Sample Pork III, USA, applies standrads to 12 months of its financial transactions and production information.
To illustrate the application of National Pork Producers Council (NPPC) Production and Financial Standards in the real world of pork production, let's examine the 1999 production year of a 2,400-sow, farrow-to-finish farm.
This farm, Sample Pork III, USA, is a typical, three-site production unit with separate farrowing, nursery and finishing contract growers. To produce this illustration, 12 months of financial transactions have been converted to the standard financial statements consistent with the NPPC chart of accounts.
Production information for breeding and growing pigs has been transferred from the farm's existing production records system to a format that uses NPPC standard terminology. This work illustrates the application of the standards to a medium-sized, farrow-to-finish entity that uses contract grower partners.
Members of the NPPC Joint Committee of Production and Financial Standards have developed close to 200 standard calculated measures. Measures, equations and sample calculations are reported in the NPPC Production and Financial Standards Technical Resource Manual. Visit www.nppc.org for further information or contact Jenny Felt at (800) 767-6888 or [email protected] .
Over time, pork industry databases will evolve to provide data necessary to test the importance of each measure. New measures found to be reliable indicators of profitability, liquidity, solvency and sustainability will find their way into common usage. Measures found not useful or that fail to discriminate will fall by the wayside.
Sample Farm Background
The land forming the core of the sample farm was acquired in 1972. Management began actively acquiring land beginning in 1988, and the farm grew to the existing ownership of 300 acres by 1996.
In 1994, the corporation was an 800-sow, farrow-to-finish operation with relatively old buildings and poor design. The operation entered a contract with a major packer to provide finished animals under a price-risk share agreement in 1995. This shifted the focus of the farm toward expansion, tripling its size to a 2,400-sow facility built with the help of contract growers.
Products and Markets
The corporation produces hogs under contract to a packer. The basic terms of the agreement are:
The corporation supplies 50,000 head annually with options to supply an additional 10,000 head under a risk sharing agreement.
The price is market price within a range/hundredweight. Above and below the range, the difference is split 50-50.
The contract calls for paying a premium for specified quality characteristics.
The current contract expires in 2002 and is under renegotiation at press time. Management indicates they are in the process of renegotiating the contract to achieve slightly different terms, including an evergreen clause. Ideally, the management also would like to see an absolute floor in pricing as well as an increase in the production quotas and ceilings. Management is optimistic that a new contract will be negotiated and in place before the end of 2001.
The largest supply required by the corporation is feed for livestock. Feed is purchased based on a cost-plus contract. The farm has the opportunity to lock in feed purchase costs for up to six months at any time.
The corporation also has agreements with other individuals to finance and construct pork production facilities on their land. The landowner owns the facilities and typically enters a 10-year agreement with the corporation.
Pigs from nursery sites flow into five finishing complexes according to a dedicated pattern. The corporation provides stock and feed, as well as management, and pays a fee to the landowner for the use of the facilities and labor costs.
These agreements account for nearly 100% of the production capability. At press time, these agreements have an average of five to six years remaining and are renewable by the parties.
The corporation continues to strive to produce hogs in the most efficient manner possible and to lower breakeven points to preserve and increase margins in times of declining prices.
In addition, management continues to seek more favorable terms in the contract with the primary purchaser and to pursue expansion of the production capability without the investment in long-term capital. This expansion of production capability will occur through additional contract relationships with producer/landowners as described above.
At press time, the farm and its associated growers use a mixture of proprietary production and accounting software (including PigCHAMP, PigWIN and Farm Business Systems). Several custom spreadsheet templates have been built to record, analyze and report both production and financial data in a consolidated format.
Monthly profit and loss statements and balance sheets are produced as well as a comprehensive borrowing base report for the senior secured credit holder. Annual cash flow forecasts are produced in September-December for the coming year and are used to create a budget-variance management scheme for the swine manager.
As of Dec. 31, 1999, the corporation reports total assets of $2,178,214 and interest bearing debt of $943,049. Asset totals have fluctuated between $1.8 million dollars and the current level during the last four years. From 1995 to 1999, the farm acquired fixed assets representing a net gain of approximately $1 million.
Sales have fluctuated as production capabilities increased from 1995 through 1997. Total revenue declined in 1998 due to market prices reaching the lowest point in 35 years for live hogs. Hog prices dropped below $30/cwt. in September 1998 and did not exceed that level until April 1999. The lowest market price received was $14.60/cwt. in December 1998.
The corporation neared the production cap of the contract with their packer in 1998. They anticipate increasing the cap when expansion is undertaken. The corporation has the capability to preserve some margin through hedging activities and regularly pre-prices grain purchases.
After two consecutive years in which pork producers suffered large losses, they now benefit from increased demand, higher prices and lower feed costs.
U.S. commercial hog slaughter totaled 101.5 million head in 1999, up 1% from 1998. About 98% of the 101.5 million head were slaughtered under federal inspection. More than 900 plants operate in the U.S. under federal inspection; an additional 2,400 are under state inspection.
Due to the volume of production and geographic location, this farm is limited to four major packers within a 500-mile radius.
The severity of the health and environmental problems alleged against large-scale swine operations also has had an impact in some states.
Some states have moratoriums on the building of any new hog facilities, while others are developing plans to phase out lagoons or require existing lagoons to be covered. Other proposals would require groundwater monitoring and/or impact statements with respect to protected and endangered species.
The state where this farm operates does not have a moratorium on additional construction, but the types and complexity of required permits have increased.
The principal business objectives of the sample farm are:
To consolidate and expand the production of the farm by 2,400 sows, accomplished with contract growers.
To acquire additional finishing and nursery facilities from contract growers to manage the total flow from these four farrowing facilities.
To renew the contract with packer to establish a long-term, risk-sharing agreement for all hogs produced and to achieve an evergreen provision to ensure the orderly marketing of future flows sufficient to acquire needed capital.
To maintain dedicated flows of the pigs to downstream production facilities.
To manage the marketing of the finished animals to reduce sort loss and take advantage of the asymmetrical sort-loss premium structure of the packer.
The principal personal objectives of the sample farm include:
To simplify and further establish standard operating procedures in order to allow the general partners more time for strategic planning and general management activities.
To transfer the assets of the farm over time to the farm heirs.
The balance sheet for Sample Pork III shows the financial state of the business as of Dec. 31, 1999.
Assets, liabilities and equity are reported on a cost basis. Nothing is remarkable about the layout of the balance sheet, which should be familiar to most readers. The balance sheet conforms to Farm Financial Standards Council recommendations and was produced from an audited statement for the years indicated. It complies with generally accepted accounting principles (GAAP.)
Whole Entity Report
Inputs from the period-beginning and period-ending balance sheets provide some of the data elements for the Whole Entity Report (page 20). Other data elements pertaining to revenue and income expenses, debt service and taxes and withdrawals also are included.
The CD-ROM of the Technical Reference Manual will allow you to print these pages in color so you can refer to colors when looking at the reports. The output of the whole entity report is consistent with the Farm Financial Standards Council's (FFSC) “Sweet 16” financial measures. (In most Farm Financial Standards Council reporting, inventory is valued at market. However, in the pork standards, inventory is valued at cost. This is not inconsistent with FFSC, but cost is rarely used in FFSC reports.)
Beginning with the whole entity report, the liquidity of the farm is excellent as measured by a current ratio of 2.93. A moderate level of debt is reflected in a debt-to-asset ratio of 0.43 and a substantial equity-to-assets position of 0.57.
The rate of return on farm assets and equity is nearly 10%. The asset turnover ratio for the farm is 1.19. This reflects the contract arrangement of the farm. An average asset turnover for high-performing, farrow-to-finish farms that are wholly owned (no contracting) is about 0.90. The 1.19 value for this farm reflects the fact that most of the fixed assets are carried on the balance sheets of contract entities supplying facilities for the farm.
The farm has been able to operate efficiently and mitigate the effects of relatively low prices in the 1998-99 period by contracting its sales with a packer and by postponing the purchase of new fixed assets.
In order to facilitate the acquisition of new contract growers during the start-up period of the farm five years ago, the owner subsidized the investment in contract facilities by about 10% of new cost. This also aligns incentives and demonstrates commitment to partner farms. The owner believes this also has encouraged the stability of pig flow and the maintenance of pig flows conducive to modern health strategies.
Even though the average price received for this entity in 1999 was in the mid-$30s/cwt. live, the year began with prices below $30/cwt. live and did not rise above $40/cwt., except for very brief periods. The risk-sharing contract with the packer helped to mitigate the absolute bottom faced by cash market sellers. The reasonable rates of profitability and return to assets and equity reflect a strong performance and good cost control in spite of generally low output prices.
Total Pork Report
The Total Pork Report (page 21) data elements summarize the productivity of the stages that comprise the pork production systems of the business entity. In addition to data elements from the financial record system, data elements derived from the production records system also are incorporated.
Pork producers typically record feed disappearance in production records systems and feed purchases in financial records systems. Thus, it is recommended that feed expenses and quantities in each system are compared and discrepancies resolved before generating feed expense data elements. Where it is impossible to resolve discrepancies, the financial record should prevail, as purchase records likely are more accurate than feed use records.
Inspection of the population block of the total pork report “productivity measure” shows that the production system involves breeding, nursery and finisher pig stages.
Measures under the sales information heading indicate that, while no weaned or nursery pigs were sold during 1999, 20.30 finisher pigs/breeding female (owned)/year were marketed. (The appropriate management accounting approach for such a system would be to treat pork sales as a profit center and the breeding, nursery and finishing stages as cost accumulation centers.)
Working capital (pork)/breeding female ($579) is reported on a market basis. Most lenders suggest $400/ breeding female for a farrow-to-finish farm is a safe and stable level of working capital to maintain.
On a cost basis, non-current assets (pork)/breeding female ($149), total assets (pork)/breeding female ($941), non-current liabilities (pork)/breeding female ($151) and equity (pork)/ breeding female ($534) are reported as of Dec. 31, 1999. The relatively low non-current assets/breeding female reflects the low investment in fixed facilities associated with a contract operation.
The total pork report also includes productivity measures indicating head, live weight and carcass weight sold/$1,000 of working capital, non-current assets, total assets, non-current liabilities and equity/year. Although the NPPC chart of accounts supports recording of pig sales on a “per head”or “per cwt.” basis, sales on a carcass weight basis are calculated when the risk of double accounting is not expected.
Most growing pig production records systems accommodate carcass weight data.
While the numbers shown in the body of the total pork report productivity measures appear very competitive, we currently do not have access to comparable data from other farms. However, it is anticipated that these numbers will figure prominently in future benchmarking reports.
The average inventory in the nursery phase was approximately 7,271 pigs (see productivity measures by production stage report, page 24). Pigs enter the nursery through owned contract production from the sow herd. All pigs entered the nursery facilities at an average weight of 9.9 lb. and left the nursery for contracted and owned finishing facilities averaging 46 lb. Average length of stay in the nursery phase was 54.6 days.
Growth rate in the nursery facilities was 0.65 lb./day consuming 1.55 lb. of feed/lb. of gain on a live-weight (close-out) basis.
Total expense of the nursery phase as a percent of total production cost was 18.5%.
Feed expense was approximately 11.6% of total feed costs. No sales of nursery pigs were recorded in 1999.
The average inventory in 1999 in the finisher stage is approximately 19,877 head (see productivity measures by production stage report, page 24). This indicates the finisher is turning about 2.37 times/year including down days for cleaning, etc.
Pigs enter the finishing phase at an average weight of 46 lb. and leave at an average weight of 259.4 lb. This sale weight includes the pigs sold out of the finisher at less than ideal weights (substandard finisher pigs); 96% of finisher pigs are sold as standard weight animals. The decision to label a pig substandard was made on the basis of receiving a lightweight sort dock, which is a liberal standard.
The average days in the finisher are 153.7. Average daily gain in the finisher is 1.42 lb./day with an average feed/live weight gain of 2.92.
Feed expenses of $12.85/cwt. of live weight gain reflect the near historic low in feed ingredient prices experienced by the industry during this period; 73.6% of total feed was consumed in the finisher representing about 29.5% of gross revenue.
Approximately 54.1% of total production expense was incurred in the finisher phase.
Breeding Herd Productivity
As indicated by the red, boldface font of the data elements and productivity measures, using data elements from the production records system alone, produces the breeding herd productivity tree report (p. 25).
During 1999, the breeding herd production stage of Sample Farm III, USA, produced 23.76 weaned pigs/mated breeding female/year. Total born/birth litter for 1999 averaged 11.70 with live born at 10.66 pigs/litter.
Preweaning mortality was higher than average at 15%, yielding 8.87 weaned pigs/wean litter. Litters farrowed/breeding female/year was 2.42. This is above average for a successful, modern operation. The average lactation length was 15.9 days reflecting an early weaning strategy.
More Sample Farm Reports
The sample farm reports contain a great deal of information. Some measures, in particular those in the whole entity and breeding herd productivity tree reports, are familiar to most producers.
The Profits, Taxes and Equity Adjustments Report (page 25) offers additional financial information on this sample farm. Likewise, pig flow, pork sales revenue, production expenses, assets (page 28), liabilities (at right) and equity reports for this pork enterprise provides additional details about the operational condition of this sample farm. Production and financial databases containing similar measures from hundreds of farms already exist.
Therefore, many producers are comfortable and confident in speculating how this sample farm might compare with its peers in these areas.
For the first time, the NPPC standard terminology, calculations and reports provide a level playing field for benchmarking performance across all types of pork production systems. Knowing how your operation stacks up against others regarding labor use efficiency, production costs, capital investment, leverage, return on assets and return on equity — in addition to traditional productivity and efficiency measures — can provide you with the competitive edge that will ensure your business success.
Dennis DiPietre, Independent Consultant, Columbia, MO
To request a printed copy of this article and accompanying sample reports and educational spreadsheets, please click here to e-mail Jenny Felt or call (800) 767-6888.