COVID-19 could cause “an unbelievable shock” for dairy


As the COVID-19 crisis wears on, its effects on the dairy industry have become more acute.

Will producers be forced to dump milk for a lack of buyers? Should the government step in to prop them up? And even if it did, would that be enough to prevent farmers from going out of business?

Ted, T3 and Anna foresee a tough few weeks ahead.

Anna: Welcome to The Milk Check, a podcast from T.C. Jacoby & Co., where we share market insights and analysis with dairy farmers in mind.

T3: The last time we had the podcast…we did a podcast which was about two and a half weeks ago, there was a general feeling at the time that cheese and specifically cheddar might hold up okay in this because retail sales were good. What was really interesting what happened, you had the initial push into the supermarkets and everybody went into the supermarkets to buy and they bought up the whole store, you know, so that they could go home and stay at home for an extended period of time. And that drove retail sales way up and everybody expected those sales to come back down as we got into the middle of this crisis. Today is April 2. So this was about a week ago today, I would say a little over a week ago, Wednesday of last week. The best analogy that I’ve been able to come up with is around the interstate. You’re driving at full speed, you know, little over the speed limit like we always do. And you will arrive in traffic, and you go from driving 60 miles an hour, you know, to almost a dead stop as fast as you can, because everything’s backed up. And the reality is, it’s traffic, you’re gonna start moving again but once you’re in traffic you’re gonna be moving at 30 miles an hour.

And that was almost exactly what we felt with this market in the middle of last week, everything was running at full speed. The restaurant chains and that distribution pipeline was really pulling hard and eager for every piece of cheese, especially cheddar that they could get their hands on. And then they just got to the point where they were caught up. And so there are all of those extra orders, which were extra orders so that you could take the displaced foodservice demand and put it into retail, all of a sudden those extra orders really slowed down. And the whole market just backed up and it’s backed up almost immediately. And so it was within a 24- to 48-hour period you went from you know, moving a lot of cheese all over the place to try and reallocate the cheese towards retail sales to, “Okay, now where do we go with this cheese because nobody’s buying?” It happened very quickly and all of a sudden the market really had no choice but to come down and that’s why you suddenly saw this cheese market, you know, drop over the matter of three or four trading days from you know, something almost at $1.80 down to something at $1.30.

Now, what will happen from here, I think it’s harder to predict. I think the reality is hit that even cheddar which is I think the cheese that’s gonna hold up best in this environment, the sales into retail are probably not gonna be enough to overcome the loss of sales on the food service side, especially when you consider that there’s a lot of milk being moved away from non-cheddar plants into cheddar plants. So every cheddar plant in the country is running full. Where do we go from here? You know, one of the great reality of a market economy is uncertainty really tends to get people to stop buying not just at the consumer level, but also at the business level. And nobody was gonna buy any extra cheese at $1.70, now that we’re at $1.30, my belief is we’re in a place where companies are gonna say, “This crisis is temporary, eventually we’ll come out of it. And I’m willing to build inventory here.” So we’re gonna start seeing cheese clearing against somewhere around these prices. My hope is that maybe we bounce out of the $1.30s, I’m gonna guess into the $1.40s but it’s really hard to tell. You know, but the prices now are probably gonna stabilize around these levels, which is maybe in the $1.30s for butter, or $1.30s for cheese you know, and maybe in the…I think powder is even harder to call right now. Let’s just say powder, in the $0.80 to $0.90 level. These are a lot lower prices than we had two months ago. I think, for the time being, they’re the new reality to where we’re gonna be. That means something like $10 to $11 Class IV prices, that means something like $12 to $13, $13.50 Class III prices. I know for many dairy farmers that is well below breakeven, but for the time being, that’s where we’re probably going to be.

Hopefully, we come out of this crisis relatively quickly. And one of the things that we can look forward to, we basically emptied out the foodservice distribution pipeline. So the first thing that’s gonna happen when we start emerging from this crisis is we have to fill the pipeline. So foodservice orders are actually going to be heavier than usual when we come out of this crisis, so I think we can expect prices to pop. But as we come out of the crisis, the question is, how much inventory have we built up, and how long is it gonna take to get that inventory back in line to how the world normal operates? And we just don’t know the answer to that. And we won’t know until all of this is over.

Anna: It sounds to me like one of the assumptions that you’re making in all of that, though, is that all of these companies will survive. And will they all survive to that point?

T3: That’s a good question. And I don’t think we know the answer right now. I will say this. A lot of the companies that are being hurt, are well run, well-capitalized companies that have focused on servicing an industry that has been growing steadily over the last 50 years and that’s the restaurant industry and the foodservice industry. They all, for the most part, not everybody, but for the most part, they’re in a position to survive this crisis, at least to some extent. And I’m hopeful, knock on wood, that most of them will. That doesn’t mean there will probably be some casualties. But it remains to see how big it is.

Ted: I don’t think anyone is aware of what’s coming down the road. Some of these customers, particularly in the northeast, they have to close down because one or two employees have come down with the plague. And that means that milk is gonna back up to the dairymen and milk is gonna wind up in the manure pit in quantities that we’ve never seen before.

T3: Well, and I don’t think it’s just gonna happen in the northeast. It’s gonna happen in Wisconsin, too. Let’s do the…

Anna: I think it’s very close to happening in Wisconsin now. If it isn’t already.

T3: I think it is already.

Anna: It’s interesting. I’ve been talking to producers. We’re hearing rumors, nothing confirmed, but we’re hearing rumors of just about everybody out there having to dump so.

T3: When you say everybody, do you mean all the co-ops?

Anna: All the different co-ops.

T3: All the different co-oops.

Anna: Yeah.

T3: You know, the dynamic that’s going on is fascinating if it wasn’t for the fact that it’s a little bit scary from a demand perspective. And that’s that what’s happening is you’ve got Class I sales are better than usual because of what’s going on. Class II sales on the milk side, I think they’re slightly better than usual. On the butterfat side, are worse than usual. And then you’ve got every Class IV plant in the country running full now. My career in the dairy industry is now you know, on its 26th or 27th year, I’ve never seen a situation where the problem is Class III focused from a demand perspective. But right now it is because what’s happening is where the milk is getting pushed away from are your cheese companies that primarily service the foodservice industry. And if you think about it, cheeses like feta, blue cheese, Swiss cheese, mozzarella for pizzas, those are the companies that are making those cheeses that are seeing significant drops in demand for the product. Cheddar, for the most part, is holding up fine. And it is also kind of the cheese that is storable. And people aren’t…they’re not pushing milk away from cheddar plants because they know they can put it in a warehouse.

You can only put so much mozzarella in a warehouse and freeze it, the demand for frozen mozzarella is limited. And then you really can’t store feta and blue cheese, and even Swiss cheese much at all. The result is those plants have no choice but to push the milk away from those plants. My back of the envelope math tells me that Class III utilization is gonna be down at least 10% you know, as long as we’re in this crisis. That is a big number because more milk is in Class III than any other classification in our country. And that’s what the milk is getting pushed away from and they can’t take the milk because they have absolutely no sales for their cheese. And so you’re either dumping the cheese or you’re dumping the milk, either way, it’s getting dumped. And that’s a scary proposition, especially in the…

Ted: But Ted, let me take it a little bit different angle. What if the plant, the Class III plant for specialty cheese servicing food service has to close down entirely?

T3: Mm-hmm.

Ted: You know, you figure, you know, and you could do all sorts of rough math here, but roughly 50% of the Class III is cheddar and the other 50% is a combination of specialty cheeses mozzarella and so on. And maybe you could say that mozzarella is half and the specialty cheeses are another 10% or so. But if the specialty cheeses have no place to go and it’s almost entirely food service, and if you have a situation where these plants are shut down, you know, these are little plants with guys working elbow-to-elbow packaging, cut and wrap and that kind of stuff. They have to shut down and they can’t run entirely. You know, you’re looking at 25% of the milk supply not having a home. Twenty-five percent. Now, you can take that math and do it a lot of different ways and so on. But that’s the potential of the problem that I see. And I don’t think anybody fully has got their head around it yet. I think they see that the foodservice industry is gonna shift back to the grocery store and retail. But I don’t think they really see the impact of the pandemic and not only the United States but worldwide.

T3: We’ve talked to a number of cheese plants and other plants in the dairy industry about this possibility. Start by saying this, I think the bigger the plant, the more they’ve thought this through. Those big plants have taken very significant steps to minimize both the possibility of their employees contaminating other employees and the possibility of if one gets a positive test, shutting down the whole plant. But I think you’re absolutely right with the smaller plants that don’t have the luxury of being able to do that kind of expensive planning or don’t have the setup inside the plant to be able to segregate. You know, for example, smaller plants tend to have almost all of their equipment in one big room, whereas bigger plants tend to go from room to room to room. So it’s easier for them to kind of segregate out the workforce and make sure they don’t cross-contaminate. It’s certainly a possibility. I think that certainly is going to be a problem and yes, if you have a plant or two on the smaller side, I think we have to expect eventuality that a couple of plants are gonna have no choice but to shut down. I don’t expect the major plants to put themselves in that position. I think they’ve just planned for it well enough to get past it.

Ted: I agree with you that the big plants are all highly automated and you don’t have people working side-by-side. In fact, there’s a butter powder plant, you could walk through a plant and not see anybody because it’s completely automated.

T3: Right.

Ted: The only person there would be in the control booth but pushing buttons and he would be one guy sitting behind the desk reading the newspaper. Unless something goes wrong, you’re not gonna really see much and I would imagine that a state-of-the-art cheddar type plant would be pretty much the same. But the little plants and the older plants, which make up a very significant portion of the milk supply, have a lot of people working side by side, particularly when they’re packaging and cryo-vaccing and so on, getting ready for sending the cheese out to foodservice or wherever it’s going. And if these guys shut down because one person at the plant comes down with the virus, imagine what that does. You could talk all day long about contracts. But if he has to shut down, it backs up to his co-op, which backs up to the dairy farmer and the milk winds up in the manure pit. I don’t think that we really fully understand at this point the magnitude of what’s heading our way and I don’t think any dairy farmer understands right now the potential for what might happen. He may not even get a check one month because of the situation, depending on how his co-op is configured or how its customer’s configured, so.

T3: Well and let me kind of…you bring up a good point and I’d like to take it a step further. You know, the industry as we’re getting to the middle of this crisis, you know, there’s…you’re starting to have industries conversations about what we can do. And for example, there’s been talk, and I’m not saying there’s talk at the government level, I’m saying there’s talk between industry participants about what’s the possibility of having a…you know, opening up the dairy support program where the CCC (USDA’s Commodity Credit Corporation) buys products like they used to where they bought powder and they bought butter and they bought cheddar cheese. So those are all possibilities. But you know, that support price is still at, you know, $10, I think it’s $10.10 a hundredweight, which is so far below today’s breakeven price for the dairy farmer, I don’t think it helps at all. It also doesn’t necessarily solve the problem because the problem isn’t the ability to make storable products. The problem is that there are a lot of specialty cheese plants, cheese plants that make a product that is not storable in that is not a commodity. They’re the ones who have lost their business. And so this milk doesn’t have a place to go. And because the plants that make the commodity product and storable commodity, they’re all already full. Those plants aren’t the ones that are creating this problem. And the reason we’re dumping milk, it’s your value-added specialty dairy plants that are having the problem that are focused on foodservice. So if the government wants to help out the dairy farmer, I think the way to do it is to figure out a way to compensate, you know, those co-ops in the industry for the milk that they’re dumped, that’s being dumped and that’s a…

Ted: You know, that’s exactly where I wound up. I had a conversation yesterday with congresswoman on the House Ag Committee. Now, she’s been there about eight years so she’s been around a while, but we haven’t been interactive with the CCC program for what? Twenty years? So…

T3: Fifteen, yeah, 15.

Ted: Something like that. So she didn’t even know how the CCC program worked and I had to explain it to her and it took me quite a while to do that and eventually she understood. And then I when I finished explaining I said, “You know, that doesn’t solve the problem.” And I suggested that what they consider is reinforcing a minimum price for milk dumped of one or two dollars under the Class III or IV price. Now, you talk about a grab bag boondoggle, that would be one but I…and I don’t know how the hell you’d ever enforce it, or audit it or whatever. But that would be a lifesaver in terms of what else you would get if you had to shift the milk let’s say from Syracuse, New York, to Wisconsin or Michigan or Kentucky. I mean, you’re looking at $6 and $7 hauls. So something like that. And then if you do that, even though the milk is lost, but you’re not having to haul it around, not sitting in a warehouse, you know, driving down the price a year or two down the road. From my perspective, that while it sounds on the front end like it might be pretty expensive, it may not be as expensive as you think. Conceptually, I think it probably is a better way to go than putting 10 million, 20, 30, 40, 50 million pounds of powder in the warehouse, which is gonna be hanging over the market for the next two or three years. You could just come up with a flat price. If you want ten bucks, ten bucks is a hell of a lot better than the other options.

T3: I think you’re making a good point. The best way to do it may be you wanna take the minimum price, you know, the minimum support price from 15 years ago which was about $10 a hundredweight, and say, “Okay, that’s what we’ll, you know, pay for all milk dumped.” Now, it’s a lot better than the zero revenue you get when you dump it right now. So and it would probably be enough to kind of help prop things up. So I have to admit that I agree with you on that.

Ted: It…you wouldn’t have to haul it, you wouldn’t have to store it. And it wouldn’t be hanging over the market for the next two or three years. And you’re still gonna…it’s still gonna be a shot in the head for dairy farmers who are not prepared to deal with that kind of a loss. And you may save a few dairy farmers.

Ted: You know, it was interesting, the House Ag Committee has not had any discussions with regard to this problem. They had no idea.

Interviewee: Well, it’s you know, this whole environment is evolving so rapidly you know, that I think everybody’s playing catch up. You know, the initial reaction of just getting some kind of a stimulus package out there, you know, for the economy as a whole. And obviously the focus correctly so, in the beginning, was, “Oh, my gosh we’re gonna have all these restaurants shutting down.” It takes a while for any of us to really think through all the different industries that are being affected by this. You know, it wasn’t until maybe a week ago that I realized the haircut industry is, you know, completely shut down. You know, there’s so many even non-food industries that are being just as greatly affected by this as food. And then thinking all the way up the food chain, you know, the initial reaction is, you know, dairy may hurt a little bit, but it’s gonna be fine because you still buy cheese in the supermarket, even if you don’t buy it in the restaurant, but the displacement of how it’s all playing out is drastic. And that’s the part that I think if you’re not in the industry, you know, trying to deal with these issues day in and day out, you know, it just doesn’t quite hit your radar until you’ve had a chance to really see how the whole world is being affected by this.

Ted: Yeah, you don’t, and I don’t think anyone has really thought about where this thing is going or what the consequences are gonna be or might be. So, and maybe we haven’t either. But I’m beginning to get an idea that this thing is gonna be catastrophic for the dairy industry. And it’s gonna be about a week from now that it’s gonna dawn on everybody where it is. When they get their check for April milk that’s when it’s really gonna hit home. There’s three or four or five dollars deduction…

Anna: I think it’s starting to hit already. I think people are aware, I mean, I would say in the last 24 hours, the phone calls have really started, it’s sinking in. As soon as people heard possibility of dumped milk, their brains went down the same steps that we did and I think that this is…I mean, the reality is sinking in right now. Now, it’s a different reality when your check comes in for sure. But I think people are aware, they see where this is heading.

Ted: Well, they got to feed these cows.

Anna: Yeah.

Ted: Okay, that’s money. So they got overhead that they got to cover. I’m sure they got inventories of corn silage and so on and that’s probably paid for. But they got to feed these cows, they got to feed them supplements and so on and then it comes back and then maybe for April, instead of getting $15 a hundredweight, they wind up getting $8 or $9. It’s gonna be an unbelievable shock even though they may be thinking about what’s coming. You know, we’ve never had to dump any milk on any of the co-ops that we’ve supported. I can’t visualize that this bullet is one that we’re gonna be able to dodge.

T3: Let me take this a step further, this issue is not isolated to milk. On the butter side of the coin, you know, there has been a number of major cream buyers that have declared force majeure on their cream contracts. And you know, I’m pretty sure I know what’s going on. You know, these are our large users of butterfat, butter companies but not just solely butter companies that have a significant amount of their sales into the foodservice industry, you know, contracts with restaurant chains, etc. You know, those restaurant chains have declared force majeure you know, and cancel their butter contracts or their contracts for cream or whatever they use with butterfat in it. And they’ve had no choice but to say, “We can’t take the cream because we have no place to sell the output of the product.” And there’s cream being dumped too for the same reason that there’s milk being dumped. And so this is a very serious issue that needs to be addressed. And you’re right, I don’t think anybody…there’s so much going on in this economy as a result of this, you know, that I think at the federal level, you know, it’s hard for a lot of the politicians to get to the point where they understand that how the dairy industry is being affected.

Ted: Yeah. You know, I hate to be the harbinger of bad news, but you know, they need to get their head around what’s coming down the road.

T3: Absolutely. But there’s people who out there, you know, the congressmen and women may not understand the issue, there are people in the U.S. Department of Agriculture that hopefully, you know, are listening to people in the dairy industry and in some of the trade associations in Washington, you know, that are starting to realize that this is an issue that needs to be addressed, that needs to be addressed quickly. And how do they get this up the chain as fast as possible so that this doesn’t result in a major catastrophe for the industry.

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