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3. DAIRY SECTOR REVIEW

3.1 BACKGROUND

The dairy sector has, like many other agricultural sectors, been through a decade of consolidation brought on by a protracted period of difficult trading conditions. In order to understand the reasons for this, the key factors affecting dairy farm viability have to be examined.

3.2 MILK PRICE

The major factor in this difficult trading period has been the decline in milk price received by farmers in real terms across the period. This decline is such that a dairy farmer received only 65% of the price in 2007 in real terms that he did in 1997. The graphs below show how milk price has moved over the previous decade and the real time decrease once this milk price is converted to an index and compared to the RPI.

Figure 3.1 - Milk Price ppl

Source: ERSA

Figure 3.2 - Milk Price Index Compared to RPI

Source: Office for National Statistics & ERSA

The following table shows the UK average milk price per month paid by all milk buyers. All prices are inclusive of all bonuses and premiums for quality and quantity.

Table 3.1 Average UK Farmgate Milk Price During the Study Period

At the start of the period studied, the milk price sat just below 17.34ppl. It ended the period marginally higher at slightly over 17.68ppl.

In the early part of the year (May to August) the price dropped below the annual average of 17.84ppl. This was due mainly to seasonal variations where companies such as First Milk pay their suppliers less when milk supply is at its highest.

During the second part of the year the milk price rose substantially to reach the year's highest average price of 19.00ppl. Again the main reason for this is the reverse of the seasonality payments when milk is in tighter supply.

Throughout the 2007 year farmers and their representatives mounted a vociferous campaign for increased milk prices. The main focus of this pressure was centred on the large gap between the retail price of a pint of milk and the farm gate price. As a result numerous supermarkets agreed to increase prices and did so during the period. One example of this was a supermarket increasing prices by 3.52ppl ^{1& 2.} However, these increases came too late to have a significant effect on milk price during the study period. Subsequently, the supermarkets were fined by the Competition Commission for price fixing as a result.

The period of difficult trading, experienced by the dairy sector during the last decade, has meant that only the most efficient, well structured businesses have been able to generate sufficient returns to enable them to re-invest in their businesses. Those that have not been able to achieve a high enough return have fallen further behind and have often reached the point where the level of re-investment required has made the business as a dairy farm unviable. This, together with dairy farmers not seeing sufficient returns for their efforts and investment, has meant that there has been a steady exit from the sector.

3.3 DAIRY FARM NUMBERS AND COW NUMBERS

The graph below demonstrates how the number of dairy farms in the UK has dropped from nearly 35,000 dairy farms to well under 20,000 in just 10 years, a decrease of 45%. This is equivalent to 118 dairy farmers leaving the sector every month over this 10 year period.

Figure 3.3 - Dairy Farm Numbers³

In Scotland there is a similar trend. Over the last 10 years there has been a 31% decrease in the number of dairy farms with numbers decreasing from 2,125 to just 1,472. Every month 5 dairy farmers have left the sector. The table below shows the actual numbers. This has been confirmed by our experience of the study during which three farmers recruited onto the study in early 2007 left the sector despite being asked at the time if they intended to cease dairy farming during the study period.

Table 3.2 - Dairy Farm Numbers⁴

At the same time as the number of dairy herds has been in decline, the Scottish and UK dairy herd size has also been decreasing with Scotland contracting by 11.6% between 1996 and 2006 compared to a decrease of 20% in the UK national herd size.

Table 3.3 - Dairy Cow Numbers in Scotland and the UK⁵

From the above tables it can be seen that whilst the number of herds and cow numbers have been falling, the average herd size has been increasing. This demonstrates that the larger, better structured herds have been the most successful and are benefiting from economies of scale. The table below shows the trend in increasing herd size.

Table 3.4 - Trends in Herd Size in Scotland and the UK

3.4 MILK SUPPLY

Despite the reduction in dairy farmers, milk supply has been increasing in Scotland, expanding from 1.181 Million litres in 1996 to 1,349 Million litres in 2006, an increase of 14% over the eleven year period ( ERSA 2007 and ERSA 2002). At the same time, the UK total milk production decreased from 14,295 million litres in the 1996/1997 quota year to 13,883 million litres in the 2006/2007 quota year, a decrease of 2.8%. This suggests that the larger Scottish farmers have been able to withstand the difficult trading conditions better than the rest of their UK competitors by increasing their milk output in response to low milk prices for milk and milk quota.

The reason for the increase in milk production in Scotland at the same time as large decreases in the national herd size have occurred is that the efficiency associated with milk production has increased significantly over this period. This is demonstrated by the increase in average milk yield across the UK. The average yield per cow in the 1996/1997 quota year was 5,512 l/cow. This increased to 6,998 l/cow in 2005/2006 before dropping back to 6,969 l/cow in 2006/2007 ( MDC) This equates to an increase of 26.4% in ten years.

3.5 QUOTA

Milk quotas were introduced in 1984 in order to curb the then over production of milk. Once UK milk production is greater than quota, a super levy is applied to those producers who have exceeded their quota. Wholesale milk quota available has traditionally been around the 13,900 million litres but has increased recently to just above 14,000 million litres as additional quota has been made available to the sector at the rate of 0.5% per year for a three year period beginning 2005/06 as a result of the Mid Term review of the CAP in 2005. The graph below shows that despite increasing availability of quota, production has been below quota every year since 2001/02 with the exception of 2003/04 where production was slightly above quota.

Other policy changes implemented by the Mid Term review of the CAP in 2005 were that the milk quota system will remain in place until 2014/2015 and that the intervention support price for milk was reduced through cuts of 15% to the skim milk powder price over three years and 25% in butter over four years starting from July 2004. The tonnage of butter allowed into intervention is also restricted.

The graph shows the relationship between milk price and milk production which suggests that below 20.00ppl producers are unwilling to manage cows for increased production. This resulted in the shortfall in production against available quota and reduced the cost associated with purchasing quota.

It is only recently, since the 2005/06 quota year, and for the first time since the introduction of quotas, that the quota price has not been a significant barrier to the expansion of existing and establishment of new units.

Given that milk price has increased by 54% between the end of the study period and the following November it will be interesting to see if this is sufficient to stimulate production to the point when quota once more becomes a restricting factor.

Figure 3.4 - Graph of Wholesale Quota available, Declared Wholesale Deliveries, Quota Price and Milk Price⁶

3.6 CULL COW & CALVES.

Following the ending of the ban on cull cow beef entering the human food chain in November 2005 cull prices for dairy sired cows have ranged between 42 pence per kg and 68 pence per kg liveweight. Assuming a 600kg cow, this gives a sale price of between £250 and £400 per cow. This compares with the £200 to £250 per cow received under the Over Thirty Month Scheme that compensated farmers for the loss of the market for cow beef. The table below shows the range in price since the cull beef market re-opened.

Figure 3.5 - Cull Cow prices following re-entry of Cow beef into the Human Food Chain⁷prices are liveweight prices

Cull Cows

The cull cow price follows an annual pattern closely related to the availability of cull cows with the low prices correlating with the high numbers of culls available in November and December. It has been suggested that since the resumption of cast cows entering the food chain, farmers have forgotten the techniques to market cows successfully. ⁸

Following the lifting of the ban on live calf export on the 5th May 2006 calves were again exported for veal production to Holland and Belgium for the first time in a decade. ⁹ This development did not seem to affect the prices of dairy bull calves. The table below shows the average price for male and female calves sold during the study period. The table shows that the calf price does move up and down during the year but this is primarily linked to the numbers of calves sold. The reopening of the export markets in May had no effect and the prices actually dropped as a result. The reasons for this are uncertain, but it could be that farmers were slow to take advantage of new (reopened) markets or the numbers being taken for export were low.

Table 3.5 - Friesian/Holstein Calf Prices¹⁰

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