February 10, 2023
One day this week my daughter skipped school and rode along with me to a cattle auction. We had to stop and get fuel on the way. She remembers last year when the price of fuel went up daily, but it was never translated for her how it affected a business. She was shocked how much it cost me to top off the truck.
When we got to the auction, she pulled out her calculator and started data punching some Value of Gains (VOG). She once again got sticker shock when looking at the dollars per head. She then started calculating the tickets. She started actively going to sales with me three years ago, so these are the highest prices she’s ever seen.
When she was showing me how big a guys check was going to be I had to remind her this is a margin business. A lot of the people selling load lots were backgrounders, so they bought those cattle last fall, and they had to pay for some feed, fuel and drug costs along the way. They also have to buy replacement cattle to stay in business and she already knew what that was going to cost and what the VOG was. This didn’t dampen her enthusiasm at all.
Any of you who have raised kids know that there are moments when things click for them. We can explain things and all they hear is our voice, but they don’t understand what we are trying to communicate. She has heard me talk about expenses, VOG, and not bidding away the VOG on replacement cattle before. Thing is it was just noise to her and this week she started putting it together. She is beginning to understand. The skip day was well worth it because she got some real-world education.
Learning come cattle lessons
Every week I get phone calls from people who attended a marketing school taught by someone else. These calls are becoming more frequent the last couple months. These calls are all the same. They think they are doing good trades because they are doing what they were taught. Some just get this funny feeling and they think there should be more money in the bank account than there is. Others keep going until they have to liquidate cattle in order to have some cash to pay bills, then they realize something isn’t right.
These people were taught incorrectly, and as a result they are bidding away VOG on replacement cattle. There is a huge difference between knowing your costs and understanding them.
Knowing your costs is being aware of them through observation. We know our overhead expenses per head. We can just add up all our fixed costs and divide it by the number of cattle we have standing around. We can know our direct costs in the same manner. Thing is we do not have a means of interpreting what these costs really mean to us.
When we understand our costs, we have the intended meaning of them, so we grasp their significance. Accurately calculating our costs into a Cost of Gain is the only way we can be sure we are truly executing good trades.
Let me define what a good trade is. A good trade is one where the ratio of dollars to pounds on the swap (this is known as the Return on the Gain) is higher than what it is costing us to put on a pound. If we do not accurately calculate our true COG, we will never know what the benchmark is and therefore we will never truly know if the ROG is actually higher.
Here is how the trades that bid away some VOG are deceptive. First the COG is off, we established that. Then let’s take into consideration the trader has penciled in $50 to $75 per head profit. Since the COG is off, the barn card will be off as well, but the difference will be small. Maybe five or seven pennies is all. That adds up to bidding away $5 to $25 of VOG per head, depending on the weight difference on the trade.
Understanding your costs and how to accurately calculate them is critical. Cost is the fulcrum on the price relationship lever. If we erroneously slide the fulcrum even slightly to the under-valued side of the lever, we unknowingly bid away some of our value capture.
This slight misstep offsets our market literacy and gives us a false narrative in the market place. When compounded over time, and the more cattle you have in inventory the quicker this will multiply, these trades bidding the good away will add up leaving us wondering where the money went.
A truly great marketing school should give more use value than the cost of signing up for it. If you were unknowingly taught to bid away VOG then the class was what I call a siphon hose, just there to separate you from your tuition cost. If you learn to build cards by hand you may get that sense that something is off a little sooner. Trust your intuition, it is there for a reason
“At today’s sale the weather was warm, and the sale was hot!” Those words were written by market reporter Kieth Hyde this week. My daughter seems to agree with him. One thing my daughter discovered during her data punching is that when comparing relationships between the fancy black market toppers in each weight class they had the worst VOG. The plain number ones and twos had a better VOG. It’s nice to sell the bell ringers, but as she is discovering it is better to have over/under valued relationships that generate positive cash flow. Top quotes don’t mean much if you can’t capitalize on them.
Grass calf buyers and feed yards are making their buying desires clear this week. Fly weight calves have the highest VOG, and heavy feeders have a strong VOG. For a sell/buy trader this means we must navigate through what is in the offering relying on our accurate market literacy. There are plenty of good trades to be made right now. There is also no shortage of bad trades to be made right now.
With the markets going higher like this there seems to be that false sense of security that was in place in 2014 and early 2015. Don’t forget how that ended. The other bad thing about high prices is when one dies and his price gets added to the COG of the survivors, that COG goes up quite a bit more, having a big impact on price relationships on the buy back next time around. Also, these higher prices mean we burn through capital quicker if we are virgin buying, which means we will not be able to buy as many head. Fewer head means fewer margins per head.
The opinions of Doug Ferguson are not necessarily those of beefmagazine.com or Farm Progress.
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