Dairy Marketing Dr. Roger Ginder Econ 338 Fall 2009 Lecture #22

PROCEDURES FOR CONSTRUCTING CLASS III PRICE Component values are based on actual product values in the market place –Butter –Cheese –Dried whey Formulas used to decompose the product values into prices for components into “prices” for –Butterfat –Protein –Other solids Formulas also incorporate: –Yield of product –Cost of manufacturing

BUTTER FAT FORMULA Butterfat price/lb = (NASS monthly price Grade AA – $0.114)  0.82* Where: $.114=make allowance 0.82=yield factor for butter* Note: * Yield factor = Lbs. of butterfat required to make a # of butter + U.S. butter is only 80% butterfat but manufacturing losses of.02% occur + Thus.02 is added to the yield factor (1)

DERIVATION OF CLASS III PRICE FROM PRODUCT PRICES NASS 4-week Butter price Butter fat price/lb NASS-4 week Cheese Price Protein price/lb NASS 4-week Dry whey price Other solids price/lb Class III skim price/cwt. Class III price /cwt. F(BF) F(P, BF) F(W) X 3.5# X 3.1# X 5.9#

CALCULATING OTHER SOLIDS VALUE Other solids value/lb = (NASS monthly dry whey price - $0.137)  Where: $0.137 = make allowance for whey = yield factor for dry whey* Note: A lb. of other solids yields slightly more than one lb. of dry whey because dry whey contains slightly more than 3% moisture. Therefore yield factor of < 1 used. (6)

DERIVATION OF CLASS III PRICE FROM PRODUCT PRICES NASS 4-week Butter price Butter fat price/lb NASS-4 week Cheese Price Protein price/lb NASS 4-week Dry whey price Other solids price/lb Class III skim price/cwt. Class III price /cwt. F(BF) F(P, BF) F(W) X 3.5# X 3.1# X 5.9#

INTERPRETATION The value of dry whey to a plant producing dry whey is the price of dry whey less the make allowance  by the number of lbs of other solids needed to make a pound of dry whey.

DERIVATION OF CLASS III PRICE FROM PRODUCT PRICES NASS 4-week Butter price Butter fat price/lb NASS-4 week Cheese Price Protein price/lb NASS 4-week Dry whey price Other solids price/lb Class III skim price/cwt. Class III price /cwt. F(BF) F(P, BF) F(W) X 3.5# X 3.1# X 5.9#

The cheese price is calculated using the weighted average of two styles of cheddar - 40# blocks of cheddar - 500# barrels of cheddar The two types are weighted by sales The 500# barrel is the base and blocks are assumed to be worth 3¢/lb more (i.e., add manufacturers costs (Note: when we looked at cheese prices earlier this term the spread was wider than 3 cents)

PROTEIN TO CHEESE YIELD FACTOR Van Slyke cheese yield formula “TRUE” protein now used in calculation Prior to January 1, 2000, crude protein was used Crude protein based on nitrogen content True protein = crude protein – non-protein nitrogen found in the milk Cheese yield # / # protein Make allowance is approx $1.70/cwt or about $.17/lb

PROTEIN FORMULA (VALUE) Protein Price Per lb. = (NASS monthly cheese price - $.1702) x {[(NASS monthly cheese price - $.1702) x 1.582] – Butter fat price} x 1.28 Where Line 1 is the net value of protein in cheese. The net value of protein is defined as the cheese price less the make allowance X the number of lbs. of cheese that can be made from a lb. of protein. (7)

DERIVATION OF CLASS III PRICE FROM PRODUCT PRICES NASS 4-week Butter price Butter fat price/lb NASS-4 week Cheese Price Protein price/lb NASS 4-week Dry whey price Other solids price/lb Class III skim price/cwt. Class III price /cwt. F(BF) F(P, BF) F(W) X 3.5# X 3.1# X 5.9#

(7) Protein Price Per lb. = (NASS monthly cheese price $-.1702) x {[(NASS monthly cheese price $-.1702) x 1.582] – Butter fat price} x 1.28 Line 2 is designed to account for the cheese value of butterfat in excess of its value in butter. Protein (in particular casein) functions to retain butterfat in cheese Thus Line 2 recognizes that the value of protein exceeds the mere volume it contributes to the cheese The formula incorporates the value of butterfat in cheese less the value of butterfat in butter adjusted for the ratio of fat to protein

DERIVATION OF CLASS III PRICE FROM PRODUCT PRICES NASS 4-week Butter price Butter fat price/lb NASS-4 week Cheese Price Protein price/lb NASS 4-week Dry whey price Other solids price/lb Class III skim price/cwt. Class III price /cwt. F(BF) F(P, BF) F(W) X 3.5# X 3.1# X 5.9#

CALCULATING CLASS III SKIM MILK PRICE Class III skim milk price = 3.1 * protein price * other solids price Assumptions for standard milk 3.1% true protein 5.9% nonfat/non-protein solids (8)

DERIVATION OF CLASS III PRICE FROM PRODUCT PRICES NASS 4-week Butter price Butter fat price/lb NASS-4 week Cheese Price Protein price/lb NASS 4-week Dry whey price Other solids price/lb Class III skim price/cwt. Class III price /cwt. F(BF) F(P, BF) F(W) X 3.5# X 3.1# X 5.9# X.965

CONSTRUCTING THE CLASS III PRICE (9) Class III test = 3.5 * butterfat price * Class III skim milk price The Class III price reflects a cwt of milk standardized at: - 3.5% butterfat - 3.1% protein - 5.9% other solids % total solids Values for the standardized cwt of Class III milk are - the 3.5# fat valued at Class IV/III butterfat price - the 96.5# of skim milk valued at Class III skim price - the Class III skim milk price value is linked to protein and other solids price

DERIVATION OF CLASS III PRICE FROM PRODUCT PRICES NASS 4-week Butter price Butter fat price/lb NASS-4 week Cheese Price Protein price/lb NASS 4-week Dry whey price Other solids price/lb Class III skim price/cwt. Class III price /cwt. F(BF) F(P, BF) F(W) X 3.5# X 3.1# X 5.9# X.965

The Class III component relationships may be expressed directly in terms of actual butter, cheese and dry whey prices (10) Class III price = * NASS cheese price -.40 * NASS butter price * NASS dry whey price These calculation factors are obtained by mathematically substituting the product price formulas for component values This transformation permits Class III to be expressed directly in terms of butter, cheese and dry whey prices

Effect of a 10¢ increase in cheese, dry whey or butter on class III price 10¢ increase in cheese price increases milk price $1.03/ cwt. 10¢ increase in dry whey price increases milk price $.59/cwt. 10¢ increase in butter price DECREASES class III milk price by 4.3¢ /cwt.

CLASS IV MILK PRICE Butter Price NFDM Price Butter Fat Price/Lb. NFDM Solids Price/Lb. 4 Week Class IV Skim Price 4 Week Class IV Price f(B) f(NDM)X 9.0X.965 +

CLASS IV PRICE Class IV price is based on the value of butterfat and nonfat milk solids in standardized cwt of milk -3.5# fat -9.0# solids not fat Nonfat solids makeup nonfat dry milk Butterfat is the principal constituent of butter These components are priced based on product prices

CLASS IV BUTTERFAT PRICE Butterfat is priced the same as for Class III component Class IV/III butterfat price = (NASS monthly AA butter price  0.82 Where $.114 = make allowance 0.82 = yield factor (1)

CLASS IV MILK PRICE Butter Price NFDM Price Butter Fat Price/Lb. NFDM Solids Price/Lb. 4 Week Class IV Skim Price 4 Week Class IV Price f(B) f(NDM)X 9.0X X 3.5#

CLASS IV NONFAT SOLIDS PRICE Nonfat solids are priced based on monthly weighted averages of nonfat dry milk prices from the NASS National Survey The make allowance for nonfat solids is $0.137/lb The yield of nonfat dry milk is 1.0 lb. of nonfat dry milk for 1.02 lb. of nonfat solids This is due to moisture content in nonfat dry milk A small amount of buttermilk powder is also present but is not priced in the Class IV formula The yield factor adjusts for these differences (2)

CLASS IV SKIM MILK PRICE Nonfat solids price per lb. = (NASS nonfat dry milk price -.137)  1.02 Where: $.137 = the make allowance 1.02 = the yield factor for nonfat solids Class IV skim milk price = (3)9.0 * nonfat solids price

CLASS IV MILK PRICE Butter Price NFDM Price Butter Fat Price/Lb. NFDM Solids Price/Lb. 4 Week Class IV Skim Price 4 Week Class IV Milk Price f(B) f(NDM) X 9.0X X 3.5#

CLASS IV MILK PRICE The Class IV is price constructed for a standardized cwt of milk a 3.5% butterfat and 9% nonfat solids as follows: (4) Class IV test = (3.5 * Class IV/III butterfat price) * Class IV skim milk price The formula accounts for milk used in a butter-powder plant to produce those products The cwt of milk accounts for 3.5 lb. of butterfat valued at Class IV/III price and 96.5 lbs. of skim milk valued at the Class IV skim milk value Skim milk value is directly related to product price for nonfat dry milk in the market

CLASS IV MILK PRICE Butter Price NFDM Price Butter Fat Price/Lb. NFDM Solids Price/Lb. 4 Week Class IV Skim Price 4 Week Class IV Milk Price f(B) f(NDM)X 9.0X X 3.5#

The Class IV relationships may be expressed directly in terms of butter price and nonfat dry milk price as follows: Class IV price = x NASS butter price x NASS nonfat dry milk price These calculations are obtained by mathematically substituting the product prices for component values 10¢ change in butterfat price changes Class IV price 43¢ per Cwt. 10¢ change in nonfat dry milk price changes Class IV price 85¢ per Cwt. (5)

THE CLASS I AND CLASS II PRICING PROBLEM What do Class I bottlers and Class II manufacturers pay? Grade B / Class III price was a competitive price Class I and II were formula prices using the Class III /Grade B price as a base Average Class III price Wasn’t known until after the end of month Survey of Grade B prices for mfg. grade had to be conducted following month under the old system

THE CLASS I AND CLASS II PRICING PROBLEM Prior 2000 August Class III price was surveyed in September August Class III price was announced in September Bottlers therefore used July Class III /IV as basis for Class I in September– a two month lag The drafters of new system incorporated an “advanced “ pricing system

ADVANCED PRICED IN NEW PRICING SYSTEM CLASS I AND II Uses different prices for skim Survey first two weeks of month