farm can control related to milk basis (component percentage, SCC and other quality premiums) and items that are purely managed by the milk plant.
Use the information to make management changes to improve basis where possible, project future milk prices or to evaluate your dairy plant.
MARGINSMART’S SMART MILK BASIS peer group in FMMO No. 30 has seen its net milk basis drop 80 cents per cwt. from 2014 to 2017