Equilibrium returns; another way to view profit margins: Analyst Insight
Beating an average UK wheat yield forecast for 2021/22 of 1.0 t / ha could earn an average farming business an 88.6% higher gross margin per hectare than if the average yield were achieved.
This is based on the futures price of November 21 yesterday and excludes the value of straw, storage costs and subsidy payments. This difference alone highlights the importance of a strong marketing plan, to allow unexpected performance deficits to always generate profits.
What is the average expected return?
In April, the USDA’s Foreign Agricultural Service forecasted the average UK wheat yield at 8.3 t / ha, which, if achieved, would be 4% above the five-year average. The bright and warm start to June, coupled with a wet May, may well put crops in order to reach the north of this expected yield.
As we all know, performance is the key parameter to achieve a positive profit margin. The table below shows that a yield of 8.8 t / ha is still just profitable at the selling price of £ 145.00 / t. However, reach the expected average of 8.3 t / ha and a net loss is expected at this selling price.
Crop yields and gross margins
Knowing the cost of production is an essential figure to add to any farm business plan, allowing marketing strategies to be tailored to specific profit goals. It also helps examine variable costs and overheads to streamline costs and profit margins.
The table below is produced from a base cost of production (using AHDB FarmBench data) and includes the variable costs and average overhead of winter wheat, without the strict storage costs. and subsidy payments. FarmBench can be registered here.
What is the tonnage of pure profit?
A crop’s break-even point offers producers another way to look at gross margins.
Using the four year average variable (£ 493.00 / ha) and overhead (£ 776.00 / ha) from the FarmBench analysis, a baseline cost of production can be produced. From there, using yesterday’s UK 21 November closing price of £ 176.95 / t, a breakeven tonnage of 7.17 t / ha is observed, with tonnage above that level and then the profit.
In this case, if the wheat price drops to £ 150.00 / t, the equilibrium yield will increase to 8.46 t / ha, especially above the USDA FAS predicted yield of 8.3 t / Ha.
As you can see, the breakeven yield of 7.17 t / ha is a large part of the expected yield for 2021/22 wheat. Even though 8.3 t / ha is an easy target for some to achieve and 9.0 t / ha + is the average achievable agricultural yield, any fall in the domestic wheat price will raise the breakeven point. The hot, dry weather in June will no doubt boost crop yields, but a higher than expected domestic production figure will put pressure on UK wheat prices.
This high break-even point underlines the importance of selling the “profit tonnage” at the best possible value. The optimal end market is different for each farm business, and also depends on the individual risk appetite. But, bonuses can be obtained due to specific quality requirements or proximity to the final location. Knowing the future price direction is essential in determining the optimal selling points, forward selling could also improve margins.
It also highlights the importance of wastage on the farm, in the form of storage, drying or machinery installations. Any tonnage saved by improving this aspect will contribute to the margins.
The phasing out of the basic payment scheme is a key point of note for farmers, with annual reductions until 2028 affecting farm business returns. The more environmentally friendly replacement, known as ELMS, will bring payments based on green requirements. It is not known how the new ELMS system will compare to the BPS for payments received. However, any reduction in payments can focus not only on producing a profitable crop, but also on a strong grain marketing plan.