Commercial Poultry Commercial Poultry CompensationCompensation

Stephen L. Ott, Ph.D.Stephen L. Ott, Ph.D.Appraisal-Indemnity-Compensation SpecialistAppraisal-Indemnity-Compensation Specialist

USDA:APHIS:VS:CEAHUSDA:APHIS:VS:CEAH

July, 2011July, 2011

Presentation OverviewPresentation Overview

Why CompensationWhy CompensationCompensation & Compensation & BiosecurityBiosecurityHow Appraisals Are DoneHow Appraisals Are DoneIndemnity PaymentsIndemnity PaymentsValuation MethodologyValuation MethodologyAppraisal CalculatorsAppraisal CalculatorsData Sources Data Sources

What Compensation is NotWhat Compensation is Not

Not necessarily required by U.S. Not necessarily required by U.S. Constitution, taking clause 5Constitution, taking clause 5thth AmendmentAmendment Diseased animals can be considered a Diseased animals can be considered a

public nuisance and thus be ordered public nuisance and thus be ordered destroyed by government through its destroyed by government through its police powers police powers

Based upon conversation with DOJ lawyerBased upon conversation with DOJ lawyer

Currently required by Animal Health Currently required by Animal Health Protection Act of 2002Protection Act of 2002 What Congress gives, it can take awayWhat Congress gives, it can take away USDA isn’t required to pay for plants it USDA isn’t required to pay for plants it

orders destroyed for disease control orders destroyed for disease control purposes purposes

What Compensation is NotWhat Compensation is Not

NotNot to provide income subsidies to provide income subsidies to producers.to producers.Not to put producers back into Not to put producers back into businessbusiness It is a secondary benefitIt is a secondary benefit

Business interruption insurance Business interruption insurance is a financial tool producers is a financial tool producers should consider if they are should consider if they are concerned about their ability to concerned about their ability to survive a depopulationsurvive a depopulation

What Compensation IsWhat Compensation Is

Compensation recognizes there is a Compensation recognizes there is a disconnect (externality) between disconnect (externality) between producers’ incentive not to report producers’ incentive not to report disease and industry and governmental disease and industry and governmental desire for quick reporting to limit the desire for quick reporting to limit the spread of diseasespread of diseaseThus, the economic reason for paying Thus, the economic reason for paying indemnity for diseased animals is to indemnity for diseased animals is to encourage rapid reporting to animal encourage rapid reporting to animal health officialshealth officials

Compensation Law & RegulationsCompensation Law & Regulations

Animal Health Protection Act 2002Animal Health Protection Act 2002 Part of 2002 Farm BillPart of 2002 Farm Bill Pay fair market valuePay fair market value Indemnity is for assets destroyedIndemnity is for assets destroyed

Lost income not coveredLost income not covered

Federal indemnity plus any other indemnity Federal indemnity plus any other indemnity received must not exceed fair market valuereceived must not exceed fair market value

Values not subject to judicial reviewValues not subject to judicial review

Title 9 Code of Federal RegulationsTitle 9 Code of Federal Regulations Part 53: Foreign Animal DiseasesPart 53: Foreign Animal Diseases Part 56: Avian InfluenzaPart 56: Avian Influenza

Compensation and BiosecurityCompensation and Biosecurity

Does On-Farm Biosecurity Does On-Farm Biosecurity Increase or Decrease Profits?Increase or Decrease Profits?

Function of costs and Function of costs and benefitsbenefits

CostsCostsCapital, e.g. truck tire bathCapital, e.g. truck tire bathLabor, e.g. time spent Labor, e.g. time spent

cleaning and disinfection cleaning and disinfection between each load or pen of between each load or pen of livestocklivestock

These costs are real and These costs are real and affect farm profitabilityaffect farm profitability

Biosecurity BenefitsBiosecurity Benefits

Benefits function ofBenefits function ofEffectiveness of biosecurity Effectiveness of biosecurity

measures to prevent diseasemeasures to prevent diseaseGreater effectiveness, more Greater effectiveness, more

biosecuritybiosecurity

Amount of potential lossesAmount of potential lossesValue per headValue per head

Greater value, more biosecurityGreater value, more biosecurity

Number of headNumber of head Greater numbers, more Greater numbers, more

biosecuritybiosecurity

Optimal BiosecurityOptimal Biosecurity

Optimal biosecurity occurs Optimal biosecurity occurs where costs and benefits where costs and benefits are equalare equalIf benefits > costs, then If benefits > costs, then

increase level of biosecurityincrease level of biosecurityIf costs > benefits, then If costs > benefits, then

reduce level of biosecurityreduce level of biosecurity low high

Biosecurity

costs

Dollars

benefits

Government Compensation Government Compensation & Farm Biosecurity Expenditures& Farm Biosecurity Expenditures

Q. What is the impact of Q. What is the impact of government compensation government compensation on optimal on-farm on optimal on-farm biosecurity expenditures?biosecurity expenditures?A. Compensation reduces A. Compensation reduces losses realized losses realized Which reduces benefit of Which reduces benefit of

biosecuritybiosecurityWhich reduces optimal on-farm Which reduces optimal on-farm

biosecurity expenditures biosecurity expenditures

Government Compensation Government Compensation & Farm Biosecurity Expenditures& Farm Biosecurity ExpendituresConclusion: government Conclusion: government compensation reduces private compensation reduces private incentive to practice good incentive to practice good biosecuritybiosecurity Which works against Veterinary Which works against Veterinary

Services’ Goal of Safeguarding Services’ Goal of Safeguarding Animal Health through Disease Animal Health through Disease PreventionPrevention

Thus the tension between Thus the tension between disease control and disease disease control and disease prevention in terms of prevention in terms of compensation policycompensation policy

Compensation Conflict SummarizedCompensation Conflict Summarized

““One of the most difficult challenges in One of the most difficult challenges in designing mechanisms that address the designing mechanisms that address the risks posed by contagious livestock risks posed by contagious livestock disease is the potential conflict between disease is the potential conflict between encouraging producer herd health encouraging producer herd health management and biosecurity measures management and biosecurity measures while maintaining incentives for early while maintaining incentives for early disclosure of health problems.”disclosure of health problems.”

– – Gramig, Barnett, Skees & Black, 2006Gramig, Barnett, Skees & Black, 2006

Poultry AppraisalPoultry Appraisal

Poultry AppraisalPoultry Appraisal

Use price lists developed from Use price lists developed from appraisal calculatorsappraisal calculators Broilers: Meat & BreedersBroilers: Meat & Breeders Turkeys: Turkeys:

Meat: Hens & TomsMeat: Hens & TomsBreeders: Hens & Toms Breeders: Hens & Toms

Table Egg Layers: Layers & BreedersTable Egg Layers: Layers & Breeders

Value by ageValue by age Meat: day-of-ageMeat: day-of-age Breeders / Layers: week-of-ageBreeders / Layers: week-of-age

Poultry AppraisalPoultry Appraisal

Obtain bird count and Obtain bird count and age from owner or age from owner or contract growercontract growerLook up per bird value Look up per bird value from APHIS’ price listfrom APHIS’ price listMaintained by the Maintained by the

Appraisal-Indemnity-Appraisal-Indemnity-Compensation SpecialistCompensation Specialist

Total flock appraisal Total flock appraisal value = count x value value = count x value per birdper bird

Poultry IndemnityPoultry IndemnityTotal indemnity = appraisal value x Total indemnity = appraisal value x indemnity percentageindemnity percentage Indemnity percentage may be less than Indemnity percentage may be less than

100% for large scale producers who do 100% for large scale producers who do not participate in the National Poultry not participate in the National Poultry Improvement Program (NPIP)Improvement Program (NPIP)

Indemnity payment may be split Indemnity payment may be split between owner and contract growerbetween owner and contract grower Contract grower indemnity payment = Contract grower indemnity payment =

(expected earnings (based upon (expected earnings (based upon previous flocks) prorated by actual previous flocks) prorated by actual production length – any company production length – any company payments already received) x indemnity payments already received) x indemnity raterate

Company indemnity = total indemnity – Company indemnity = total indemnity – any indemnity payments to contract any indemnity payments to contract growergrower

Appraisal Valuation MethodsAppraisal Valuation Methods

Two Basic Appraisal MethodsTwo Basic Appraisal Methods Revenue MinusRevenue Minus

Start with value of final product and work backwards Start with value of final product and work backwards subtracting costs and share of retained earnings for each subtracting costs and share of retained earnings for each downstream production/processing phasedownstream production/processing phase

Cost PlusCost PlusAppraisal value is equal to cost of production plus Appraisal value is equal to cost of production plus

accumulated shares of retained earning for each upstream accumulated shares of retained earning for each upstream production/processing phaseproduction/processing phase

Both methods produce the same exact value, thus Both methods produce the same exact value, thus provide internal check that spreadsheet equations are provide internal check that spreadsheet equations are correctcorrect

Cost Plus will be discussedCost Plus will be discussed

Cost Plus Appraisal ValueCost Plus Appraisal Value

Valuation based upon cost of production and Valuation based upon cost of production and allocated retained earningsallocated retained earningsRetained earnings = net margin (gross profit) – Retained earnings = net margin (gross profit) – income taxes – return to owner equity income taxes – return to owner equity (dividends)(dividends) Assumed to be 1/3 of net margin Assumed to be 1/3 of net margin

Approximate U.S. corporation average (US Bureau of Approximate U.S. corporation average (US Bureau of Economic Analysis)Economic Analysis)

If net margin is negative then retained earnings are If net margin is negative then retained earnings are set to zeroset to zeroThis method guarantees companies at minimum will be This method guarantees companies at minimum will be

compensated for their unrecouped costscompensated for their unrecouped costs

Retained earnings are allocated across the Retained earnings are allocated across the various production/processing phases based various production/processing phases based upon each phase’s share of total costupon each phase’s share of total cost

APHIS’ Appraisal CalculatorsAPHIS’ Appraisal Calculators

Spreadsheets used to determine valueSpreadsheets used to determine value Broilers: Broilers:

MeatMeatBreeders (Parents)Breeders (Parents)

TurkeysTurkeysMeat: Hens & TomsMeat: Hens & TomsBreeders: Hens & TomsBreeders: Hens & Toms

Table Egg: LayersTable Egg: Layers

Uses national numbers so as not to identify any Uses national numbers so as not to identify any one companyone companyUpdated MonthlyUpdated Monthly Meat & egg pricesMeat & egg prices Feed price indexFeed price index

Customized ValuesCustomized Values

A poultry company has the option of basing A poultry company has the option of basing appraisal value on their own cost of production appraisal value on their own cost of production data where value equals unrecouped costdata where value equals unrecouped cost Meat birds value = cost of productionMeat birds value = cost of production Breeder/layers value = capitalization cost - Breeder/layers value = capitalization cost -

depreciationdepreciation

DocumentationDocumentation Computerized RecordsComputerized Records

Productivity dataProductivity dataCost of production dataCost of production data

Grandparent ValuationGrandparent Valuation

Grandparents and parent layers are generally Grandparents and parent layers are generally produced by a few poultry companiesproduced by a few poultry companies

Valuation will have to be customizedValuation will have to be customized Use same valuation approach as for parent/layersUse same valuation approach as for parent/layers Data requirementsData requirements

Productivity dataProductivity dataCost of production dataCost of production dataRevenue dataRevenue data

If unwilling to provide this data, then valuation If unwilling to provide this data, then valuation will equal that of parent/layerswill equal that of parent/layers

Appraisal CalculatorsAppraisal CalculatorsFor each speciesFor each species Over 100 input parametersOver 100 input parameters

Prices, Costs & Productivity dataPrices, Costs & Productivity data Over 200 equationsOver 200 equations

With feed costs feedback loopsWith feed costs feedback loops

BroilersBroilers 3 sizes of meat birds3 sizes of meat birds Breeder birdsBreeder birds

TurkeysTurkeys Meat: 2 sizes each for hens and tomsMeat: 2 sizes each for hens and toms Breeders: hens and tomsBreeders: hens and toms

LayersLayers 3 laying periods3 laying periods

Meat Bird ValuationMeat Bird Valuation

Slaughter Value = cost of Slaughter Value = cost of production + allocated retained production + allocated retained earnings of any upstream earnings of any upstream production phases, e.g. production phases, e.g. breeder birds & hatchery in an breeder birds & hatchery in an integrated broiler companyintegrated broiler company

Initial value: day-old chick cost Initial value: day-old chick cost + (slaughter value – final + (slaughter value – final production cost) x livability %production cost) x livability %

Mid-Age Meat Bird ValuationMid-Age Meat Bird Valuation

Linear interpolation between beginning value and Linear interpolation between beginning value and ending (slaughter) valueending (slaughter) value Beginning value + beginning age Beginning value + beginning age ÷÷ slaughter age * slaughter age *

(slaughter value – beginning value)(slaughter value – beginning value)Age expressed in days in barnAge expressed in days in barn

0

4 0

Bird Age

Ap

pra

isal

Val

ue

Light

Medium

Heavy

Breeder & Layer ValuationBreeder & Layer Valuation

Three valuation pointsThree valuation points Initial (Day-old chick) Initial (Day-old chick) Maximum (Beginning of Lay) Maximum (Beginning of Lay) Final (Salvage) = Spent hen Final (Salvage) = Spent hen

priceprice

0

4 0

Initi

al

Max

imum

Final

Bird Age

Ap

pra

isal

Val

ue

Value

Cost & Dep

Breeder & Layer ValuationBreeder & Layer ValuationBeginning of lay valuationBeginning of lay valuation Value = capitalization cost + Value = capitalization cost +

allocated retained earnings from allocated retained earnings from future egg productionfuture egg productionRetained earnings based upon 12 month Retained earnings based upon 12 month

rolling average pricerolling average price Value declines linearly to salvage Value declines linearly to salvage

(spent hen) value(spent hen) value

Day-old chick valueDay-old chick value Value = day-old chick cost + Value = day-old chick cost +

(beginning of lay value – (beginning of lay value – capitalization cost) * livability %capitalization cost) * livability %

Linear interpolation between day-old Linear interpolation between day-old value and beginning of lay valuevalue and beginning of lay value

Breeder & Layer ValuationBreeder & Layer Valuation

Broiler & Layer Breeders Broiler & Layer Breeders all valuation is in the hen, all valuation is in the hen, therefore, don’t count therefore, don’t count roosters in bird inventoryroosters in bird inventory

Assume a single layAssume a single lay

Value at beginning of lay Value at beginning of lay when moltedwhen molted Capitalization cost (value Capitalization cost (value

at molting age plus costs at molting age plus costs during molting) plus during molting) plus allocated retained earnings allocated retained earnings of expected egg productionof expected egg production

Multiple Lays Bird Appraisal Value

0

4 0

Initi

al

Bird Age

Ap

pra

isal

Val

ue

1st Lay

2nd Lay

3rd Lay

Brown & Organic Table Egg LayersBrown & Organic Table Egg Layers

Brown Egg LayersBrown Egg Layers Value determine using Value determine using

brown egg price and brown brown egg price and brown egg layer productivityegg layer productivityBrown egg layer productivity Brown egg layer productivity

determined by comparing determined by comparing breeding companies breeding companies production guides for white production guides for white & brown table egg layers& brown table egg layers

Organic: Value at Organic: Value at capitalization assumed to be capitalization assumed to be 50% greater than that of 50% greater than that of brown egg layersbrown egg layers

Organic & Conventional Table Egg Layers

0

4 0

Initi

al

Max

imum

Final

Bird Age

Ap

pra

isal

Val

ue

Organic

Conv.

Turkey Breeder ValuationTurkey Breeder Valuation

Turkey hens & toms valued Turkey hens & toms valued separatelyseparatelyAllocated retained earnings Allocated retained earnings

divided evenly between hens divided evenly between hens and tomsand tomsSince one tom services several Since one tom services several

hens allocated retained earnings hens allocated retained earnings per tom is greater than that of per tom is greater than that of henshens

Thus toms have greater value Thus toms have greater value than hensthan hens

Cost DataCost Data

National productivity and cost data from 2009National productivity and cost data from 2009 Updating with 2010 data is plannedUpdating with 2010 data is planned

Monthly adjustments for feed costs based on changes in Monthly adjustments for feed costs based on changes in feed costs used by USDA-NASS to calculate its broiler-feed costs used by USDA-NASS to calculate its broiler-feed, turkey-feed, and market egg-feed ratios.feed, turkey-feed, and market egg-feed ratios. June ‘11 feed cost indexes (2009 = 100): June ‘11 feed cost indexes (2009 = 100):

broilers, 148; turkeys, 150; layers, 156broilers, 148; turkeys, 150; layers, 156 Changes in feed costs not only impact the cost of feeding a meat Changes in feed costs not only impact the cost of feeding a meat

bird or producing an egg, but also the costs to produce a bird or producing an egg, but also the costs to produce a breeder/layer which impact bird depreciation cost in egg breeder/layer which impact bird depreciation cost in egg production. The change in egg production costs in turn impacts production. The change in egg production costs in turn impacts the cost of a day-old chick which changes total production cost the cost of a day-old chick which changes total production cost of a meat bird.of a meat bird.

Base day-old chick cost: NASS’ Base day-old chick cost: NASS’ Agricultural PricesAgricultural Prices

Broiler Price DataBroiler Price Data

Meat: USDA-ERS’ monthly composite Meat: USDA-ERS’ monthly composite wholesale price for broiler meatwholesale price for broiler meatJun ‘11: current, Jun ‘11: current, $0.718/lb $0.718/lb

12-month avg., $0.719/lb12-month avg., $0.719/lb

Spent Hens: average of USDA-AMS’ Spent Hens: average of USDA-AMS’ Monthly Heavy HensMonthly Heavy HensJun ‘11: $0.1369/lbJun ‘11: $0.1369/lb

Turkey Price DataTurkey Price Data

Meat:Meat: Light Hens & Toms (up to 98 days old): USDA-AMS’ Light Hens & Toms (up to 98 days old): USDA-AMS’

Monthly Frozen Whole Body, FOB Shipper’s DockMonthly Frozen Whole Body, FOB Shipper’s DockJun ‘11Jun ‘11 currentcurrent 12-month avg.12-month avg.

HensHens $1.0314/lb$1.0314/lb $0.9790/lb$0.9790/lbTomsToms $1.0506/lb$1.0506/lb $0.9802/lb$0.9802/lb

Heavy Hens & Toms: Monthly composite price based Heavy Hens & Toms: Monthly composite price based upon AMS’ National Young Turkey Parts and Bulk upon AMS’ National Young Turkey Parts and Bulk Meat & AMS’ percent carcass breakoutMeat & AMS’ percent carcass breakoutJun ‘11Jun ‘11 currentcurrent 12-month avg.12-month avg.

HensHens $1.1588/lb$1.1588/lb $1.1424/lb$1.1424/lbToms Toms $1.1707/lb$1.1707/lb $1.1488/lb$1.1488/lb

Layer Price Data Layer Price Data

Table EggsTable EggsWhite & Brown Egg prices calculated from White & Brown Egg prices calculated from

AMS’ Monthly Trailer Load Egg SalesAMS’ Monthly Trailer Load Egg SalesMay ‘11 12 month avg.: May ‘11 12 month avg.:

white, $0.6882/doz; brown, $0.9934/dozwhite, $0.6882/doz; brown, $0.9934/dozUSDA-NASS market egg price, $0.685/dozUSDA-NASS market egg price, $0.685/doz

Spent Hens: normally a cost to remove spent Spent Hens: normally a cost to remove spent layers, assume minimum layer value of layers, assume minimum layer value of $0.01/bird $0.01/bird

Data NeedsData Needs

LayersLayers Better brown egg layer cost & productivity dataBetter brown egg layer cost & productivity data Organic eggs: prices, costs & productivity dataOrganic eggs: prices, costs & productivity data Breeders: revenues, costs & productivity dataBreeders: revenues, costs & productivity data

BroilersBroilers Grandparent breeder informationGrandparent breeder information Colored bird: meat & breeder informationColored bird: meat & breeder information

TurkeysTurkeys Light tom productivity informationLight tom productivity information More breeder tom informationMore breeder tom information Grandparent breeder informationGrandparent breeder information