;I '7'~ 'ieepmt COST OF PRODUCING MARKET MILK ON OAHU THE HONOLULU MILKSHED J. A. MOLLETT. Agricultural Economics Report No. 36.

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1 COST OF PRODUCING MARKET MILK ON OAHU THE HONOLULU MILKSHED ) \ ;I '7'~ 'ieepmt J. A. MOLLETT,. Agricultural Economics Report No. 36 HAWAII AGRICULTURAL EXPERIMENT STATION UNIVERSITY o F HAWAII January 1959

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3 CONTENTS Introduction 3 Some Features of Oahu's Dairies. 3 The Sample Costing Problems and Procedures. 4 Average Cost of Production. 6 Average Price Received. 8 Net Income 9 Investment 9 Comparison of Costs of Production and Distributive Margins in Honolulu and Los Angeles. 10 Surrmary TABLES 1. Distribution of 42 dairies in the sample and all commercial dairies, by average monthly milk sales, Oahu, Average annual cost of producing market milk, per cow and per quart, 42 dairies, Oahu, Distribution of dairies and milk sales, by average cost per quart, 42 dairies, Oahu, Distribution of dairies and milk sales, by average price per quart, 42 dairies, Oahu, Distribution of dairies by average net income per quart, 42 dairies, Oahu, Average total investment per herd and per cow, 42 dairies, Oahu, Distribution of dairies by total investment per dairy and per cow, 42 dairies, Oahu, Estimated average cost of producing market milk (3.6% B.F., f.o.b. plant), and average total investment per cow, April 1 to June 30, 1958, Honolulu and Los Angeles mi lksheds

4 ACKNOWLEDGMENTS The author wishes to express appreciation for the valuable services given by Dr. James H. Koshi, Area Specialist in Dairy Science in the Hawaii Agricultural Extension Service, in arranging interviews with dairymen. The assistance of Oahu dairymen in readily making available their financial results and production records is also gratefully acknowledged. Other agencies which assisted in providing data used in this survey--feed companies, milk distributors, cattle importers, shipping companies> and the Hawaii Cooperative Crop and Livestock Reporting Service--also deserve credit for their help. PHOTOGRAPH ON COVER A typical dry -lot dairy in the Kaneohe area with the Koolau Range in the background.

5 COST OF PRODUCING MARKET MILK ON OAHU - THE HONOLULU MILKSHED A Preliminary Report J. A. Mollett!/ INTRODUCTION This report presents preliminary findings of a survey carried out in November and December, 1958, to determine the cost of producing market milk on the island of Oahu, which is the milkshed for the Honolulu metropolitan area. Data were collected from 42 dairies--roughly three-fourths of the total connnercial dairies on the island.l/ A more comprehensive report dealing with wider economic aspects of milk production on Oahu will be published later in Few cost data have, so far, been generally available relating to Oahu's most important livestock enterprise--market milk production. Sales of milk from Oahu's dairies at around 8 million dollars annually are about half the total annual value of the island's marketings of livestock and livestock products. They represent more than twice the corresponding value of marketings of fruits and vegetables produced locally. Almost all fluid milk consumed in Honolulu is, at present, produced locally. Relatively small shipments occasionally come from the other islands. This report has two primary objectives: to provide dairymen with comparative data which should be useful in checking standards of performance and production techniques and to give the milk consuming public some unbiased information relating to the cost of local milk production. SOME FEATURES OF OAHU'S DAIRIES 3 Most of Oahu's dairies are owner operated. Exceptions are some large units owned by corporations and managed by hired specialists. There is a considerable variation in the size of dairies. The smallest has about 40 cows and the largest about 1,000 cows. Most dairies have between 75 and 200 cows (the size distribution is shown, in detail, later in this report). In recent years the average number of mature dairy cows on Oahu has been around 10,650. Oahu's dairies occupy a relatively small area of land. In 1956 it amounted to about 10,700 acres. Roughly half of this area adjoined the barn areas of the 1/ Assistant Agricultural Economist, Hawaii Agricultural Experiment Station, and Assistant Professor, College of Agriculture, University of Hawaii. ll For various technical reasons, not all dairymen who wished to cooperate were included in this study. 11 This section is largely based on Grass for Oahu Dairies--An Economic Study of Grass Harvesting and Distribution and Other Factors Related to Dairy Production by Perry F. Philipp, James H. Koshi, and Robert L. Johnson. Hawaii Agricultural Experiment Station, University of Hawaii College of Agriculture in cooperation with the Agricultural Experiment Stations of the Western States, Bulletin 118, June 1958, pp

6 - 4 - dairies but only about 2,400 acres were used for maintaining cows. The remainder of the area adjoining the barns was generally too dry and rocky for use as pasture. About 5,700 acres were noncontiguous pasture lands, often some distance from the barns. This laqd was usually kept for rearing dairy replacements and for dry cows. In 1956 only one-third of all dairymen on Oahu owned the land on which their barns stood. One-third had short leases of 4 years or less and the remaining third had leases of more than 4 but less than 13 years. The noncontiguous pasture was generally held on relatively short leases of less than 4 years. One of the most important characteristics of Oahu's dairies is their dependence on the mainland United States for a large proportion of their inputs, or supplies. Feed, cows, and equipment are largely imported. Local grass, pineapple bran, and sugar strip cane (by-products of the local pineapple and sugar industries) provide some roughage for the ruminant dairy animal but only a relatively small proportion of the total nutrients fed. Such heavy dependence on imported supplies provides a major source of difficulty in keeping down the cost of Oahu's milk production. Freight charges for shipping cows, feed, and equipment largely contribute to the relatively high retail price of fluid milk sold in Honolulu (highest in the United States, apart from Alaska). Dairies on Oahu are currently adjusting to the rapid postwar urban growth around Honolulu and in the windward section of the island. There is a general movement of dairies from the close vicinity of the city to more rural areas. At present, Oahu's dairies are located in three main regions: on the leeward side to the southeast of Honolulu, extending from Waialae to Koko Head; also on the leeward side, but to the northwest of the city, extending from Red Hill to Waianae; and on the windward side, primarily between Waimanalo and Kahaluu. THE SAMPLE This report is based on data collected from 42 out of a total of 57 connnercial dairies on Oahu (excluding 3 dairies operated by institutions). The sample bears a close similarity in its size distribution, measured by average monthly milk sales, to the corresponding distribution of all commercial dairies on Oahu. This is clearly shown in table 1. The relatively large proportion of the total dairies included in the sample together with the close similarity in size distribution should ensure that the cost data obtained are representative of actual conditions. COSTING PROBLEMS AND PROCEDURES Information relating to financial results on cooperating dairies through 1957 to October 1958 were obtained from account books, monthly cost accounts (on the larger dairies), and annual, semiannual, and quarterly financial statements. Supplementary data were obtained from feed merchants, cattle importers, shipping firms, ~nd milk distributors. Oahu's dairies have a relatively high proportion of total expenses on a cash basis--compared with most mainland dairies. This makes it somewhat easier for the economist to make an accurate assessment of the actual costs involved in milk

7 - 5 - production. Such problems as the pricing of home-grown feed, the allocation of joint expenses, which are normally difficult to resolve in a copt study of this type, are only of relatively minor importance in calculating the cost of milk production on Oahu. Table 1. Distribution of 42 dairies in the sample and all commercial dairies,* by average monthly milk sales, Oahu, Average monthly milk sales Quarts 20,000 or less 20,001-30,000 30,001-40,000 40,001-50,000 50,001-60,000 60,001-80,000 80, ,000 Over 100,000 Number of dairies Samoie AII Total * Excluding three dairies run by institutions; and any dairy with less than 10 cows. Some accounting problems were encountered in this study, however. Dairies engaged in rearing some replacements had their costs allocated between milk and rearing on the basis of inputs used in these two enterprises. Some basis was also needed for determining the annual cost of durable factors--such as cows, owned land, and equipment--whose services enter the production process over relatively long periods. Several ways of charging these services are possible, each of them equally defensible. There was the related problem of deciding how to treat investments. Should the economist use original investment, for example, or would current replacement cost be better? How should the value of the unpaid labor of the dairyman and his family be determined? Another problem which arose was how should the dairyman's equity in his business be treated as compared with the equity represented by borrowed capital? The difficulty was not that these and similar questions cannot be answered but that there are so many possible and plausible answers to each. It is possible to arrive at widely differing cost figures depending mainly on the particular assumptions and arbitrary decisions inherent in the costing procedures. Before the procedures eventually adopted are outlined it should be noted that any arbitrary procedure applies alike to each dairy. The relative cost situation between one dairy and another will be practically the same whatever limitations particular procedures may have. Absolute production costs will be changed, however, with different procedures. Thus, calculated costs of milk production necessarily involving some arbitrary decisions are most useful in estimating differences in costs. These cost differences may refer to differences between one time period and another, or as in this study between one dairy and another and one market and another. It will become apparent after studying the cost data presented in the remaining sections of this report that calculated costs of production will not

8 - 6 - reveal the cost of production. Instead they will be found to vary widely among the different dairies in the sample. This wide distribution in calculated costs of production makes it a difficult problem to interpret such results in establishing, for example, whether dairymen are receiving a "fair price" for market milk. There is no exact way to decide on the matter. The relative importance of cash expenses in Oahu milk production, however, somewhat reduces the impact of these arbitrary decisions in the calculation of production costs. The following arbitrary procedures were adopted: investment was valued at its original cost less depreciation at rates cormnonly accepted by local accountants; the dairyman's equity in his business was charged at an annual rate of 6 percent; unpaid family labor was charged at $1.25 per hour for the dairyman and any other adult male workers, with appropriate adjustments for junior and female workers; annual depreciation rates on cows, equipment, buildings, etc., were based on current accounting practices--reflecting the expected period of use and the salvage value of these various "durable" items. AVERAGE COST OF PRODUCTION The average cost of producing market milk on 42 Oahu dairies in the 12-month period ending September 30, 1958, is shown in table 2. The data are presented on a per cow and a per quart basis. Table 2. Average annual cost of producing market milk, per cow and per quart, 42 dairies, Oahu, Production costs Item Prorortion of l'er cow PPT,...,.,..t- to al cost Dollars Cents Percent Feed Labor Net stock expense* Rent, interest Freight, fuel, repairs Depreciation: buildings and equipment Taxes, insurance Miscellaneous (uti1ities, dairy supplies, veterinary services, etc.)... Total * The net cost of the dairy herd's services in converting feed into milk. This item includes: depreciation on cows, any losses sustained on the sale of culled animals or from deaths in the herd. A small amount of credit for calves and manure was normally deducted to arrive at a "net stock expense" figure.

9 - 7 - Table 2 shows that the average annual cost of keeping a dairy cow was $727 and of producing a quart of milk, cents. Feed at $331 per cow and 7.89 cents per quart was by far the most important cost item. It represented 45.6 percent of the total cost. Labor at $129 per cow and 3.08 cents per quart was the second most important cost item percent of the total cost. Next in order of importance was net stock expense at $70 per cow and 1.66 cents per quart (reflecting the relatively high cost of imported cows)--9.6 percent of all costs. Rent and interest at $57 per cow and 1.36 cents per quart amounted to 7.9 percent of all costs. The cost of operating trucks, autos, tractors, and dairy equipment at $42 per cow and 1.00 cent per quart was 5.8 percent of the total cost. Other items such as depreciation of buildings and equipment, taxes and insurance, utilities, medicines, veterinary services, and miscellaneous dairy supplies amounted to a total of $98 per cow and 2.32 cents per quart--or 13.3 percent of total cost. None of these particular items individually represented more than 2 percent of the total cost. The variations which exist between the costs of one dairy and another are inevitably hidden in averaging the costs of all the dairies--as in table 2. Details of the distribution of dairies by average cost per quart are given in table 3, together with the proportion of total sales (from dairies included in the sample) produced at the various cost levels. Table 3 confirms that a wide range and distribution exists in the average cost of producing milk among the 42 dairies in the sample. Thus, three dairies had an average cost of between cents and cents per quart while at the other end of the cost scale two dairies had an average cost greater than cents per quart. Three-fifths of the dairies had an average cost of between cents and cents, per quart, and roughly two-thirds of total milk sales were produced at this cost level. Six dairies had an average cost greater than cents per quart; they produced slightly more than 10 percent of total milk sales. To complete the picture, 10 dairies had relatively low average costs--below cents per quart--and they produced one-fifth of total milk sales. Table 3. Distribution of dairies and milk sales, by average cost per quart, 42 dairies, Oahu, Average cost Number of Proportion of: per quart herds Herds Milk sales Cents Percent Percent Over Total Factors influencing these widely different average costs will be examined in the more comprehensive report to follow at a later date.

10 - 8 - AVERAGE PRICE RECEIVED The average price received by dairymen (f.o.b. plant) for the 12-month period under review amounted to cents per quart. Table 4 shows the distribution of average price per quart and the proportion of total sales at the various price levels. It follows a pattern similar to the previous table. Thus, at one end of the scale eight dairies had an average price of between cents and cents per quart while at the other end, two received between cents and cents per quart. The largest group (11) had an average price of between cents and cents per quart. There were seven dairies in each of the two groups with an average price of between cents to cents and cents to cents per quart, respectively. The seven remaining dairies received an average price of between cents and cents (4) and cents and cents per quart (3). Table 4. Distribution of dairies and milk sales, by average price per quart, 42 dairies, Oahu, Average price per quart Cents so Number of herds Proportion of: ---- Herds Percent Milk sales Percent Total The distribution of milk sales by average price received followed a pattern! somewhat different from the distribution of herds by the same criterion. A careat the lower end of ful reading of table 4 indicates that most small dairies were the scale of average price received. Thus, 15 out of the total of 42 dairies (36.7 percent) received an average price of only between cents and cents per quart and accounted for just slightly more than one-fifth (22.1 percent) of total sales. Nine dairies (21.4 percent) which received an average price of between cents and cents per quart at the upper end of the scale accounted for three-tenths (30.7 percent) of total sales. Between these two extremes, the remaining 18 dairies (42.9 percent) received an average price of between cents and cents per quart and accounted for almost half (47.2 percent) the total sales. The marked differences in average price per quart result from a number of factors including the level of the butterfat content of the milk, the seasonal pattern of production, and proportion of sales made at a non-quota price (roughly half the quota price)--a factor of special significance on the smaller dairies.

11 - 9 - NET INCOME Net income is the amount left (if any) after all expenses of milk production (including interest on the dairyman's equity and a charge for the dairyman's and any other unpaid manual family labor) have been deducted from returns. It includes net profit (or loss) and payment for management. Average net income on the sample of 42 dairies amounted to $27 per cow on an annual basis (average return per cow of $754 less average cost per cow of $727). This amounts to an average net income per quart of 0.65 cent. Table 5 shows the distribution of net income per quart among the 42 dairies. It indicates a wide range in income from a loss of more than 3.5 cents per quart to a profit of more than 4.0 cents per quart. Table 5. Distribution of dairies by average net income per quart, 42 dairies, Oahu, Average net income Distribution of herds per quart Cents Number Percent MINUS (-) } } 19.0 (28.5) PLUS ( +) } oo... 5 } Over Total These wide differences in net income clearly reflect considerable variation in the level of efficiency in the management of Oahu's dairies. This important aspect of milk production on Oahu will be examined in the later report. Table 5 shows that 12 out of the 42 dairies (28.5 percent) in the sample incurred losses in the 12-month period ending September 30, Ten dairies had an income ranging from 0.01 cent to 1.00 cent per quart; 11 had a corresponding ~ncome of between 1.01 cents and 2.00 cents per quart; while 9 had more than 2.01 cents per quart. INVESTMENT Average total investment per dairy and per cow are shown in table 6. The valuation of the different items of investment was based on the depreciated value of cows, buildings, etc. If the basis of valuation were to be changed to current replacement cost the figures presented in table 6 would need to be increased substantially.

12 Table 6. Average total investment per herd and per cow, 42 dairies, Oahu, Item Cows... Land... Buildings, improvements.. Dairy equipment... Trucks, tractors, autos.. Feed... Average total investment Per herd Dollars 57,810 16,621 15,533 9,0ll 6,401 2,675 Per cow Dollars Proportion of total investment Percent Total , Table 6 shows that average total investment per herd and per cow amounted to $108,051 and $642, respectively. Cows were the most important item of investment at an average amount per herd of $57,810 or 53.6 percent of total investment. Other important items were (on a per herd basis) land at $16,621; buildings and improvements at $15,533; dairy equipment at $9,011; and tractors, autos, and hauling equipment at $6,401. Investment in an individual dairy depends on a number of factors including: the length of occupancy of the dairy (newcomers have the heaviest investment per cow); the number of cows; the area of land owned; and the age structure of equipment. Table 7 sunnnarizes the investment picture per herd and per cow on the sample of 42 dairies. Table 7. Distribution of dairies by total investment per dairy and per cow, 42 dairies, Oahu, Total investment per dairy Number of dairies Total investment per cow Number of dairies Dollars Dollars 40,000 or less or less 3 40,001-60, ,001-80, , , , , , , , , ,000 3 Over 250,000 3 Over 1,000 7 Total 42 Total 42 COMPARISON OF COSTS OF PRODUCTION AND DISTRIBUTIVE MARGINS IN HONOLULU AND LOS ANGELES A comparison of the cost of producing market milk in the Honolulu milkshed (Oahu) and the Los Angeles milkshed (a similar dry-lot dairy region) yields some interesting information.

13 Cost data given in table 8 show estimated average costs of producing market milk and average total investment per cow in these two regions for the 3-month period ending June 30, The data have been adjusted to make them as closely comparable as possible. Table 8. Estimated average cost of producing market milk (3.6% B.F., f.o.b. plant), and average total investment per cow, April 1 to June 30, 1958, Honolulu and Los Angeles milksheds* Item Honolulu Los Angeles Difference Cents Cents Cents Eer guart Eer guart Eer guart Feed Labor Net stock expense Interest so.60 Taxes, insurance... Depreciation: buildings and equipment Miscellaneous Total... Average total investment per cow in herd $650 $450 $200 * Los Angeles data: Standard Production Cost Survey for Market Milk. Production Area: San Bernardino-Riverside-Los Angeles-Ventura. Date: April 1 to June 30, California Department of Agriculture, Bureau of Milk Control. Table 8 shows that the average cost of produ~ing market milk in the two milksheds, in the period under review, was estimated at cents per quart for Honolulu and cents per quart for Los Angeles--a difference of 6.07 cents. Average total investment per cow at $650 in the Honolulu milkshed was $200 more than the corresponding figure for the Los Angeles milkshed--reflecting the higher cost of cows and equipment on Oahu. One of the most important causes of the relatively large difference in average cost is the freight charge on feed, cows, and equipment shipped to Honolulu from the Mainland. These charges were estimated to amount to about 3.50 cents per quart--thus, the remaining cost difference amounted to about 2.57 cents per quart. Only a detailed analysis of production conditions in the Honolulu and Los Angeles milksheds can adequately explain these differences in average production costs. The prevailing price of standard grade milk per quart delivered to homes in June 1958 was 31.0 cents in Honolulu and 24.5 cents i~ Los Angeles (comparable average price in 25 major U. s. cities cents).~/ Thus, the difference in retail price between the two cities was 6.5 cents per quart. It will be noted that this amount is very close to the 6.07-cent difference in the average cost of producing a quart of milk in the Honolulu and Los Angeles milksheds. ~/ Fluid Milk and Cream Report, U. s. Dept. of Agriculture, Agricultural Marketing Service, Crop Reporting Board, Washington, D. C., July 1958, table 3, p. 12.

14 It seems quite clear from these data that the higher cost of milk in Honolulu relative to Los Angeles and other mainland cities is largely attributable to the difference in production costs, rather than in costs of distribution. The margin between retail and wholesale (f.o.b. plant) prices per quart in June 1958 for Honolulu and Los Angeles at cents and cents, respectively, were very similar. The preceding data relating to production costs and distributive margins may be interpreted in two ways: firstly, dairymen in the Honolulu milkshed received a noticeably higher proportion of the consumer's dollar spent on milk--56 cents as against 44 cents that the Los Angeles dairymen received; secondly, in spite of probable higher operating costs, local milk distributors succeeded in keeping their distributive margin down to the Los Angeles level. SUMMARY This report presents preliminary findings of a survey carried out on 42 dairies on Oahu in November and December, 1958, to determine the cost of producing market milk. The average cost of producing one quart of market milk on these 42 dairies in the 12-month period ending September 30, 1958, was cents. The average price received per quart was cents. Average net income--the difference between these two amounts--was 0.65 cents per quart. There was a wide range and distribution in production costs, prices received, and net income (on a per quart basis) between one dairy and another. Such differences arise from a variety of factors which are to be examined in a report expected to be published later in Twelve dairies {out of 42) incurred losses in the 12-month period under review. Average total investment per herd and per cow amounted to $108,051 and $642, respectively. Investment on individual Oahu dairies varied considerably depending on such factors as whether land was leased or owned, the age structure of equipment, and the length of occupancy of the dairy (newcomers to dairying having the highest total investment per cow). Investment was based on the depreciated value of livestock and equipment. Average total investment would have been substantially higher if it had been based on current replacement cost. A comparison of production costs and distributive margins in the Honolulu and Los Angeles milksheds in the 3-month period ending June 30, 1958, revealed that the higher cost of milk sold in Honolulu (31.0 cents compared with 24.5 cents, per quart) was largely caused by higher local production costs. Average production costs amounted to 6.07 cents per quart more in the Honolulu milkshed while the corresponding difference in distributive margins was only 0.11 cent. Dairymen in the Honolulu milkshed received 56 cents out of every dollar spent by local consumers on milk in June The corresponding figure for Los Angeles dairymen was only 44 cents.

15 UNIVERSITY OF HAWAII COLLEGE OF AGRICULTURE HAWAII AGRICULTURAL EXPERIMENT STATION HONOLULU, HAWAII LAURENCE H. SNYDER President of the University MORTON M. ROSENBERG Dean of the College and Director of the Experiment Station