Destocking - Financial Considerations

Evaluating Inventory Reduction Options during Drought Conditions

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The other choice in balancing resources during drought conditions is to reduce inventory size.

This method may seem like the most harsh and desperate way to balance resource supply and demand. While this may be the case there are times when it is the best option. One such time may be during a time when cattle inventories are expected to climb and future prices look bleak, combine this fact with tax laws that provide deferral opportunities to re-enter at a later date with no penalty for a current liquidation, may make this a valid option.

In any case it is important to consider this option in different degrees and in different ways considering both short term and long term costs. For example a long term benefit could be the opportunity to cull out the bottom of the herd and increasing the productivity of each cow.

The basic idea when you consider reducing the herd size is to determine the potential loss of income from livestock (calves and cull animals) sales in the future as well as the reduced costs incurred for the care of fewer livestock numbers including all animal types. Timing of these sales is likely to differ from the normal operation so include such things as the sale of animals sold earlier than normal.

Inventory reduction strategies

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Selling feeder animals early – depending on your calving season and the year selling weaned calves early than normal could be more profitable. Another alternative might be to wean early and buy feed for the calves; this of course is dependent on the cost of feed the value of the calves and other available resources.

Selling replacement breeding animals – This may be a tough decision, given several facts, do you have special animals with unique genetic that may be difficult if not impossible to replace. The value of doing this is also related to your cull rate and the expected value of replacement in the future when you expect to buy those replacements. Several things to consider when deciding to buy verses raise replacements is the difference in cow verses heifer value, where you believe the prices are in the cattle cycle, when you think the drought will be over. In some cases it would be better to cull cows and save heifers, thus accomplishing the goal of reducing demand for forage, and saving your genetic and removing the less productive part of the herd.

Reduce breeding animal numbers – Fewer animals to breed probably means less productivity and a smaller cash flow, but in the case where a loss on each animal is incurred, it would mean a smaller negative cash flow. In the case where a reduction would decrease cost more than revenues profits might be made, verses the case where all animals are retained and as a result a loss is incurred. This could be the case where additional resources to keep given an individual’s financial condition the choice may be the difference between continuing operation or closing the doors.

Selling the herd and ceasing production – Consider include past financial performance, estimated cost of feeding through drought, expectations about future cattle prices and cost of production and profitability, age and health and family circumstances, options for the farm if livestock are sold,other financial implications, and taxes. Disposal of the herd may be a slow process depending on the circumstances and goals of the business.

Selling the herd and restocking later – Again consider past financial performance, estimated cost of feeding through drought, expectations about future cattle prices and cost of production and profitability, age and health and family circumstances, options for the farm if livestock are sold and financial implications.

Another consideration when doing this are the tax implications. Where taxes may be deferred and reinvested, this choice may be more appealing.

This particular strategy is difficult for most producers to consider. While it seems drastic, it actually could be beneficial to an operation given the right market climate and business conditions.

In the case of drought, Pat Reece a Western Rangeland Ecologist has said “It’s that absolute reality that if you continue to keep all of your animals, remember we can sell those yearlings whenever we want to, we can cut the yearling herd in half if it’s not a very severe drought, if it continues we get rid of all of them, but if we get to the breeding animal enterprise, here’s the situation where we absolutely have to make a profit per head from this point on, and if there’s no way to do that, then the best thing to do financially, is to sell all of the breeding animals, claim an exemption on income tax, and stop losing equity. You can borrow against the wealth, you can borrow against the equity, but you have, whatever animals you keep now at this point absolutely have to make a profit per head. With whatever resources you have available.That becomes true for the farmer-rancher or the straight grassland rancher.”

While you may agree or disagree with Dr. Reece’s statement, it is important to keep an open mind when surviving drought conditions. Whatever you do it is important to consider these major options carefully with expert assistance, since there are many different financial and psychological impacts.

With the advent of drought conditions comes added pressure in the form of reduced capacity of the rangeland and other local feed sources dependant on rainfall. This effect usually creates a situation where producer find themselves minimizing losses rather than maximizing profits.

The choices faced by producers in this condition are often complicated by the nature of the cattle production and personal values. Producers often have many years of careful breeding involved in producing a specific type of animal, and are reluctant to lose the fruits of their efforts. Many ranchers are ranchers as part of a legacy and view ranching not so much as business but as a life style, and it become difficult to make decisions and choice that seem to threaten that life. Knowing this, while informative, does not necessarily make it any easier to make difficult decisions.

The table below provides an example of how proper drought planning can lead to cost savings in a ranch operation.

Drought management strategy adopted at Gudmundsen Sandhills Ranch during 2002 drought and resulting cost saving estimate

Action taken during drought	AUM savings	Cost savings (@ $25/aum in 2002 prices)
Kept inventory current- 15 cull cow sold as identified	1.2 aum x 15 Cows x 1 month = 18 aum	450
Identified 15 cows in May as culls and sold them as pairs in June instead of at weaning in October	1.5 aum x 15 Cows x 5 months = 113 aum	2825
Weaned 300 March born calves one month early in September	0.4 aum x 300 cows x 1 month = 120 aum	3000
Surplus 30 heifer calves sold 3 weeks after weaning (2 months early)	0.4 aum x 30 cows x 3 months = 24 aum	600
30 cows reduction ( 5% herd reduction) from September through May	1.2 aum x 30 cows x 9 months = 324 aum	8100
20 open cows sold in September (2 months early)	1.2 aum x 20 cows x 2 months = 48 aum	1200
110 Cows to corn stalks in early November to late February	1.2 aum x 110 cows x 3.5 months = 462 aum	11550
25 pregnant June calving cows sold in January rather than in April as normal	1.2 aum x 25 cows x 2.5 months = 75 aum	1875
Total savings to drought management	1184 AUM	29,600

Source:  Nebraska Ranch Practicum 2009 Presentation by Dr. Don Adams, WCREC; Pasture rental rates for 2002 provided by Dr. Jerry Volesky, WCREC