Benchmarking Financial Health

Log onto a popular web browser, such as America Online (AOL), and you'll likely be hit with a chance to do some personal benchmarking.

There are opportunities to compare everything from body mass index to the trade-in value of your car or how your local school district ranks. Beyond a chance to feed any competitive streak you might harbor, benchmarking can motivate change and help monitor progress.

Most pork producers engage in benchmarking at some level. Tracking production parameters, like pigs/sow/year (PSY), average daily gain or lb. of feed/lb. of gain is very common. Perhaps less common, but equally worthwhile, is benchmarking for financial progress, especially cost of production (COP).

Mark Penningroth of Latta, Harris, Hanon and Penningroth (www.lattaharris.com), Tipton, IA, says there is a wide range of ways pork producers approach benchmarking.

“Some people might go to a seminar, look at Iowa State University agricultural economist John Lawrence's numbers or talk to their feed company or veterinarian,” he says. “There are also some pretty astute people, mathematically, who can keep a lot of numbers in their minds that they are rolling up and comparing.”

More Formal Approach

To give clients a more precise picture of how their production costs compare with other swine operations, Latta, Harris, Hanon and Penningroth (Latta Harris), a certified public accounting and consultant firm, presents detailed benchmarking standards each year for clients choosing to participate.

The comparison focuses on eight overall cost categories, with COP benchmarks broken down for farrow-to-finish, breed-to-wean and wean-to-finish enterprises. Figures are established for producers operating at the 50th and 90th percentile profitability levels (See Tables 1-3).

This year, 27 farms participated in Latta Harris' study, reflecting 2005 financial records. Production units with 600 sows to over 10,000 sows were included. Most farms were in Iowa, Missouri, Ohio and Illinois.

To participate, clients must keep detailed financial records, which Penningroth says is the first step in meaningful benchmarking. Expenses should be correlated with production quantities, such as feed purchases tied to a specific group of animals (i.e. nursery, grow-finish, breeding-gestation).

“We use procedures to keep things as comparative as possible,” says John McNutt, Latta Harris business consultant.

In addition to analyzing the participants' financial statements, Latta Harris draws on their own experience and understanding of production costs, plus opinions from a wide range of industry sources, including lenders, veterinarians and economists, to derive specific cost estimates for each category.

“This is a considered value judgment based on everything we see and know,” McNutt explains.

Study participants see the results at a private meeting held just prior to World Pork Expo in Des Moines. Each farm's numbers are expressed as “per pig weaned” or “per hundredweight sold or produced.” Data is normalized as required to make it comparable between farms. Participants are assigned a letter code so they can see their ranking among all study farms but still remain anonymous.

Strengths and Weaknesses

The biggest difference between low- and high-profit producers is feed costs, says Penningroth and McNutt. For example, comparing cost of production for farrow-to-finish units in Table 1 shows there's a $2.55 spread in feed costs/cwt. — a big enough difference to mean making or losing money.

Penningroth and McNutt say their clients' understanding of the benchmarks and how they compare helps them identify their strengths and weaknesses and where to focus their attention.

“Say they have a feed problem. It might be an issue of quantity. Are they using too much feed? Or, is it an issue of too high a price per unit of feed or a combination of both?” explains McNutt. “We are looking for areas that have high opportunities to reduce cost.”

On the flip side, a producer who has mastered low-cost production may “strategically be really well-positioned to expand or take advantage of that strength,” says Penningroth.

That doesn't necessarily mean expanding the size of the herd, they note. Growth for an operation might include expanding into new enterprises, such as offering grinding and mixing services in order to run more tonnage through an on-farm mill. This could drive down costs of production further, for example.

Even smaller line items, such as veterinary care and medicine costs, should be under a producer's microscope, they say. For example, if you look at Table 2 for wean-to-finish units, you'll note that 50th percentile producers paid 90¢/cwt. for veterinary work and medicine, while producers in the 90th percentile spent only 60¢/cwt.

If you have ten, 1,000-head, wean-to-finish barns and you turn them twice a year, selling pigs averaging 275 lb., that's 5.5 million pounds. Therefore, the 30¢/cwt. vet-med advantage of the 90th percentile producer is $16,500.

But a low vet-med bill isn't always the best option, especially when coupled with a performance problem, which could be a sign that a disease problem is not being diagnosed and treated effectively.

Facility costs may be harder to impact because there are many fixed costs, such as insurance, taxes and depreciation. Or facilities may be operating below capacity.

“Sometimes the problem is simply too few units coming from too many dollars of overhead,” says Penningroth. An improvement in cost of production may be limited by inefficient pig flow through outdated or incorrectly sized facilities, he adds.

In other cases, a production problem may lead back to a personnel or management issue. “It may not show up in personnel costs, but it may show up in other key operating areas because they are not getting PSY or managing feed expenses,” he continues.

Bottom line, the benchmarks “help us take them 3,000 ft. up, look at the operation compared to the rest and help them think about their strategies,” says Penningroth. “Like a good consulting veterinarian helps them look at their overall animal health, hopefully we help them look at their overall financial health.”

A Good Case Study

Chuck Oberman used to give little thought to cost of production at his 2,600-sow, farrow-to-finish operation near Iowa City, IA. Instead, Oberman worked 60-plus hours/week, immersed in everything from cutting piglets' teeth to hauling hogs to market.

Facing serious burnout in the late 1990s, Oberman says he got two pieces of advice that have dramatically improved his business and life.

The first suggestion came from a consultant, who encouraged him to step aside and enable others to take the reins of day-to-day operations. “He told me to manage as a manager and not as an employee,” recalls Oberman.

Over the next couple of years, he elevated employee Harry Reed to the role of general manager at C & R Pork, Inc., which Oberman owns with his father, Richard. In addition, Oberman hired office manager Kim Chamberlain, who gradually took over bookkeeping, production data entry, payroll, purchasing and many other administrative duties.

The other recommendation came from his accountant, Mark Penningroth, who urged him to take a hard look at his feeding program. During their 2003 fiscal year (ending March 31, 2004), C & R Pork had approximately $22.95 in feed costs/cwt. of market pigs sold.

The Latta Harris' benchmarking study that year concluded that producers operating at a 90th percentile profitability level were paying substantially less for feed — around $19.31/cwt. of market pigs sold. That $3.64 difference got Oberman's attention because it represented a potential savings of nearly $500,000 annually.

Penningroth recommended that Oberman bring in an independent nutritionist to review C & R Pork's feeding program. Oberman turned to Kansas State University (KSU) nutrition specialist Steve Dritz, DVM.

Soon Oberman and Dritz were volleying emails and phone calls with details on each of the 18 rations being fed. Dritz and his colleagues worked up lower-cost alternatives.

“It was a bold step,” says Oberman, “because KSU's rations were a lot simpler than what I was used to.”

With new ration formulations in hand, Oberman asked six companies to supply bids for his feed business.

“I chose not to go with the lowest bid, but rather the lowest local bid,” says Oberman. “I like to stay local to help our community and work with people I know.”

He was amazed at the results. By late 2004, C & R Pork dropped feed costs to $19.50/cwt. of total market pigs sold while performance increased.

Today, Oberman says he spends his time “focusing on cost of production and the factors that go into it. We are looking at everything from trucking to employee salaries, to how much owners are taking out of the operation, to how much we spend for office supplies.”

Being a low-cost producer gives Oberman peace of mind. “If given a 1998 scenario again, when we were getting $11/cwt. for pigs, we would be the last ones out. It means longevity for C & R Pork.”