ECONOMIC FEASIBILITY OF OUTDOOR

WEANED PIG FARMING IN WEST TEXAS

by

RONALD M. MUTAI, B.S.

A THESIS

IN

AGRICULTURAL AND APPLIED ECONOMICS

Submitted to the Graduate Faculty of Texas Tech University in

Partial Fulfillment of the Requirements for

the Degree of

MASTER OF SCIENCE

Annroved

Chairperson of the Committee

Accepted

Dean of the Graduate School

May, 2002

ACKNOWLEDGEMENTS

I would tike to thank my advisor Dr. Emmett Elam for his careful guidance and

his unending advice. His ideas, insights, and inspiration have been invaluable to this

research. 1 would also like to recognize my committee members Dr. John McGlone, Dr.

Terry Ervin, and Dr. Conrad Lyford for their active participation in my research project.

1 give special recognition to the Texas Tech University farm manager at Idalou (Jeny

Smith), and the graduate students at the Texas Tech Animal and Food Sciences

Department for their help with answering many technical questions about outdoor pig

farm operations and estimations.

Thanks go to the College of Agricultural Sciences and Natural Resources, to the

Department of Agricultural and Apphed Economics, and to the Department of Animal

and Food Sciences for providing the facilities that enabled me to complete my study.

Finally, I would like to thank my parents Stephen and Honesty Mutai for all their

sacrifices and imending love. Special thanks go to my extended family for their moral

support.

11

y

TABLE OF CONTENTS

ACKNOWLEDGEMENT

ABSTRACT

LIST OF TABLES vii

LIST OF FIGURES ix

CHAPTER

I. INTRODUCTION 1

Specific Problem Statement 9

Objectives 10

II. LITERATURE REVIEW 12

Economic Engineering Method of Cost Estimation 12

Feasibility Studies 15

Outdoor Hog Production 23

SEW (Segregated Early Weaning) Pigs 30

Return on Agricultural Assets 32

Stmctural Changes in the Pig Industry 35

Impact Analysis 37

m. CONCEPTUAL FRAMEWORK 39

Cost Estimation 39

Weaned Pig Pricing and Resource Allocation 40

IV. METHODS AND PROCEDURES 44

General Overview of the Farm 44

The Economic-Engineering Cost Estimation

Approach of Cost Estimation 51

Weaned Pig Pricing 63

Net Income and Financial Analysis 64

Comparison of Pig Farm Returns 65

ni

Estimation of Economic Impacts on West Texas 69

V. FINDINGS 71

Required Investment 72

Operating Cost Estimates 74

Net Income and Financial Analysis 77

Sensitivity Analysis 82

Comparisons 85

Economic Impact 96

VI. SUMMARY AND CONCLUSIONS 98

Limitations of the Study 99

Further Sttidy Needs 99

REFERENCES 101

IV

ABSTRACT

Prior studies have reported varying rates of return for hog farms, ^ •ith high returns

reported in some studies (Dodson, 1994; Cline et al., 1995). However, none of these

studies has analyzed the economic feasibility of outdoor weaned pig farming in the West

Texas region (weaned pigs are sold at an early age, 15-21 days). The objective of this

research project was to evaluate the economic feasibihty of an outdoor weaned pig farm

in the West Texas region. The research addressed the question of how pig farming will

mesh with row crop agriculture in the region and how it might gamer investment capital

from financial investors.

Four model outdoor weaned pig farms were specified and the cost stmcture of the

farms was estimated using the economic engineering method of cost analysis. .A-\'erage

cost was fotmd to decrease as farm size increased from 300 sows to 5,000 sows,

indicating economies of size in production. The outdoor pig farm returns were negative

for the 300-sow farm but increased as farm size increased. The 5,000-sow model farm

had an estimated annual return on investment of 24%. By comparison, the return on a

cotton farm is about half that plus cotton farming has greater risk (more variability in

return) than a pig farm. In addition, pig farming had a comparable return to stocks (S&P

Composite Index) with about one-third the risk.

This study found that outdoor weaned pig farming in West Texas is an

economically feasible agricultural investment for large size farms (5,000 sows and

larger). Pig fanning provides an alternative investment to cotton fanning or a secondary

enterprise with cotton farming. The addition of cotton and pig farming can reduce the

risk in a single enterprise farming operation. There is potential to obtain investment

capital for pig fanning from non-agricultural investors, since pig fanning can be used to

reduce risk in a financial portfoho.

VI

LIST OF TABLES

4.1 Price and Costs of Inputs 49

4.2 Equipment and Description 52

4.3 Operating and Depreciation Costs at the 300-Sow Farm 56

4.4 Operating and Depreciation Costs at the 600-Sow Farm 57

4.5 Operating and Depreciation Costs atthe 1,200-SowFann 58

4.6 Operating and Depreciation Costs

at the 5,000-Sow Farm 59

4.7 Assumptions Used in the Study 60

4.8 Weaned Pig Price Regression and Estimates 62

4.9 Breed-Wean ISU Business Records 66

5.1 Required Investments ($'s) in Land, Machinery and Equipment, Breeding Stock, and Operating Inputs for Entire Farm and Per-Sow by Farm Size 73

5.2 Annual Budgets of Revenue, Costs, and Returns by size of Operation 78

5.3 Annual Budget Returns on Average Investments, by Farm Size 80

5.4 Cash Flow Budgets ($'s) and Internal Rate of

Rettim (IRR) for 5,000 Sow Operation with 100% Equity 81

5.5 Sensitivity Analysis 84

5.6 Investment Cost of Indoor and Outdoor Weaned Pig Operations 86

Vll

5.7 Performance Measures for West Texas, Outdoor Pig Farms, by Size and Average Performance Measures For Breed-to-Wean, Iowa State University Swine Business Records 90

5.8 Means, Standard Deviation (SD), and Conelation Coefficients Between Returns for Cotton Farming and Outdoor Pig Farming 90

5.9 Means and Standard Deviations of Financial Investments and Outdoor Pig Farming and Beta Value of Outdoor Pig Farming 95

Vlll

LIST OF FIGURES

3.1 Cost versus Pigs Produced 43

4.1 Enlargement of Radial Showing Gestation Huts

(Rectangle), and Wallow (Round) 45

4.2 General Layout of the Idalou Farm 46

5.1 Average Costs by Production Level 75

5.2 Feed Cost, Labor Cost, and Depreciation 76

IX

CHAPTER I

INTRODUCTION

Farmers in the Texas High Plains are being forced to economize on the amounts

of water they can use on their farms. Over the years, the Ogallala Aquifer water levels

have declined, reducing the availability of water and increasing the pumping cost to

capture the water for farm application. Cotton production, which predominates in the

Texas high Plains, is highly dependent on rainfall or irrigation water. With the reduced

availability and higher cost to obtain water, there is need for alternative farming

enterprises that economize on water use. One altemative that has been researched at

Texas Tech University is outdoor pig farming. With outdoor pig farming, there is need

to irrigate the fields to maintain grass cover under the animals (to avoid being classified

as a Confined Animal Feeding Operation by EPA), and to provide water and watering

holes (wallows) for the pigs to fmd mud to cool down in the summer. Compared to

cotton farming, however, pig fanning uses considerably less water (pasture for a pig farm

requires 3 acre inches compared to cotton farming that requires 6 acre inches or more).

Thus, any change toward pig farming in place of cotton farming could conserve the

hmited water in the Texas High Plains region.

The earliest knovm records of modem outdoor pig farms are on hog farming in

England. In England, people usually had one or two pigs grazing on small plots and they

would let them graze freely after harvesting their subsistence crop. Historically, pigs

have been scavengers who live and forage in forests, woods and orchards. Outdoor hog

keeping can be traced back to tiie middle of the ninth century BC when pigs were first

domesticated (Thornton, 1990). The industrial revolution in England occurred during

the eighteenth century, and due to better living standards, there was a dramatic increase m

population. There was less space for pigs to roam outside and this led to the first step

toward pig confinement. Pigs were confined to areas near their food supply, which

could be near homes, agricultural sites or industrial sites such as breweries (Thornton,

1990).

Growth of pig populations in England was also evident in places where cereal

crops, mainly barley and oats, were produced, examples of this being East Anglia,

Yorkshire and the southeastem counties in England. Commercial breeding of pigs can

be traced to brewers who bought lean weaned pigs that were about fifteen weeks old.

They would fatten them on grain and wash, which is the grain residue obtained after

distilling liquor. After fattening they would then sell their pigs through valuable, over­

priced confracts, direct to the Royal Navy. The small farmers usually complained

bitterly of losing their fraditional markets that were being taken away by commercial

breeders (Thomton 1990).

Towards the end of the nineteenth century and the beginning of the twentieth

century, with population growth other industrial by-products like those obtained from

bakeries were available and widely used to feed pigs mainly at the edges of towns.

During the 1920s in England, confinement buildings, modeled after the Danish-type

buildings (closed bams), were built for fattening pigs. During the same time, animal

feed compound businesses developed in cities such as Liverpool and Bristol. They used

imported maize, barley and wheat from North America. Improved road and railwa>'

systems facilitated the transportation of animal feeds to farms throughout the country.

This led to development of supply chains that exist even today.

From 1954 onwards, pig production in England moved towards confinement at all

stages of production. In a period of 20-25 years, pigs moved ahnost wholly indoors into

specialized buildings. Specialization led to breeding sows being housed in yards with

individual feeders, which eventually led to individual sow stalls and tether systems.

Weaned, growers and fattening pigs were housed in insulated buildings. By the 1970s,

the pig industry was becoming increasingly specialized with fewer and larger units

accounting for a large proportion of the total output. According to Thomton (1990), by

the 1980s the British industry could have been considered to be operating on a high-cost

basis but with high outputs and leading the world in the application of technology and

technical developments.

The present day outdoor pig production system was developed by Richard

Roadnight on his farm at Britwell Salome near Watlington in Oxfordshire, England.

Present day methods depend on the sound principles he practiced and popularized

amongst a small group of pioneers. In the 1950s, he used sheep for his rotations on his

2,500-acre barley farm. His search for an altemative led to a decision to try an outdoor

herd of breeding sows.

The Roadnight system was based largely on a large herd of 400 sows that would

farrow twice a year in March and September, thus allowing the young to avoid the worst

of the winter weather. The March bom pigs could be sold off the fields as weaned pigs

later in the year, and September bom litters could be moved on to be fattened in straw-

yards. The system worked extremely well and was regarded as a low-cost, high-output

system.

At that time, major drawbacks to the system included laborious methods of

paddock fencing with stakes, pig netting and barbed wire. The cost of fencing was

relatively high since extra fencing was needed to prevent the hogs from finding their way

off the farms.

The Roadnight system and slight variations of it were widely adopted in various

parts of the United Kingdom, especially the southem cotmties and as far north as

Aberdeen. In the late 1960s, several large outdoor pig units could be seen directly under

the flight path as the landing approach was made at Aberdeen Airport. This outdoor

method was favored due to its profitability. Compared with the indoor system,

Roadnight's outdoor system provided strong healthy weaned pigs, lower labor costs and a

low capital outlay. On the other hand, drawbacks, including low productivity, difficulty

in controlling the herd, and unproductive sows, took long to recognize.

A close look at other countries revealed that the Roadnight (outdoor) system is

still in use. In the United States, pig production is now concentrated in the Com Belt

states of the Midwest, but this was not always the case. Pigs emigrated from Europe to

the Americas through the Caribbean, with the early pioneers in the fifteenth and sixteenth

centuries, and quickly made themselves at home. British pigs arrived with the early

colonists in the New England states, spread to the mid-Atlantic colonies and

Permsylvania, which became a great hog colony in the second half of the nineteenth

century, hi the early years of pig fanning in the United States, pigs were raised in A-

frame huts outdoor in the Midwest. Farmers would grow com and when it was more

profitable to feed the com to hogs (or cattle) than to sell it, they would feed hogs (or

catfle). That is, farmers would raise hogs and other livestock like cattle as a potential

avenue to market grain when grain prices were low.

Much of the industriahzation in the pig industry (transition into today's

specialized and commercialized enterprises) has occuned from an era 75 years ago when

nearly every farm raised some hogs (Rhodes, 1995). The period from the Great

Depression until 1970 brought the commerciahzation of hog production. Farmers largely

stopped butchering hogs for home consumption. A rapid transition of hog production

into partial or total confinement took place around the 1970s.

In the 1970s and 1980s hogs were typically produced on fanow-to-finish farms,

that is, farms with a breeding herd where the pigs are raised from birth to market

(Martinez, 1999). More recently the trend has been to produce pigs at more specialized

farms at three different sites, separated by location. The first site would be used for

breeding, gestation, and fanowing. After weaning, the pigs would be moved to a second

site, a nursery facility where they would receive special diets and care. Once the pigs

reach an age of about 8-10 weeks and 40-60 pounds, they are transported to the finishing

facility, the third site, where they are fattened to market weight.

Environmental problems have risen with the confined hog operations and this has

caused researchers and farmers to take a second look at the mostly forgotten, outdoor

production method so popular at an earher time. "Not in my back yard" (NIMBY)

opposition has become very real for large and even for smaller producers seeking to

locate or expand in the Midwest Combelt (Rhodes, 1995). While it may not be known

exactly what effect NIMBY forces will have on pig production, it is conceivable that any

sizeable production will move West, to more sparsely-populated and cheaper range land

where it will be more economic to operate pig farms without much affront to the nostrils

of the residents. Outdoor hog fanning offers an ahemative that requires less up front

investment and can be enviroimientally friendly and animal friendly if done well. In the

last decade we have seen interest in outdoor pig farming grow as the Midwest faces

environmental problems with their hog farms. Studies have been undertaken by different

organizations on outdoor hog farming and more recently Texas Tech University and Dr.

John McGlone initiated the Low Input, High Output Sustainable Pork Production project,

which I will be looking at in more detail in my study.

One problem that may spur interest in outdoor pig farming in West Texas is the

arrival of the boll weevil in the Texas High Plains. Over the last few years, a significant

increase in the levels of boll weevil infestation has occuned. A study by the Texas

A&M Experiment Station and the Texas Tech Boll Weevil Assessment Task Force

(Abemathy et al., 1996) estimated that, due to the boll weevil infestation in the Texas

High Plains, gross farm incomes may be expected to decline by more than $190 million

per year and regional business may be expected to decline by more than $500 milhon per

year. (These estimates were projected for five to ten years into the fiiture from the time of

pubhshing, January 1997.) The task force also suggested that the loss in production is

likely to reduce employment by more than 9,000 jobs. BoU weevils attack the cotton

bolls while they are growing and destroy the cotton flowers, and in doing this the farmers

lose their crop. It has been difficult to eradicate the boll weevil due to a lack of

uniformity in eradication methods. (This has been rectified in some regions by the

adoption of a unified boll weevil eradication program.) The presence of the boll weevil

problem causes farmers to use higher levels of pesticides, and bugs such as the boll

weevil become more resistant to pesticides. When chemicals such as pesticides or

herbicides are continually sprayed, they interfere with other forms of animal and plant

life or drain into water catchment areas where they cause eutrophication and pollution.

By comparison, with sustainable pork production systems under study at Texas Tech

University, we can make peace with the environment in the Texas High Plains area since

we do not have to be concerned with problems associated with the use of pesticides,

herbicides, or fertilizer. (There is very little use of chemicals and fertihzer on a pig farm

compared to a row-crop farm.)

After land has been used for a long period of time to grow the same crops, it tends

to lose its fertility. This makes production much more expensive as farmers have to keep

using more and more fertilizer. With the problems facing the cotton industry, the time is

ripe for altemative enterprises that can profitably utilize the agricultural resources

available in West Texas. Given the situation, it appears that pig farming could make an

inroad into traditional West Texas cotton fanning. A similar situation occurred in North

Carolina, where indoor hog farming supplanted tobacco, a major cash crop. According

to a study by the Swine Odor Task Force at North Carolina State University (Wynne et

al., 1995),

Ahnost overnight North CaroUna acquired a billion dollar industry that leads the

nation in its rate of growth. This new industry was not built around a microchip,

and it did not arrive with great fanfare. But it was thoroughly modem, based

upon advanced technologies, intensive management, and scientific expertise. And

it has more impact on the state's economy than any other new industry in recent

times (p.3).

This is in reference to the indoor pig farming industry in North Carolina. If outdoor hog

fanning is an economically feasible enterprise in West Texas, a gradual shift in acreage

out of cotton farming and into pig farming could occur over time.

If outdoor pig farming were economically feasible in the West Texas region, it

would greatly benefit this region economically. This kind of operation has a number of

potential benefits in developing the regional economy. Swine farming is more labor

intensive than cotton farming and it would require people to work on the farms. In

additon, if the swine industry were to grow in West Texas, packing and processing plants

would likely be established and create additional jobs for local workers. Jobs would be

created in retail stores, banks, government, etc., due to the multiplier effects of swine

production. The results from this research will have potential benefits for agricultural

producers, processing industries, and the overall regional economy. Outdoor pig

farming provides an altemative enterprise for fanners that could offer increased

profitability over dry land cotton farming. Moreover, outdoor pig farming can be an

environmentally fiiendly, value-added enterprise that could create jobs and increase

income for mral communities in the Texas High Plains.

Specific Problem Statement

The cotton industiy in West Texas is well stmctured with a well-organized

production input sector, giiming sector, cottonseed oil milling, shipping and warehousing

sectors. The cotton industry includmg alhed industries is the backbone of the West

Texas economy. Cotton farming is faced with problems in rising production costs

(through use of expensive fertihzers), competition from foreign grown cotton, boll weevil

infestation, and a rapidly dimmishing source of irrigation water. The West Texas region

appears favorable for hog fanning since it has vast flat lands with few or no rivers, thus

ensuring minimal non-point pollution problems (from manure and urine runoff). The

area is sparsely populated which ensures that odor problems from swine manure will be

minimum. Although pig fanning in the West Texas region appears to offer a profitable

altemative to cotton farming, there are a number of potential disadvantages. Grain is

very expensive here because West Texas is a deficit region (because of the large demand

by cattle feedlots) and grain must be shipped in (thus incurring fransportation costs above

the shipping region's price). Weaned pig farming, which is looked at in this study, will

be an excellent altemative for West Texas since it does not require large amoimts of

grain. Weaned pig farming requires less grain (than feeder pig or farrow-to-finish farms)

since weaned pigs are sold off at an early age (15-21 days). Another disadvantage of pig

fanning is that when sows are bred in West Texas, since there are no markets for them,

they would have to be shipped to outside markets (e.g., the Midwest or California) for

fiirther fattening or slaughter. Plans by Seaboard, Inc. to build a new pork packing plant

between Dumas and Amarillo will certainly atfract finishing operations to the region,

which will provide local demand for weaned pigs. It has to be noted though that for hog

production to develop and grow in the West Texas region, the enterprise has to be

economically viable. Hog fanning on the Texas High Plains has to be able to compete

economically with hog farming in the Midwest and at the same time be able to be more

lucrative than cotton farming in this region. That is, producers will have to be able to

produce their pigs at an equal, or lower, cost than indoor farmers do in the Midwest and

make a higher retum on investment than cotton fanners for outdoor pig fanning to

become established in the region.

There is currently a lack of information and understanding of the economics of

pig farming in West Texas and to what extent pig farming could replace cotton fanning.

In addition, no information is available on the regional economic benefits of pig farming

to the West Texas region. This information will be beneficial to agricultural producers

in West Texas who are searching for enterprises to increase farm income and to diversify

their income base and lessen the uncertainty (variability) of yearly row-crop farm

income. The study results also should be valuable to researchers, technocrats, and policy

makers as they diligently try to find ways to fiirther develop the West Texas economy.

Objectives

The general objective of this research project was to determine the economic

feasibility of outdoor weaned pig farms in West Texas and their impact on the regional

economy of West Texas. The specific obj ectives of this study are to:

1. Specify model outdoor weaned pig farms for West Texas of varying sizes and

estimate the cost stmcture of each model farm;

10

2. Determine the economic feasibility of the model farms by;

a. Estimating the returns on the model outdoor weaned pig farms;

b. Comparing costs and returns to those of indoor pig farms in the Midwest;

c. Comparing returns from the model pig farais to those from cotton

fanning;

d. Comparing returns from the model farms to financial returns from stocks

and bonds;

3. Evaluate the impact of an outdoor weaned pig farm on output sales revenue for

the regional economy of West Texas.

11

CHAPTER n

LITERATURE REVIEW

The Uterature related to this study is organized into six major categories. The

first section reviews literature on the economic-engineering method of cost estimation.

The second section mainly deals with feasibility studies in agricultural production. The

third section examines literature on the outdoor method of pig rearing. The forth section

reviews studies that estimate returns to agricultural assets. The fifth section looks at the

stmctural changes in the hog industry. The fmal section reviews literature on economic

impact analysis.

Economic-Engineering Method of Cost Estimation

French (1977) looks at the economic engineering method of cost estimation as an

altemative to descriptive and statistical analysis of plant accounting data. The author

examines the economic-engineering approach as an appropriate method to synthesize cost

functions from engineering, biological, or other detailed specifications of input-output

relationships. The author also refers to the economic-engineering approach as the

building blocks approach, the engineering approach, or the synthetic approach. The

economic-engineering technique has thus evolved as "standard good practice" followed

to achieve particular study objectives in economic feasibility studies. The focus here is

on studies that combine processes or stage analyses into fiinctional estimates which may

12

reveal the nature of short run cost flinctions, the comparative cost of altemative

production methods under a range of conditions, and economies of scale.

The economic-engineering method is more clearly described by a series of four

steps. First is system description. The economic-engineering method requires much

greater knowledge of technical aspects of production than does the typical analysis that

relies on accounting techniques. Typically, the researcher is expected to become famihar

with all the working of the plant usually using flow charts and detailed job descriptions

developed to aid in visualizing the system stmcture.

Second, is the specification of altemative production techniques. Unless the

researcher is only interested in developing short-run cost fimctions for a single plant, the

researcher should consider the variations in production techniques that might be

employed at each stage of production. This makes the economic-engineering method of

production purposeful and not random.

Third, is the estimation of the production cost function. The total plant

production function is obtained by combining the production functions for the various

operating stages or components. Finally, is the synthesis of cost functions. Once the

production functions have been specified, the cost functions are determined by applying

factor prices. Short-run cost functions are obtained by specification of a set of production

techniques and their capacities (thus defining a particular plant) and computing variable

operating costs for a range of output rates, up to or in excess of the design capacity limits.

Long-mn cost functions are obtained by varying plant size.

13

French (1977) examined a four-phase process to undertake a feasibility study

using the economic-engineering method of cost analysis. The study outiines the four

phases as follows.

1. Analysis of final product demand—This phase brings together all available

information on consumption and utihzation frends, competition and production in

other areas, commodity price levels and price elasticities, income elasticities, and

requirements for product marketing. This is then fransformed into a set of

anticipated prices at delivery time.

2. Analysis of processing, assembly, and distribution costs—This phase requires

estimating processing and assembly costs (long-run cost functions).

3. Analysis of raw product acquisition cost and farm costs and retums—This phase

estimates the probable acquisition cost to the processing plant. If the commodity

is already produced in that area, then existing prices and opportunity costs for

altemative crops may establish the minimum level of prices that must be paid. If

production of the commodity has not been done before, then production costs

must be synthesized.

4. A final budgeting model, which evaluates expected benefits (or losses) from the

venture considered—This stage involves combining the first three stages to

estimate expected retums of processing and production for the several situations

and volume levels considered. A complete study might also mclude a complete

evaluation of expected environmental and community effects.

14

The economic engineering method has been used in firm optimizing studies,

feasibility studies, studies of efficient organization of market regions or industries, and

studies of wholesale market organization. Some examples of the application of the

studies are provided in the next section.

Feasibility Studies

Lazams et al. (1996) conducted a study of swine production networks in

Minnesota. Networking, or producer cooperation, is a popular concept in the swine

industry today. It is viewed as an approach that can help small and medium sized

operations gain increased access to information, technology, capital, and markets. It has

been suggested that networking will allow traditional producers to gain advantages

associated with larger, highly speciahzed, pork production systems and organizations.

The author states that networking is, "a means to gain access to a set of advantages which

a producer or input supplier by themselves could not acquire" (p.l).

The study presents financial analysis of a 1,400-sow farm in Minnesota. With

typical costs, the network farm breaks even with a market hog price of about $44/cwt

from farrow to finish. The research by Lazams et al. (1996) was financed by the

Minnesota Pork Producers Association to determine the extent to which Minnesota pork

producers are becoming involved in network arrangements, and to develop models of

successful networking strategies. The study also addresses questions of what type of

networking arrangements are possible, how to evaluate the benefits and costs of

15

becoming involved in a network, and what the logical steps to organize or join a network

are once the decision has been made that the benefits outweigh the costs.

Descriptions and analysis of swine production networks in this report are based on

interviews of Mirmesota producers who have joined networks that are far enough along to

be producing and selling hogs. The personal interview approach was favored over

telephone or mail interviews to enable the research to get a more in-depth understanding

of the topic. Interviewed producers included small-scale, informal farmer-to-farmer

formula pricing arrangements to large-scale, jointly owned weaned units directed by

hired consultants. All arrangements sought were far enough along to be operating and

producing pigs. Networks producing market animals were favored over those producing

breeding gilts only because market animal production networks represent a more

fundamental change in the industry and involve more management issues. Producers

involved in this study cited their main reason for being in a network as looking for a way

to access the technology and systems they saw necessary to achieve low cost production

of the product quality and volume to be competitive in the future.

To present financial analysis data on a 1,400-sow farm facihty, ownership costs

were calculated based on straight-line depreciation of the facilities. An 8 percent annual

opportunity cost interest rate is charged on the average investment in facilities, breeding

stock and operating inputs. Facilities were assumed to have a 15-year life with no

salvage value. Insurance at 0.65% and property taxes at 0.6%) are both charged on the

original constmction cost of the facilities and equipment. Current constmction costs

reported by the surveyed producers for a typical new 1,400-sow segregated-early-wean

16

farrowing unit includes facilities, equipment, and land, with a value of approximately

$1.3 million dollars, or $910/sow space. Nursery and grow-finish spaces are based on

miming the 27,791 weaned pigs through the nursery in 8 weeks and through the finisher

in 16 weeks. Four 1,200-pig nurseries and eight 1,200 pig-finishing buildings are used

for this study. At an estimated $120/pig space for the nurseries and $165/space for

finishers, the nursery will cost just under $0.6 million and a littie over $1.6 million for the

finishers. Land is also included at a cost of $10,000 dollars for finishers for the whole

operation. This study did not look at the cost of land for spreading manure.

The study also looks at operating input requirements based mainly on a 1,200-sow

weaned pig budget in DiePietre et al. (1994) and scaled up to a larger 1,400-sow size. To

determine profitability the study estimates rate of retum based on initial investment,

internal rate of retum, and rate of retum on average investment. The study realized

retums based on initial investment on the total per market hog sold (farrow-finish) of

4.45%) and internal rate of retum of 6.42%), and a retum based on average investinent of

8.01%.

DiePefre et al. (1996) conducted a study of the Missouri system of swine

production. The study prepared a manual that includes a 1,200-sow farrow-to-finish unit.

The study also developed a 1,200-weaner pig model. The study notes that for pig farms

to be economically viable, potential swine production facility sites must be thoroughly

and accurately evaluated to ensure that adequate land area is available to spread the waste

produced by the animals in a manner that is envirorunentally acceptable. Another

consideration is that a water supply of sufficient quantity and quality can be developed to

17

serve the production needs of the facihty. The authors in doing a feasibihty analysis took

into consideration: isolation, accessibility, water handing system, and bio-security.

Cline et al. (1999) in a study tifled "Positioning Your Pork Operation For the 21''

Century" had as a main objective to help producers cope with change in the pork

indusfry. According to the authors, "it is a comprehensive book" and it is a coordinated

effort to bring information on changes occurring in nutrition, genetics, reproduction,

health, buildings, equipment, marketing, and finance. The book not only attempts to

provide information about this broad range of topics, but also exammes the economic

retums for implementation.

The sttidy notes that there was a trend towards larger, more specialized hog

production and pork processing operations for the last 60 years or more, with 70%) of the

small farms leaving the industry in the last 15 years. The main driver of change is the

fact that farms participating in the Iowa State University Swine Business Records

program achieved in excess of a 25%o annual average rate of retum on capital in hogs

since 1980. The high rate of retum has atfracted outside investors into hog production.

Cline et al. (1999) presented systems of hog production, which are models or

simulations of "real world" situations. More specifically, the economic analysis in this

text is concemed with the effects of size and technology on cost of swine production.

Two broad categories of budgets are presented in this book—enterprises and

technologies. The enterprise systems are designed to capture the differences in cost of

production that may result from size differences. The study develops 1,200-sow, 600-

sow, 300-sow, and 150-sow farrow-to-finish enterprises. Two systems are developed for

18

the 150-sow unit, high and low technology. The authors also include chapters tiiat are

designed to assist smaller producers considering the adoption of various technologies

commonly employed by larger enterprises. The technology systems are designed to show

how smaller producers can implement the technology and how implementation might

impact cost of production. Technologies examined include: split-sex and phase feeding,

artificial insemination and enhanced genetics, all-in/all-out production, segregated early

weaning, marketing, and financial management.

The budgets for each system in this study were constmcted using an engineering

budget method. The systems are not based on a specific scenario; they are intended to

provide a benchmark for comparison and to demonsttate the methodology for making

cost comparisons.

DiPietre (1994), in a study on considering costs and benefits of SEW (Segregated

Early Weaning), gave the original motive of SEW as being to ehminate certain diseases

in breeding stock without costly depopulation of the sow herd. SEW, in a commercial

setting, is sometimes considered a sfrategy to reduce the economic impacts of diseases

but not necessarily eliminate them. SEW also helps increase efficiency in pig flow. This

practice helps develop a sale lot of single source, quality feeder pigs from multiple

farrowing farms with different health statuses. It reduces production risks in highly

leveraged startups or expansions. The success of any proposed change will depend on its

abihty to boost profits. Producers must assess both the technical and financial feasibility

of the change and then project their expected profits as a result of the change. The

19

feasibility results should be tested first, and if it is not feasible, then it should be

disquahfied.

Technical feasibihty for implementing SEW includes several areas related to site

selection. They include water (quality and quantity) and utility availability, permitting,

feasibihty of nutrients management from the site, and other site-related issues like bio-

security, distance from breeding-farrowing, odor, etc. If a suitable site for the technical

feasibihty cannot be found on the site that the farm is to be set up at, then the project

should be abandoned.

Once technical feasibility has been estabhshed, fmancial feasibility follows. The

debt-carrying capacity of the farm determines the financial feasibility. If the SEW

project is termed as being profitable, but the farm has insufficient debt-carrying reserve to

obtain the necessary capital, the project has to be judged as financially infeasible. Level

and structure of existing and anticipated debt load of the farm must be considered for

financial feasibility. If the farm has aheady used all of its capital debt repayment

capacity, then all expenses must come out of the cash flow. Otherwise, the SEW project

is said to be financially infeasible until debt reduction or restmcturing is accomplished.

After feasibility is established, then profitability analysis is undertaken. There are

a number of ways to assess the expected profitability of a change to SEW. The two most

popular methods are simulation modeling and partial budget analysis. Simulation models

are usually elaborate spreadsheet models to compare the baseline performance of the

farm to its performance after a change. Partial budgeting is an accotmting procedure,

which lists all of the expected changes, both positive and negative. Each change is

20

assigned a dollar value equal to its annual cost or rettim. From this information, an

expected change in profits is calculated. These two techniques require accurate

information from tiie farm's own record system and from outside sources (such as

building and remodeling costs and land acquisition costs). A careful and conservative

estimate of the biological improvements must be made along with their expected value.

According to the author, a veterinary consuhant who speciahzes in swine is required to

make these estimates.

The partial budgetuig technique is the simplest method to check for feasibility of

SEW (DiPietre, 1994). Partial budgeting is an economic tool that helps organize

information when minor to moderate adjustments are made to a whole-farm plan. Then

the cunent situation is compared with an expected outcome due to a change. To

constmct a partial budget, first define the proposed change. Then collect information

from the farm's OWTI record system and other sources regarding everything that will be

affected by the anticipated changes. Next, classify each change in four categories as

follows. On the positive side, the change will either be an increased retum or a decreased

cost. And, on the negative side, the change will either be an increased cost or a decrease

in revenues. The partial budgeting method assesses changes in annual profitability.

These changes are expected to remain constant until they are incorporated into the farm

plan. According to the study, fixed costs of buildings and improvements can be

remembered as DIRTI5. This stands for depreciation, interest, repafrs, taxes, and

insurance. It is advisable to accurately calculate these individually. However, as a mle

21

of thumb, 15-18%) of new cost can be used for depreciation, interest, repairs, taxes, and

insurance.

Cross et al. (1999) in a study on the economic analysis of a 600-sow contract

SEW feeder pig production unit analyzed the economic feasibility of indoor feeder pig

fanners in Tennessee. The study assumed above-average levels of management abilities

using modem buildings and equipment. All pig facihties used pit recharge or flush

systems for handling animal wastes. Building and equipment expenses were also based

on new constmction costs. Annual depreciation and interest expenses were calculated

assuming that buildings were halfway through their 20-year usefiil fives.

The budgets formulated by the study estimate economic costs and retums, and

include interest expenses for all resources used in the hog enterprise. The interest

expense reflects the fact that capital invested in hog production is costly. Borrowed

capital entailed a cash interest charge for repayment to lenders. Capital provided for by

the ovmer results in a non-cash opportunity cost, due to the fact that the capital could

have been invested elsewhere and eamed the owner interest. The study considered the

foregone interest as a cost to the owner, but not a cash expense. Labor expense was also

included in the budgets to reflect the cost of hired and/or family labor.

The enterprise budget for this study shows that an average of 9 pigs are weaned

per fitter, and sows farrow an average of 2.4 times per year. A group of sows farrow

every 7 days. Pigs are weaned at an average of 17 days (14 days to 21 days). AU

production is assumed to take place on a single site. The study used a market price of

$28.00 per pig at the farm in the base analysis. The annual replacement rate for sows on

22

this research project is 35% (208 sows). Sale of cull animals contributed $23,040 per

year to the feeder pig enterprise. Deductions from revenue included pork checkoff

expenses of 0.45%) of total hog sales to the National Pork Producers Council's pork

checkoff program. Total revenue for the 600-sow unit is $384,183, which is about $640

per sow at the assumed level of production. The estunated retum to land, management,

and risk is $1.18 per pig sold or $25.59 per sow. The study does not include feed for

pigs. Sow rations include both gestation and lactation diets.

The study does a sensitivity analysis to analyze the effects of changes in pigs sold

per litter, pig price, feed price, and pig price on retiun to land, management and risk. The

study found that positive retums occur when the pig price is $30/head and above for most

litter sizes examined. By confrast, when pig price is $26/head or less, retums are

negative for ahnost all feed prices examined. The enterprise was generally profitable

when pigs sold per sow remained above 19.4.

Outdoor Hog Production

Wegehenkel (1994) conducted a study on the Moorman's Outdoor Swine

Technology (MOST), a system that has the goal of providing producers with a relatively

low-investment, high-intensity altemative to confinement operations. This program

provides systems, products, and programs to compete effectively in the business of

producing pork. The study's main objective was to incorporate new technology to

overcome the traditional disadvantages of outdoor swine production units.

23

The author contends that a major factor in favor of outdoor systems is the high

cost of buildings and equipment for intensive confinement systems. Costs of $2,500-

$3,000 per sow are not uncommon for confinement, while outdoor systems can have

costs in die range of $650-$750 per sow. Labor requirements outdoors are expected to be

higher than in confinement. However, the British radial design breeding herd unit, which

was used in this study, significantly reduced the amount of labor required. Wegehenkel

(1994) also noted that other fradeoffs in an outdoor system compared to confinement can

be slightly less productive. Feed consumption can be slightly higher. Other costs, such

as beddmg, feed, and transportation, may be slightly higher. Lower charges for

buildings, energy, repairs and associated costs should more than compensate for these

added expenditures. The overall economic result is that slightly lower net margins,

coupled with significantly lower capital costs, work out to a better retum on capital.

Wegehenkel (1994) also looked at operating costs budgets for breeding herds and

herds selling feeder pigs that were adopted from a study done at Cambridge University in

England. The study recommended that land should be well drained, and ground cover

should be present and in good condition prior to stocking. A gestation rate in the

gestation-farrowing subunit of 6-7 sows per acre was about right to maintain ground

cover. Protection of pigs from temperature extremes was important. Shade ui hot

weather and insulated shelters and adequate bedding in cold weather were desirable.

Insulated fanowing huts were also very desirable in hot weather. In moderate climates,

pigs may be weaned into outdoor nursery environments. In more severe weather, some

sort of protected nursery facihty may be desirable.

24

Wegehenkel (1994) recommended a maximum stocking rate of 50-60 pigs per

acre in grow-to-fmish units, where successive groups of pigs can be rotated to new lots

and ground cover can be maintained in better condition. A local grass variety was

recommended for ground cover (Wegehenkel, 1994). Fescue was aheady present on the

site of this study. Hand feeding was prefened during gestation and a concrete slab is the

preferred feeding area. A complete pelleted or ground diet can thus be fed to the sows.

Waterers can also be placed on this slab to reduce formation of mud holes.

To have pigs old enough and large enough to withstand the rigors of outdoor

production, weaning generally should not be done before 3 or 4 weeks of age. In severe

weather, an indoor nursery might be necessary, especially for smaller pigs. The study

notes that heat has proven to be a bigger problem than cold m the breeding herd unit.

Shades and mister nozzles that are controlled by a temperature/humidity controller

provide valuable cooling. Where misters are used, gravel should be used to prevent the

formation of mud holes.

The Leopold Center (1996) conducted a study that looked at swine systems

options for Iowa, including outdoor production as an altemative to large-scale hog

confinement. Outdoor farrowing now accounts for 5 to 10 percent of Iowa's hog

production, although in some areas—^Dubuque, Delaware, and Washington counties in

Iowa; Henry County, Illinois; and Cass County, Michigan—it is still widely practiced.

Modem outdoor rearing offers advantages that make it a competitive altemative to

confinement. These systems requfre simple, portable housing, watering systems, and

feeders. Pigs and huts are moved with a fractor, loader, hydrauhc cart, or all terram

25

vehicles. Low cost, portable electric fences work well in confroUing pigs. Pasture

farrowers typically stock 7 to 15 sows and litters per acre, and labor demand per litter is

low.

The Leopold Center sttidy (1996) noted that two traditional systems are widely

used: the one-liter or all gih system and the two-litter system. In the one-htter system,

gilts are fanowed once, usually in summer, and sold. Their gih pigs are raised and bred

to farrow one year later. In the two-litter system, sows farrow in spring and fall,

generating two litters per year but avoiding summer and winter climate extremes. (A few

irmovative producers sfretch the pasture-fanowing time frame by using insulated huts to

fanow in the winter.)

Feed currently accounts for 60 to 70 percent of the total cost of producing hogs

farrow to finish. It is a major variable between low-cost and high-cost producers. Lower

fixed production costs of outdoor operations more than compensate for reduced litter size

and poorer feed efficiency. Analysis of Iowa State University Swine Enterprise records

from 1989 to 1993 showed that outdoor farrowing herds required 20.6 pounds more feed

per hundred weight of live gain (or 51.5 pounds more feed per 250-pound pig marketed)

(Leopold Center, 1996). Grazing of outdoor pigs can also conserve soil and help protect

water quality. Although not widely practiced due to the fact that pigs are non-ruminant

(monogastric) animals, the Leopold Center study advocates grazing alfalfa since pigs'

energy needs are low relative to their intake and their digestive tracts can utilize fibrous

feeds.

26

The Leopold Center sttidy (1996) reports that feed costs and fixed costs (which

depend on die housing system used) are the two main factors determining swine

operation profitability ui Iowa. One survey found that fanow-to-finish outdoor fanowing

producers enrolled in tiie Iowa State University Swine Enterprise records program from

1983-1989 weaned fewer pigs per litter, weaned fewer pigs per sow per year, and had

poorer whole herd feed efficiency than indoor confinement producers (Leopold Center,

1996). However, the outdoor operations had lower fixed costs and overall had lower cost

of production (a lower break-even price). These lower costs dramatically overshadowed

the reduced litter size and poorer feed efficiency. Fixed costs were $3.33 less per pig

weaned for outdoor herds than for indoor. The total production cost to produce a market

pig was $1.95/cwt, or $4.88 per 250-pound pig, less for the outdoor herds. Production

costs reflect feed, labor, repairs, utilities, health, and fixed costs. Overall, fixed costs

were estimated to be 30 to 40 percent lower for pasture systems than confinement

systems. Total costs were about 5 to 10 percent lower on pasture than confinement. The

number of weaned pigs per litter was 5 to 10 percent lower on pasture, but sow mortality

was usually lower in outdoor operations.

Honeyman and Peimer (1995) conducted a study of outdoor vs. indoor pig

production in Iowa. They cite a study by the Iowa State University Swine Enterprise

records from 1983-1989 that states that farrow to finish producers using outdoor

fanowing weaned fewer pigs per litter, weaned fewer pigs per sow per year, and had

poorer whole herd feed efficiency. However the outdoor operations had lower fixed costs

and overall had a lower cost of production or a lower break-even price. The lower cost

27

for outdoor production is dramatic and noteworthy in spite of fewer pigs per litter and per

sow, and poorer feed efficiency. Year to year variability was greater for outdoor than

indoor herds.

Honeyman and Pernier (1995) noted that outdoor pig production is a viable cost

competitive approach to raising pigs indoor in Iowa. Outdoor producers should focus on

keeping fixed costs low, which is the primary advantage of outdoor pig production, and

on improving the weaker areas of production includmg pigs weaned per litter and feed

efficiency. Pigs weaned/sow/year may be impossible or impractical to improve because

of the seasonality of outdoor production. Pigs weaned per fitter for outdoor production

systems have been reported to increase by intensifying management, tight control of the

breeding season, improved larger huts, and ample use of bedding. Aggressive parasite

confrol, phase feeding, split sex feeding, or feeder adjustments may achieve improved

feed efficiency in outdoor systems. Improved genetics may also improve both titter size

and feed efficiency. Sows with superior mothering ability would be very beneficial in

outdoor farrowing systems.

The differences of raising pigs indoors versus outdoors are obvious. Outdoor

production units use simple portable stmctures to shelter pigs. The pigs are spread out

over several acres. Indoor pigs are raised in confinement buildings. The economic

difference between outdoor and indoor swine production systems is less apparent. The

author notes that the success of outdoor pig farmuig ui Great Britain has demonstrated

that outdoor production is very competitive with indoor production when intensive

28

management of the outdoor system is coupled with well-drained soils, improved

technologies, and a mild climate.

The study analyzed annual averages from the Iowa State University Swine

Business Records program from 1989 to 1993 to compare indoor versus outdoor

productions, hidividual records of the producers had been previously summarized by

category. Only annual averages for each production category, both outdoor and indoor,

were available. The study analyzed these annual averages to determine an overall least

square mean (1989 to 1993), standard deviation, and a pooled standard enor of the mean

with P-value to determine statistical difference. A major deficiency of the data was the

very small number of outdoor herds (5 to 12) as compared to indoor herds (181 to 231).

The outdoor herds weaned 0.74 fewer pigs per litter (P<0.007) than the uidoor herds.

The weaning of outdoor herds was also more variable as shown by a larger standard

deviation in pigs per litter. Fixed costs for the outdoor herds was $3.33 less per pig

weaned than for the indoor herds (P<0.0001). Total production cost or breakeven price to

produce a market pig was $1.95/cwt., or $4.88/pig (250 lbs), less for the outdoor herd

than for the indoor herds (P<0.06). Production costs variability as shown by standard

deviation was larger for the outdoor herds, although this could be an artifact of the small

number of outdoor herds in the sample.

Outdoor herds had lower break-even cost of almost $5 per pig marketed. This

difference in cost was considerable and could have major unplications for

competitiveness and reduced risk of the outdoor system. Outdoor herds required 20.6 lbs.

29

more feed per hundred weight of live gain, or 51.50 lbs. more feed per 250 lb. pig

marketed than the indoor herds (P<0.006).

SEW (Segregated Early Weaning) Pigs

Separating pigs at an early age from both the breeding herd and grow-fmish pigs

has revolutionized the swine industry (Hill, 1994). Segregated early weaning (SEW) is

an age separation practice that provides healthier, more efficient pigs. It unleashes the

genetic potential for growth and lean deposition of our improved breeding stock. Hill

notes that SEW has evolved over the past 15 years. It is an all-encompassing term

defining production systems that minimize infectious diseases by age separation. Early

weaned pigs from 10-21 days are separated from the breeding herd and from grow-finish

pigs. Recognizing the biological value of age separation is the reason for the revolution.

There are many variations/modifications to the SEW method, but they all depend on one

fact: when an infectious disease spreads through the breeding herd, a stabilizing process

occurs. This stabilizing process is mediated by the immune system of the animals. Once

stabilization occurs, little or no fransmission takes place to offspring during the first 2-3

weeks of life.

According to Clark et al. (1999), SEW refines the technology developed by MEW

(medicated early weaning). Two differences between SEW and MEW are medication

and isolation distance. However, if certain diseases are present in the herd, a regime of

medication may be required to help eliminate those diseases (Cline, 1999). Requirements

for the reduction of the quantity of medication given to the sows and piglets has been

30

implemented under SEW. hi addition, the distance required to be kept between the

breeding and early weaning herd has also been reduced. Past research required that in

heavily concentrated production areas, the nursery had to be several miles from the

breedmg and farrowuig units. This was not practical and cunent work indicates that

several hundred feet might be sufficient separation to ensure bio-security for the eariy-

weaned piglets. Distance requirements have been reduced due to the fact that pigs will

only be in the growing units for a short period of time. Risk of disease transmission may

be higher using this, "multi-site-on-same-site method"; however, the limited separation

seems to be satisfactory for insuring bio-security.

Another requirement of SEW is that sows be naturally farrowed at their source

farm. Piglets should be weaned between 5 and 21 days of age (Clark, 1994). At

weaning, the piglets are placed in a nursery that is biologically secure (within the

limitations of the farm) from the breeding herd. The nursery used for SEW must be

cleaned and disinfected between each group of animals. Also, all-in/all-out production

techniques must be rigorously followed.

An important feature of SEW is that SEW is designed to be used as a tool in

commercial production. Due to costs involved in earlier systems, early weaning

generally was only used to produce breeding stock (other stages of production were not

treated to save on costs), and therefore, within a relatively short period after repopulation,

disease would become re-established in the new herd. Segregated early weaning not only

breaks the chain of disease transmission, but is very effective at preventing the chain

from reforming.

31

The sttidy by Clark (1994) refers to a research sttidy done at Purdue Uni\'ersity on

SEW, which shows that a set of benefits, aside from disease elimmation, exist. Eariy

trials at Purdue University give a strong mdication that SEW enhances productivity, for

example, reducing days to market and mortality, and improvmg feed efficiency.

The SEW weaning system is without doubt a proven production method that

provides healthier, more efficient pigs. The challenge for pork producers is to develop a

system fhat is economically feasible so they can take advantage of the technology. The

study notes that smaller producers will not have some of the advantages that larger

producers will receive from the system. For example, it will not be practical for someone

with 200-300 sows to have three isolated sites.

Retums on Agricultural Assets

Dodson (1994) focused his study on the profitability of individual farm businesses

that are farm proprietorships, partnerships, corporations, and cooperatives but it excluded

landlords and corporations. The study used farm level data from the U.S. Department of

Agriculture's Farm Costs and Retums Survey, 1987-91. In measuring profitability, the

study did not measure the well being of the household since households may receive

additional income from other sources. The study looks only at specialized farms since 40

percent of U.S commercial farm production is from farms that receive 95 percent of their

total production revenues from only two enterprises. In the study, Dodson disaggregated

data into 14 production specialties, which were further disaggregated: first by national

region and then by annual farm sales. This gave 67 unique armual sales class divisions.

32

Li each of these classifications the categories of region and farm size vary considerably

and farm retums are also in the same categories as the farm size.

The study notes that farm size played a role in the farm's retum. The study

measured farm business profitability using net farm income, net cash income, percentage

of farms with negative net farm income, and retums to assets. This study used different

categories for different regions, thus making it difficult to compare region-to-region or

crop-to-crop. The study calculates profitability of farms as measured by average retum

on assets (ROA) with and without capital gains for the years 1987 to 1991 for different

crops and livestock. For cotton, the study calculates an average ROA for the U.S. and for

regions by size of operation. For example, the U.S. is divided into regions, and then

farms are classified into categories by revenue levels, over $250,000, $100,000 to

250,000 and $100,000 and under. The 5-year average ROA for cotton was found to be

6.7 percent for the entire U.S and 3.3 percent for the West region. ROA for hogs is

calculated for the U.S. and for two regions by revenue category: North Central with

revenues over $100,000 and $100,000 and under, and Southeast with retums over

$100,000, and $100,000 and under. Dodson found the 5-year average ROA on hogs to be

4.4 percent. Compared to other retums, hogs generally did very well. In livestock, hog

retums were second to poultry, and when compared to crops, only vegetables did better

than hogs in retum on assets.

McEfroy and Dodson (1994) focused on specialized commercial hog farms,

which made up 68% of total hog production for 1987-1991. They note that

approximately 70%o of U.S. hog production origmates in the North Cenfral region. The

33

average commercial hog operation in this sttidy produced around 2000 hogs and operated

400 acres annuafly. Average gross cash incomes rose over the 1987-1991 period. Hog

prices were near or above $50.00 per hundredweight in 1990-91, resulting in 6-8% higher

livestock sales than ui the three previous years. Thus 1990-91 net cash incomes of

commercial hog producers recovered to the $40,000 - $50,000 range after two years of

net cash incomes around $30,000. The authors noted that the 6% variance in cash

incomes imphed relative stability from 1987-91. Cash expenses rose 15%o between 1987

and 1989; during the same period feed expense is the largest expense component

averaging 38% of the total. In 1991, 25%o of commercial hog farms had aimual sales of

greater than $250,000, and only 8% were in the largest size class of $500,000 or over.

Balance sheets for commercial hog operations follow national trends for general

agriculture with the ratio of equity to assets increasing. Total assets increased 13%) from

1987-91. Debt levels also fell. Financial ratios, like debt to asset ratios, while higher

than the U.S. average for all farms fell each year between 1987-90 and then rose .50

points in 1991. When compared to other farm types, commercial hog farms carried more

relative debt as indicated by the debt to asset ratio. Profitability as measured using

retum on assets for all commercial hog farms in 1987-1990, except for 1989, exceeded

the average for all livestock farms. Retums over the five-year period exceed retums on

all hvestock retums except for poultry. Efficiency as measured using the gross ratio

(achieved by dividing cash operating expenses by gross cash farm income) showed that

over the years 1987-91 hog farms operated more efficienfly than commercial beef or

sheep farms.

34

StiTictural Changes in the Pig Industry

In a sttidy of changes that the hog industry has gone through, Rhodes (1995)

looked at the transition the hog industry has gone through the last 75 years. The number

of farms with hogs declined from 3,768,000 in 1940 to 604,000 in 1969 (United States

Department of Commerce, Bureau of Census). The current industrialization began in the

1970's with rapid transition of hog production mto partial or total confinement.

Production units in the 200 to 499 head of annual sales began declining in the 1970's

with those in the 500 to 999 group fust declming in the 1980s, hi 1978, the Census

showed one-third of the output produced by units marketing 1,000 head or more per year,

but only 7 percent by those large units marketing 5,000 head or more. Nine years later,

the 5,000-head group marketed 58 percent. That percentage rose to 69 percent m the

1992 Census of Agriculture.

In a 1975 survey by Rhodes (1995), few producers marketed more than 50,000

head annually and they were ignored as an anomaly, hi their 1989 survey they tried to

identify all of the largest producers, countmg 33 producers marketing 50,000 head or

more in 1988 with a total output of 5.7 milhon market hogs, or 6.5 percent of national

slaughter (Rhodes, 1990). Further surveys showed 41 producers in the 50,000 group

marketing 8.1 milhon hogs m 1991 and 57 producers marketing 12.33 million hogs in

1993, or 13 percent of national slaughter (Rhodes and Grimes, 1992). These numbers

documem what industry leaders recognize as an amazingly swift evolution taking place in

hog production. Seven of those 57 frnns each marketed more than 500,000 hogs and

35

averaged 792,000 head for 1993. The total marketing for these finns m 1993 was 24.6

percent greater than in 1992.

The sttidy estimated that there were about 1,000 contractors in 1986 ranging in

size from annual sales of about 1,000 head to more than 500,000. Contractor marketing

is estimated to have grown from 9.5 milhon head of market hogs in 1988 to 13.2 milhon

in 1991 and an estimated 14 to 16 milhon in 1993. Very large contractor marketing

(50,000 up) has grown more swiftly from 4.1 milhon in 1988 to 11.0 milhon in 1993.

Small contractor marketing has grovyn from 5.4 milhon head in 1988 to 6.8 milhon in

1991. The smaller contractors were not mcluded in the survey that the author undertook

in 1993.

According to the 1992 Census of Agriculture, total hog/pig marketing by units

marketing 5,000 head or more was 82 percent of the total in North Carolina and 73

percent in Arkansas compared to 21 percent in Illinois and 14 percent in Iowa.

Approximately one-third of the super-producers (50,000 head plus) are located—or

headquartered—in North Carolina. Rhodes (1995) noted that these very large operations

are attracted to thinly populated areas with cheap land and lower-priced labor, and their

grovyth is less likely to continue in the lowa-IUinois-Indiana corridor.

Rhodes (1995) cited a study by Hurt at Purdue University that estimated a cost

advantage of nearly $2 per cwt of live hogs for a unit with 3,400 sows compared to a unit

of 650 sows. The author also notes that completely comparable costs are not publicly

available to distinguish between a declining or flat average cost curve m the long run, but

36

what is clear is that diseconomies of size are not limiting the growth of firms with 95,000

sows.

According to Rhodes (1995), the obvious winners to these stiiicttiral changes are

consumers who benefit from these large gains in production efficiencies and the smaller

gains sometimes available in vertical relationships in terms of lower prices and better

products. Irmovative, large scale, and integrated producers are wiimers. Losers include

those producers who hang on to old ways.

Impact Analysis

Otto and Lawrence (1999) focused their study on the Texas pork industry. The

study notes that total livestock and poultry marketing was $8.4 bilhon in 1999 with cash

receipts for hogs accounting for less than one percent of the total but the hog share is

increasing. The analysis focuses on the value of hogs produced in Texas as a critical

measure that drives expenditure levels for various hog related inputs and investments.

Therefore, the analysis was concemed with the impacts and resources in pork production.

The study notes that froml980 to the tune of the study the number of farms in the U.S

with hogs decreased by approximately 83%) from 27,000 to 4,600 farms. Meanwhile the

inventory of hogs per farm has increased from 34 to over 189.

For this study to reahze its goal. Otto and Lawrence (1999) developed different

budgets for different size systems because hog production is subject to economies of size

where unit input use per unit of output declmes as operation size mcreases. Accordingly,

peak production in Texas was classified into one of the three-size classes, small (150-

37

sow), medium (300 sows), and large (1,200 sow) size fanow-to-finish production

facihties. The operations size was classified using the 1997 Census of Agriculture

inventory distribution with updates from the 1999 USD A December Hogs and Pigs

ReEort to more closely reflect changes that have occurred the last three years. The input

output (10) model used was based on the IMPLAN system developed by the U.S. Forest

Service. The analysis looked at the overall unportance and contribution of the pork

industry to the Texas economy based on the 1999 situation and cunent levels of

production in the Texas pork industry. The study notes that the pork industry in Texas is

facing a trend towards larger units as evidenced by the acquisition of Murphy's and

Carroll's by Smithfield, which produces approximately 12%) of the hogs in the U.S. The

sttidy also looked at the environmental impact of pork production, as it is another

emerging issue that is not independent of the economic impact of the industry. The

study arrived at a Texas State farrow-to-finish average retum to capital of $80.00 per

litter. Total economic effects of the pork industry through the processing level as of 1999

production was: total personal income, $70.74 milhon; value added, $112.08 miUion; and

total employment impacts, 2,753.20 milhon.

38

CHAPTER m

CONCEPTUAL FRAMEWORK

The conceptual framework is focused on an analysis of cost estimation, pricing

(and thus rettuns), and resource allocation in outdoor pig farmmg as a new business

enterprise in West Texas. This section will illusfrate the fact that fanners who can

produce at the lowest possible cost at each possible output level will be able to compete

favorably m the market (Binger and Hoffinan, 1998).

Cost Estimation

The concept of average cost is an integral part of economics. An average cost

curve reflects the average cost of producing varying quantities of a product. There are

both short-mn and long-run average cost curves. A short-run average cost curve reflects

average cost for a given size plant with a given investment in plant and equipment. By

comparison, a long-nm average cost curve reflects the tangency points of different short-

run cost curves. The long-mn average cost curve represents the average cost of

producing different amounts of the product in different size plants. A long-ran cost

curve for outdoor pig production is shown in Figure 3.1. In general, long-nm cost curves

reflect economies of size, with average cost decreasing toward some minimum level as

farm size increases.

Hogs are predominantly raised in the Midwest. For the hog industry to establish

itself in West Texas, it would have to be able to compete with the Midwest hog industiy.

39

Hog markets, finishing farms, and pork processing plants are mostly located in the

Midwest region. Moreover, prices for hogs and pigs are largely estabhshed in the

Midwest region where a high percentage of hogs are raised and marketed.

Weaned Pig Pricing and Resource Allocation

Pricing efficiency in a purely competitive market situation relates to the degree in

which prices, premiums, and discounts conespond to producer costs (Henry, 1968). In a

competitive market, the marginal cost of producing a product is equal to its price (Binger

and Hoffinan, 1998). This point is the point of equilibrium in a supply and demand

framework:

(1)P = MC,

where MC is the marginal cost of raising pigs, and P is the price the market offers for

weaned pigs of a certain age.

The pig market is seen as being perfectly competitive m terms of buyers and

sellers in the market, mobility of resources, and freedom from undue restrictions. The

pig market is said to be homogeneous since a weaned pig raised in West Texas can be

substituted for another weaned pig from the Midwest with the same qualities. Individual

weaned pig producers being too small cannot effectively influence price, and that makes

producers price takers with the market forces of demand and supply determining tiie price

of weaned pigs. The major markets for pigs are hi the Midwest region where most pigs

are raised, and these markets are largely responsible for discovermg the market

40

(equilibrium) price of pigs. Pig prices in markets outside the Midwest are equal to the

Midwest price adjusted for fransportation cost.

Pig producers hi West Texas must compete on a cost basis with producers from

the Midwest. They would have to produce weaned pigs at equal or lower cost than the

market pig price (West Texas cost includes fransportation cost of weaned pigs to the

Midwest) to be able to stay in business and compete with Midwest pig farmers. Pig

fanners m the West Texas region will also have to produce at costs low enough to

cushion themselves from pig price troughs during low price cycles.

In a competitive market system, price levels and thus retums will determine

resource allocation. For pig production to become estabhshed in West Texas, it must

displace some other agricultural enterprise. In West Texas, cotton is the principal row

crop in much of the region, and the land used to produce cotton is suitable for pig

production. Minimal irrigation (3 acre inches per year) is needed on an outdoor pig farm

to maintain ground cover under the pigs' feet compared with 6 acre inches or more for

cotton farming. Approximately half of cotton acreage in West Texas is irrigated and

would be suitable for an outdoor pig farm. The potential for establishing pig farming in

West Texas depends largely on whether the retum from pig farming is competitive with

that of cotton fanning and other agricultural enterprises. An outdoor pig farm in West

Texas would have to contend with sharing resources with other agricultural enterprises,

such as cotton.

Investment capital to establish pig farms could come from a number of sources.

Displaced cotton enterprises, for example, could be the source of investment capital in

41

the form of land and equipment. Other sources of investinent capital include non-

agricultural investors. For non-agricultural interests to invest in pig farming they would

have to receive retums comparable to those eamed in financial investments such as

stocks and bonds. There is also potential for a financial investor to use agricultural

investments as a diversification option that reduces risk (variability) on a financial

portfolio.

42

Avg. Cost

Average Cost Curve

Number of Pigs sold

Figure 3.1. Average Cost versus Pigs Sold.

43

CHAPTER IV

METHODS AND PROCEDURES

This chapter will discuss the methods and procedures used to accomplish the

objectives. In the first section, a general overview of an outdoor pig farm is provided.

Then a detailed look at the economic engineering approach to cost estimation is

explained. The next section covers weaned pig pricing. Net income calculations and

detailed financial analysis are explained ui the following section. Retums from the

outdoor pig farm will be compared with retums from indoor pig farms in the Midwest,

with cotton farms in the West Texas region, and with financial assets. The last section

looks at the economic impact of a pig farm on the West Texas region.

General Overview of the Farm

The study was based on a research farm located in Idalou, Texas, and mn by the

Texas Tech Pork Industry Institute. A typical 300-sow farm has an irrigation system that

consists of a 120-acre center pivot irrigation system, boom arm for extending irrigation

water to the comers of the farm, and an underground piping system that supplies wallows

with water. It also consists of nine radials as shown hi Figure 4.1. Each radial has twelve

one-acre paddocks with a hub in the middle. Half of the farm is used for the first year,

and then production is rotated to the other half the following year, with 36 of tiie

paddocks being used for breeding/gestation and 12 used for fanowmg. Pastures are

rotated to allow the grass to recover and re-grow for the next rotation of sows.

44

Nine radials

A radial layout

Layout of a paddock

Figure 4.1: Enlargement of radial showing gestation: Adapted from Rachuonyo (2001) huts (rectangle), andwallow(round).

45

During farrowing, five sows are placed in each fanowing pen for a period of five

weeks. Ten sows are placed m each pen during breeding and gestation. Breeding and

farrowing huts are placed in each of these pens as required (Figure 4.2). Fanowing huts

are approximately 6 feet wide, 5.5 feet long, and 40 inches high, while the breeding and

gestation huts are 10 feet wide by 14 feet long. The huts are semicircular (hoop)

stmctures. Farrowing huts have a fender (gate) at the front of the huts to control the

piglets as shown in Figure 4.2. Farrowing paddocks contain five huts, and breeding and

gestation paddocks contain one hut. Roadways mn between each radial and a working

pen (hub) is placed in the middle of each radial. A wallow is established in each paddock

for cooling of the pigs. Surrounding the radials and connected to the roadways that ran

between each radial are roads and a grass strip that checks soil erosion and water run off

Land requirements

Land prices for the West Texas region were based on historical land prices

for the Southem High Plains. Land was valued at $600 dollars per acre, which is

approximately equal to the average price of irrigated cropland in the Southem High

Plains (Federal Reserve Bank of Dallas). The Idalou farm originally had an old world

blue stem sod, which was established under the USDA Conservation Reserve Program.

For this study, pasture establishment costs were calculated based on the experience the

Idalou farm has had with blue stem as a ground cover. Blue Stem was favored smce it

only requires minimal irrigation as compared to cotton.

46

* ^5..» > y

' 5 *f

A £'% fS '.*. -' ^ - ^

Figure 4.2: General layout of the Idalou farm

47

hi this study, it was assumed that 3 inches of water was applied to the outdoor pig farm to

maintain ground cover. Blue Stem was used as the standard pasture for each farm size

with establishment costs from the Texas A&M Experiment Station enterprise budgets.

Improvements for an Outdoor pig farm

A number of land improvements are required for an outdoor pig farm. Table 4.1

shows a description of the land improvements (as well as farm equipment) for the farm.

A perimeter fence was installed for each farm as a demarcation point and a way of

keeping stray pigs in. To effectively control the pigs and keep them in their paddocks, an

electric fence was used, which could be easily moved when the need to rotate arises. In

between each radial and around all radials are roadways that ease movement of pigs in

and out of the paddocks. At the middle of the radials is a hub. The hub is a steel

stmcture welded together with gates to each of the paddocks that facilitate pig movement.

The study assumed a well for each of the farm sizes that irrigated the land and supplied

water to the wallows in each paddock. The well is also used to irrigate the grass using a

center pivot system. To provide enough pressure to ran the wallows, a pressure tank and

a pressure pmnp is used. A storage building is used to store all farm equipment.

48

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49

Farm Equipment

To effectively nm an outdoor pig farm requires farm machinery and equipment.

A pickup track is used to run simple farm enands and transport pigs to the market in the

Midwest for the 300-sow, 600-sow, and 1,200-sow farms. A semi-track would have to

be hired for transportation for the 5,000-sow farm size. A tractor was used to pull a feed

trailer and hydraulic trailer. The feed trailer was used to feed sows by ferrying and

dispensing pig feed around the fence perimeter. The hydraulic trailer was used for

moving pigs around the farm whenever a movement was necessary. Considering the

large fracts of land used for outdoor pig operations, to ease mobility around the farm a

mule with frailer is used to move small items and labor.

Breeding Stock

The Idalou, Texas, outdoor farm has tested different breeds of pigs to determine

which does better in the West Texas climatic conditions. The farm is cunently using the

Newsham breed acquired from Newsham Hybrid (Colorado Springs, CO). For each farm

level an extt-a number of sows (4%o) was included in the budgets since it was assumed that

new gilts were brought to the farm about one month early to facilitate inbound

transportation in economical size units and to ready the gihs for entering the breeding

herd. Boars were provided for artificial insemination and for natural service.

50

The Economic-Engineering Approach of Cost Estimation

The economic engineering method was favored because it does not strictly require

the use of particular methods, however it recommends certain guidelines that have come

to be known as "standard good practices" (French, 1977). There are other methods that

can be used to carry out a feasibility analysis but they generally require the use of

historical accounting records, which are not available for a new enterprise such as an

outdoor pig farm in the West Texas region. The economic engineering method does not

require any previous accounting records since it involves a thorough study of every

component of the farm and this makes it expensive and time-consuming to implement.

Estimation of a production function with the economic engineering method requires a

wealth of technical know how about each and every component of the farm.

With the economic-engineering approach of estimation of farm cost, for each

production level, a set of four "standard good practices" was followed as explained below

(French, 1977). First, a thorough description of the farm process was developed through

a set of budgets for each production level. Second, ahemative production techniques

were specified for the pig farm. This was done with the help of graduate students at the

Department of Aiumal and Food Sciences at Texas Tech University who provided

information on the latest research and altemative techniques in the pig industiy. Third,

was tiie estunation of the production fimction for the farm. At this stage the study

combined all the production stages of an outdoor farm to get a clear idea how the fann

will operate. Finally, the cost fimction was synthesized. At this stage all prices and cost

were collected or developed, and cash flow statements were generated that would be used

51

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52

to calculate rates of rettim. Details of how the specific costs were anived at are covered

below.

Application of Economic Engineering Approach.

To effectively use the economic-engineering method of cost estimation, the study

used 10-year historical averages (1991-2000) for feed costs, breeding stock, power costs,

fuel costs, interest rates, land values, hay prices, and current (2000) costs for farm

equipment as shovyn on Table 4.1. Due to variation in the type of data available for this

period, a detailed explanation of how these costs were developed is covered below.

Land

Land costs are a ten-year average of irrigated land costs for the South Plains

Region (Table 4.1). Pasture estabhshment costs are based on 2000-year prices for inputs

(Table 4.3). Property taxes assessed on land are based on local tax rates for 2000.

Improvements

Land improvements are one of the major cost items for an outdoor pig farm. Cost

estimation for land unprovements for the 300-sow farm are shown in Table 4.3 and are

all based on 2000 prices. The cost of the outside, perimeter fence is based on Osbom and

Ervin (2000). Component costs for the electric fence and roadways are collected from

local reputable dealers and experts in the field.

53

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The cost estimates for steel components that go to make the hub came from a local dealer

(Gebos) and the welding cost estimates were received from the Idalou farm manager

(Jerry Smith). The cost for tiie well and irrigation system was developed from cost

estimates from local dealers and the High Plains Water District.

Farm Equipment

The outdoor method of pig rearing uses several pieces of equipment. For the 300-

sow pig farm, all equipment was valued at new cost level and depreciated on a simple

straight-line method except for the fractor, feed trailer, and mule, which were depreciated

on a total annual hours of use basis as shown in Table 4.3. Comparisons were done with

other local dealers, and nationally where local dealers were unavailable, to ascertain that

the appropriate cost was obtained for all equipment.

Breeding stock

For the 300-sow farm, 312 sows were assumed to be at the farm at any time

(Table 4.3). The extra 12 sows were included to allow time for new arriving sows to get

accfimated to the surroundings before having to go into the breeding routine. Sows are

depreciated on a two-year basis and sold off after two years. The price of sows was

calculated as the product of the sow weight times the price of market hogs plus four cents

per potmd, with $100 added to the resuU. The cost of artificial insemination (AI) and

catch boars was obtained from boar dealers in the Midwest.

55

Operating Inputs

Operating inputs for this study were mainly pig feed and labor. Feed costs were

developed using Texas Panhandle fanner com prices and Midwest soybean meal prices.

The hog feed was a ration comprised of 85% com and 15% soy meal. To calculate feed

price, the Texas Panhandle farmer com price was taken and an elevator markup of $0.40

per 100 pounds was added to achieve the elevator price for com. For soy meal, the

Midwest price was taken and a SlO/ton freight fee (fi-eight from the Midwest to Texas)

was assessed. A SlO/ton premix charge was added for breeding/gestation feed and

$20/ton premix was added for the fanowing feed. The feed mill charged a milling cost of

$25/ton for the 300-sow farm. Delivery of the feed to the farm cost the farmer $10/ton.

For the 300-sow farm, a manager, paid at the rate of $30,000 per year (before

fiinge benefits), was used for one-quarter time. Salary labor, paid $25,000 per year, was

used for three-quarter time. One person was hfred for farm labor at the rate of $ 18,000

per year. The 300-sow farm paid a total labor cost equal to two man-years of labor.

Fringe benefits were added onto the salaries hsted above to cover social security and

workman's compensation. Labor requirements and salary levels were reached after

consuhations with the Idalou pig farm manager (Jeny Smith).

Cost Estunation For Larger Farms

Cost estimation was also done for 600-sow, 1,200-sow, and 5,000-sow farms as

shown m Tables 4.4, 4.5, and 4.6. Cost estimation for the larger famas was done in the

same manner as cost estimation for the 300-sow fann discussed above.

56

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59

Table 4.7. Assumptions Used in the Studv. Inputs 300

Pigs weaned/litter Farrowings/sow/yr Pigs/sow/yr (1x2)

Pigs produced Feed markup ($/ton) Large lot premium for weaned pigs ($/head) Managerial labor, # Managerial labor salary ($1,000) Salary labor, # Salary labor ($1,000) Farm labor, # Farm labor salary ($1,000) Total # of workers Transportation distance (miles)

Transportation Cost ($/liead) Transportation per mile loaded ($) Farm/transport labor ($/hr)

Sow, vet/med/vaccine cost Pig vaccine cost ($/hd) Brucellosis-pseudorabies test ($/sow/yr) Lepto-erisipelas vaccine ($/sow/farrowing) Other medication ($/sow/yr)

Boars (hd) Number of days in Gestation Number of days in breeding Number of days in farrowing Acres No. Of tractors Feed wagons

sows 600 8.2 2.2

18.04 5412

25 0

0.25 30

0.75 25

1 18 2

350 2.34 1.64 6.18

0.6 8.5 0.5 0.5

5 114

5 23

160 1 1

sows 1.200 8.3 2.3

19.09 11454

20 0

0.25 30

0.75 25

2 18 3

350 1.11 1.63 6.18

0.6 8.5 0.5 0.5

8 114

5 23

320 2 1

sows 5,00C 8.4 2.4

20,16 24192

15 1

0.5 40 1.5

27.5 3

18 5

350 0.52 1.82 6.18

0.6 8.5 0.5 0.5 15

114 5

23 640

3 1 large

) sows 8.5 7 4

20,4 102000

10 2 1

50 6

30 6

18 13

350 0.35 2.00 6.18

0.6 8.5 0.5 0.5 58

114 5

23 2560

6 3 large

60

Changes are considered to accommodate differences in farm size/cost The 300-sow, 600-

sow, and 1,200-sow farms used a gooseneck trailer attached to a pick-up truck to

transport their pigs to the Midwest market while the 5,000-sow farm used a double-

decked semi-tmck (paid $2 per loaded mile). A regular feed wagon was used at the 300-

sow and 600-sow farms. A larger size feed wagon was used for the 1,200-sow farm and

three large feed wagons were used for the 5,000-sow farm. The assumptions about input

use, input cost, and sow productivity used in this study are reported in Table 4.7 for the

four model farm sizes.

It was assumed that pigs weaned increase from 8.2 pigs weaned/litter at the 300-

sow farm level to 8.5 pigs weaned/litter at the 5,000-sow farm level. Farrowings increase

from 2.2 farrowings/sow/year at the 300-sow farm level to 2.4 farrowings at the 5,000-

sow farm level. Feed markup declined from S25/ton at the 300-sow farm level to $10/ton

at the 5,000-sow farm level. The lower markups represent quantity discounts. The large

lot premium for weaned pigs range from $0 per head for the 300-sow farm up to $2 per

head for the 5,000-sow farm. The $2 premium is paid for single-sex lots large enough to

fill a standard finishing bam (with 1,000 pigs in a bam). The 300-sow farm used one

fractor and the 5,000-sow farm used six fractors. Other assumptions are Usted in Table

4.7.

61

Table 4.8. Weaned Pig Price Regressions and Estimates. A. Regression of Weaned Pig Price on Prices Paid Weaned pig price = 14.95 + 0.18*(Prices Paid) + en-or

(1.52) (0.018)b

Period, 1996-2000 (n=5) SEE=0.73 R-=0.97 DW=0.97

B. Regression of Weaned Pig Price on Iowa Auction Price Weaned pig price = 17.34 + 0.35*(Iowa Auction price) + error

(4.75) (0.13)b

Period, 1996-2000 (n=5) SEE=2.3Q R-=0.71 DW=1.07

C. Weaned Pig Price Estimates Year

1991'

1992'

1993'

1994'

1995'

1996"

1997"

1998"

1999"

2000" Mean

from Regr.

32.66

26.79 30.27

26.81

26.19

28.64

33.60

25.81

27.92

34.37 29.31

A from Regr. B

33.17

28.97 32.12

29.34

30.12

28.64

33.60

25.81

27.92

34.37 30.41

Average

32.92

27.88 31.19

28.07

28.15

28.64

33.60

25.81 27.92

34.37 29.86

'Estimated prices for years 1991-95. "Actual prices for Breed to Wean Performance Measures from ISU Business Records. •^J.S. Prices Paid for Feeder Pigs from Agricultural Prices.

62

Cost Curve Estimation

An economic average cost curve was fitted to the four average cost data points

(one for each farm size) using the functional form:

(1) ATC = po + Pi X (1/Pd)+^,

where ATC is the average cost (S/head), Pd is pigs produced, po and Pi are intercept and

slope parameters, respectively, and ^ is a random disturbance (error) term. The equation

above was estimated using least square regression analysis.

Weaned Pig Pricing

There is a lack of information for weaned pig prices. For this study it was thought

preferable to have at least 10 years of weaned pig prices but only five years of data was

available from the Iowa State University Swine Business Records or from USDA.

Feeder pig prices from the Iowa Auctions series and from the USDA Prices Paid

series were available for a ten-year period (1991-2000). The Iowa Auctions series is for

USDA #1-2 grade pigs weighing 40 pounds and the USDA Prices Paid series is for all

weight pigs (weights depend on farmer purchases). Weaned pig prices from the Iowa

State University (ISU) Swine Business Records program (1996-1999) and USDA weaned

pig price series (1998-2000) were available. The weaned pig prices from USDA and ISU

were combined to get a five-year series of weaned pig prices (1996-2000). Using this

series of weaned pig prices as the dependent variable, a regression was run with the

Prices Paid series as the independent variable using data for the period 1996-2000 (Table

4.8, Part A). To get a second set of weaned pig prices, a second regression was run with

63

weaned pig prices as the dependent variable and Iowa Auction prices (#1-2, 40 pound

pigs) as the independent variable using data for the same five-year period (Table 4.8, Part

B). To get estimates of weaned pig prices for the years 1991-1995, feeder pig prices

from the Iowa Auction and Prices Paid feeder pig price series were plugged into the two

regression equations. This provided two series of estimated weaned pig prices for the

period 1991-95. With the estimated prices we now have two flill ten-year pig price

series. The set of weaned pig prices attained from regression A and those attained from

regression B were then averaged to obtain a ten-year series of weaned pig prices. The

average of the 10 years of prices was used as an estimate of the price of weaned pigs for

the economic analysis. The data was not found to be conclusively positively auto

correlated.

Net Income and Financial Analvsis

Net income was calculated for the four model farms. Net income was calculated

as the difference between total revenue (number of weaned pigs x generated weaned pig

price) and total expenses including the interest expense on operating and fixed capital

(i.e., assuming a 0% equity basis). Net income was reported on a per-head basis.

To measxu-e the expected profitability of the investment as a percent of the

average investment over the investment's expected life, the rate of retum on an

investment was used. Rate of retum (RR) was calculated using: RR = (INC +INT)/

INV, where INC = projected annual income, INT = interest expense (i.e., opportunity

cost) on fixed and operating capital, and INV = investment in land, building, equipment,

64

breeding stock, and operating capital. The rate of retum was calculated for all farm sizes

studied at the average investment cost.

The pay back period was used to evaluate the period of time it would take for

each farm size to pay off its initial investment cost. The payback period for each farm

size was calculated by dividing the initial investment amount (INV) by the projected

annual cash flows (INC + INT+ depreciation).

The internal rate of retum (IRR) was used as a measure of the time value of

money and the temporal flow of funds. The IRR was calculated from cash flow spread

sheets generated for the a ten-year period which included initial investments in breeding

stock, buildings, equipment, and operating capital (at the project inception), annual

operating cash flows (INC + INT + depreciation) over the ten years, and the ending

salvage value of the assets at the end of the ten years. The IRR rate itself is the interest

rate that equates the present value of the net cash flow series to the initial investment

amount. IRR measures were calculated for each of the four farm levels.

Comparison of Pig Farm Retums

Comparison with Indoor Pig Farming in the Midwest

Feasibility of outdoor pig farms in West Texas depend on how their costs and

retums compare to that of Midwest farms where pigs are raised predominantly. To be

able to compete. West Texas producers must have an equal or a lower cost of production

(inclusive of fransportation costs to the Midwest region). To make a comparison with

indoor hog farming in the Midwest, data collected by Iowa State University were used.

65

Table 4.9. Breed-Wean ISU Business Record.

1999 ISU Swine Business Record Breed to Wean State Summary Total Number of Operations (35) AVERAGE

1. Average Price per Weaner Pig Sold, $27.92 2. Average Price per Cwt.of Cull Breeding Stock Sold, $22.31 3. Feed Cost per Cwt. of Pork Produced, $46.76 4. Other Oper. Cost (except Hired Labor)/Cwt. Pork Prod. $36.91 5. Utilities, Fuel Elec. & Telephone/Cwt., $9.82 6. Veterinary Services & Medicine per Cwt., $8.64 7. Depreciation, Taxes & Ins. Costs per Cwt. of Pork Produced, $18.41 8. Capital Charges on Fixed Capital/Cwt. of Pork Produced, $10.82 9. Capital Charges on Operating Capital/Cwt. of Pork Produced, $2.50 10. Value ofLabor (All) per Cwt. of Pork Produced, $33.12 11. Total Cost per Cwt. of Pork Produced, $148.52 12. Fixed Costs per period per Female Maintained, $80.95 13. Fixed Costs per period per Crate Maintained, $454.43 14. Fixed Costs per Pig Weaned, $4.84 15. Total No. OfNewly Weaned Pigs Sold this Period 5,575 16. Average Wt. of Newly Weaned Pigs Sold this Period 12.02 17. Pig Death Loss, Birth to Weaning (% of No. Farrowed Live) 11.99% 18. Breeding Stock Death Loss (% of No. Maintained) 5.26% 19. Average Breeding Female Inventory, No. of Head 300 20. No. of Litters Weaned per Female per Year 1-89 21. No. of Pigs Weaned per Litter 8.92 22. No. ofPigs Weaned per Female per Year 16.93 23. No. of Litters Weaned per Crate per Year 10-19 24. No. ofPigs Weaned per Crate per Year 91-25 25. Total Pounds ofFeed per Cwt. of Pork Produced, Lb. 781 26. Average Cost of Diets per Cwt., $5.94 27. Hours of Labor per Cwt. ofPork Produced, Hours 3.74 28. Hours ofLabor per Female Maintained per Year, Hours 10-86 29. Hours ofLabor per Litter Weaned, Hours 5 ^ Note. Adopted from the Iowa State University Swine business Records

66

Iowa State University collected breed-wean business records from 1996 to 1999

from 35 hog producers in Iowa as shown in Table 4.9. The Iowa State University (ISU)

Swine Business Records provide summaries for farrow-to-finish, breed-to-wean, wean-

to-feeder pig (nursery), breed-to-feeder pig, wean-to-finish, and feeder pig-to-finish

phases of production. Since our model West Texas farm is a breed-to-wean operation,

the breed-to-wean Midwest farm was used in the comparison. Comparison between

West Texas outdoor pig farming and ISU's Swine Business Records (breed-to-wean

category) was done using various performance measures (e.g., feed cost, labor cost, etc.)

to determine economic feasibility of pig farming in West Texas.

Comparison with Cotton Farming

Results from the financial analysis of the outdoor pig farm was used to compare

pig farming in West Texas with irrigated cotton farming. Data on cotton was collected

from the Standardized Performance Analysis-Multiple Enterprise (SPA-ME). Data from

SPA-ME was used because of its availability to the study. SPA-ME produces a summary

table of investment, financial, and economic information for irrigated cotton. SPA-ME

collects farm data from cotton producers in the West Texas region and evaluates the data

using a Lotus 1-2-3 based prototype software program designed for use in multiple

enterprise farming operations to calculate farmers retum on equity and retum to asset

ratio (cost and market basis). SPA also compiles data on unit cost of production and

break-even prices. In their final report, every year SPA reconciles financial information

that the producers provide. This mformation is then entered into the SPA financial

67

statements, and reconcfled with the assistance of the cash flow statement. This

information is used to calculate Farm Financial Standard ratios, which include liquidity,

profitability, solvency, repayment capacity, and operational efficiency of the famiing

operation.

For this stiidy, the per-acre dollar retum and retiun on assets/investment for

outdoor pig farms and cotton (SPA) farms were used to calculate the mean, standard

deviation, and correlation coefficients for cotton farms and pig farms. With this

information we can compare and evaluate the profitability of cotton versus pig farms, and

the possibilities of risk reduction by venturing into both pig farming and cotton farming.

Comparison with Financial Investments

To compare financial investments to pig farming, the internal rate of retum (IRR)

was used for pig farming and the geometric mean was used for the fmancial investments,

including stocks (large and small), long-term corporate bonds, long-term government

bonds, and treasury bills. Financial retums were taken from Ibbotson and Associates

(2000). The IRR and geometric mean are used since both take into account the time

value of money and compotmding effect. On the other hand, the arithmetic mean better

represents the typical performance over single periods (Ibbotson Associates). The

standard deviation is used as a measure of volatihty and the arithmetic mean is used in

the standard deviation calculation for the financial measures examined by this sttidy.

These comparisons were done to determine whether pig famiing competes with non-

agricultiual, financial investments.

68

A simple linear regression was run to measure the financial risk of an outdoor pig

farm as part of a financial portfoho. The regression included retum on pig faiming as the

dependent variable and retum on stocks as the independent variable.

(2) Retiim on Pig Farming (%/yr) = Po + pi *(Rettim on Stocks) + ^,

where return on pig farming is measured as the annual percent rettim on the 5,000-sow

farm, return on stocks is the annual percent retum on stocks (S&P 500 Index), po and Pi

are intercept and slope parameters, respectively, and ^ is a random error term. The

coefficient Pi is the beta coefficient from the capital asset pricing model in finance

(Ibbotson and Associates). The beta coefficient measures the systematic risk in an

investment. If beta is greater than zero, the investment is considered risky in a portfolio

context, with risk increasing with increasing beta. If beta is zero, the investment is a risk-

less investment with an expected retum equal to that of a freasury bill. If beta is negative,

the investment is risk reducing, which imphes that variability in portfolio retums can be

reduced by including the investment as part of the portfolio.

Estimation of Economic Impacts on West Texas

This section of the study looks at the economic benefits the West Texas region

would receive from the establishment of a 5,000-sow outdoor pig farm. The total added

revenue generated by a 5,000-sow farm was obtained and multiphed by a pig farm

multiplier (1.45) for the West Texas region to arrive at the total economic impact of the

pig farm. (Regional multipliers were obtained from Johnson (2000). The 5,000-sow pig

farm would occupy 2,560 acres of land. If we assume the acreage for the pig farm comes

69

from an existing cotton farm, then one must consider what impact the closing of a cotton

farm would have on economic activity. The total revenue from the 2,560-acre cotton

farm was estimated (from SPA-ME data for the period 1996-2000) and multiphed by a

cotton farm multipher (1.76) for the West Texas region to arrive at the total, negative

economic impact of the cotton farm. To get the regional net benefits, the cotton farm

total economic impact was subfracted from the pig farm economic impact.

70

CHAPTER V

FINDINGS

This chapter gives the results and interpretations from the economic feasibility

analysis of the model outdoor pig farms in West Texas (including 300-, 600-, 1200-, and

5000-sow size farms). The chapter is organized in six major sections: (1) required

investments, (2) operating cost estimates, (3) net income and financial analysis (4)

sensitivity analysis, (5) retum comparison, and (6) regional economic impact. The

requfred investments section represents an analysis of capital requirements over different

farm sizes. Operating cost estimates is an analysis of costs related to outdoor pig

farming. Net income and financial analysis represents an analysis of the rate of retum on

investment, and the intemal rate of retum (IRR) for an outdoor pig operation. Sensitivity

analysis examines the effects of variability in feed and pig prices on profitability. The

comparisons section compares the outdoor pig farm with: (a) Midwest farms to determine

if outdoor pig farming in West Texas can compete with the predominant pig producing

Midwest; (b) West Texas cotton farms to determine if pig farming can capture resources

from cotton farming and/or if pig farming might diversify cotton farming; (c) general

crop and hvestock farming enterprises to determine if pig farming earns a comparable

return to that from other agricultural investments; and (d) financial investments (stocks

and bonds) to determine if pig farms offer competitive rettuns and if pig farming might

offer a diversification investtnent that reduces risk for a financial portfoho. Regional

71

economic impact represents a stiidy of the economic impact of a pig farm on the West

Texas region.

Required Investments

Required mvestments for an outdoor wean pig farm in West Texas are calculated

at an initial value and average value. Table 5.1 shows investment costs for different

farm sizes (300, 600,1,200, and 5,000 sows). Total investtnent cost ranges from

$505,379 for a 300-sow farm to $5,929,714 for a 5,000-sow farm at the initial asset value

level. Land and improvement cost is the biggest investment cost across all farm sizes

with the exception of the 300-sow level of production where machinery and equipment

cost is highest. Land requirement ranges from 160 acres for a 300-sow farm to 2,560

acres for a 5,000-sow farm. The use of large pieces of land in the outdoor method of pig

farming drives up investment cost.

Machinery and equipment cost is the second largest investment across farm sizes.

The costs for machinery and equipment are considerable across farm sizes, ranging from

$97,737 for a 300-sow farm to $417,042 for a 5,000-sow farm. This is a clear indication

that producers considering this kind of operation should expect to make sizeable

investment in machinery and equipment. Breeding stock is the third highest investment

cost for all farm sizes. Breeding stock (sows and boars) would have to be purchased

since these are weaned pig operations that sell all their weaned pigs and do not hold back

any stock for breeding. Operating inputs is the lowest cost item for all farm sizes.

72

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• | ^ 73

Operating Cost Estimate-;:

Outdoor pig famis analyzed for this study are weaned pig operations. Sows were

bought, farrowed on the fami, and piglets sold off as weaned pigs to finishing operations.

Weaned pigs are sold when they are 15-21 days old and weigh 11-15 pounds. The

relationship between average cost and pigs sold is shown in Figure 5,1. The R^ for the

estimated cost fimction is high and the estimated slope coefficient is sigmficant. The

estimated cost curve shows a steady decline at a decreasing rate with an asymptote at

$21.70 per head. This shows that average cost will not decline beyond the $21.70 level at

tiie largest farm size. Average cost for pig production is $35 per head for the smallest

size farm (300-sows) and declines to about $22.39 for the largest (5,000-sow) farm size.

Average cost declines at a decreasing rate as farm size increases and starts to level off at

about 40,000 head produced. This indicates that there is retums to size and thus large-

scale production units gain a competitive advantage (lower cost) over smaller size units.

The main cost components for the outdoor pig operations are feed cost, labor

cost, and depreciation cost (Figure 5.2). Labor cost and feed cost start off at about $10

per head and steadily decline. There is a fairly large drop in all the component costs from

the 300-sow to the 600-sow farm size. Labor cost drops sharply from the 300-sow to

600-sow farm sizes. The decline in labor cost drops off only shghtly from the 1,200-sow

level to the 5,000-sow level, however, it remains the most significant drop in component

costs across farm size. There is minima] drop in average cost once you reach the 1,200-

sow level, with the exception of labor cost which continues to decline.

74

40

35

cd

H. 30 &

o U on 03 ^ (U > <

25 -

21.7

20

15

Avg. Cost=21.7 + 69.2*(l/pigprod.) (.3) (3.0)

n=4 SEE =.40 R2 =.996

20,000 40,000 60,000 80,000 100,000 120,000

Pig Production (head)

Figure 5.1. Average Costs by Production Level

75

12

10

T3 a 0)

u

a.

« 6 o U u M 0)

<

20,000 40,000 60,000 80,000

Pigs Sold (head)

-•— Feed Cost Labor Cost

100,000 120,000

—r— Depr.

Figure 5.2. Feed Cost, Labor Cost, and Depreciation

76

The feed cost component of average cost represents the largest proportion (28.5%

to 32.5%) across farm size (Table 5.2). The labor cost component shows a decline in the

proportion of average cost, accounting for 24.7% of average cost at the 300-sow farm

size and 14.1% at the 5,000-sow farm size. By comparison, the depreciation cost

proportion of average cost is approximately steady across farm sizes (ranging from

19.0% to 20.3%).

Net Income and Financial Analvsis

Table 5.2 shows a summary of costs per weaned pig sold with the farm being

fiiUy debt financed across farm sizes. Revenue per weaned pig was the same, changing

only for the larger farm sizes (1,200-sow and 5,000-sow level) due to a $1.00 per head

"large lof premium for the 1,200 sow farm level and $ 2.00 per head large lot premium

for the 5,000-sow farm size. These premiums are paid by the buyer for high quality pigs

and for a steady supply of pigs received on a regular basis. Large pig buyers pay

premiums for large lots that have consistent quality and can fill a standard finishing bam

(approximately 1,000 pigs). A 5,000-sow farm sells about 2,000 weaned pigs per week

or roughly 1,000 head of each sex, which is preferred by some finishers.

77

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78

Retums ($ per head) on average investment were calculated by farm size and for

different equity levels (Table 5.3). Regardless of the equity level, retum increases as

fami size increases. For example, at tiie 0% equity level, retum increases from -$9.40 per

head for the 300-sow farm to $6.81 per head for the 5,000-sow farm. This reflects the

economies of size that reduce cost as farm size increases. By comparison, for a given

farm size, retiun increases as the equity level increases. For example, for the 5,000-sow

farm size, retum increases from $6.81 per head with 0% equity to $10.36 per head for

100%( equity. This is due to the reduction in the interest expense as equity % increases.

Retum on investment (ROI) for the model outdoor pig farms is shown in Table

5.3. ROI is negative at the 300-sow level and increases to 23.63%. at the 5,000-sow farm

size. This indicates that the larger farms have a higher net income in relation to their total

investment.

The payback period ranges from 3.1 years (initial asset value) for the 5,000-sow

farm to 21.4 years (iiutial asset value) for the 300-sow farm as shown in Table 5.3. The

long payback period for the 300-sow farm is explained by its low rate of retum.

Cash flow budgets and IRR (intemal rate of retum) ratios were calculated for 300-

sow, 600-sow, 1,200-sow, and 5,000-sow farms with the assumption that the farms start

off slowly (50% of total operations) m the fust year and tiien expand to the full operation

level (100%) at the second year (Table 5.4).

79

Table 5:3. Armual Budget Retums Based on Average Investment, by Farm Size.

Retiim/Equity % 300 Sows 600 Sows 1,200 Sows 5,000 Sows Retum ($/pig sold)

0% equity 50%) equity

100% equity

Retum on investments,%o per year^ fritemal Rate Of Retiun (IRR %)

Payback Period^ ^ Investment includes land and improvements, machinery and equipment, breeding stock, and capital for operating inputs. Retum on investments (ROI) is calculated using average investment, with investment including land and improvements, machinery and equipment, and breeding stock. ^ Payback period on 300-sow farm level could not be evaluated since retums at this level were negative.

-9.4 -6.71 -4.02

-6.02 -6.4

N/A

-1.88 0.36 2.6

4.69 2.2

7.15

2.46 4.43 6.4

13.13 8.8

4.5

6.81 8.59 10.36

23.63 16.4

3.13

80

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81

The cash flow budgets are formulated pre-taxes and with no debt financing, therefore

loan principal payments, loan interest, and income taxes are shown as zeros for Table 5.4,

IRR increased with farm size (-6.51 to 16.44), indicating that the 5,000-sow farm was the

most feasible since the IRR takes into account the time value of money, which is a more

accurate measure of economic retum than the other measures of retum (such as ROI).

Sensitivity Analysis

A sensitivity analysis was undertaken on the 5,000-sow farm to determine the

effects of changes in feed price, pig price, and pigs/sows/year on retum on investment

(ROI) and $-per-acre retum as shown in Table 5.5, Part A. When feed price drops by one

standard deviation from the mean, the $-per-acre retum increases from $292 to $340 and

the ROI increases from 19.4% to 22.4%o per year. This indicates that a one standard

deviation change in feed price has a significant, positive effect on return for a pig farm.

At the same time, an increase in feed price by one standard deviation causes a significant

drop in the two measures of retum.

An increase in both tiie pig price and number of pigs sold has a similar effect on

profitability. A one standard deviation increase in pig price causes ROI to increase from

19.4% to 25.8% and die $-per-acre retum to increase from $292 to $408. A drop m pig

price/number of pigs sold by one standard deviation causes a drop in both measures of

retiuns. For example, a one standard deviation decrease in pig price causes the ROI to

decrease from 19.4% to 13.1%

82

Price elasticities are showoi m Table 5.5, Part B indicating that a 1% change in

feed price results in a 1.01% change in both ROI and $-per-acre retum in the opposite

direction. Variability in pig price and pigs/sow/year indicate a stronger effect than

change in feed price. A l%o change in pig price or pigs/sow/year results in a 3.6% change

in ROI and a 4.3% change in the $-per-acre retum in the same direction.

Comparisons

Capital Requfrement Comparison

Investment costs for 1200-sow indoor weaned pig farms in Missouri (DiPietre et

al, 1996), tiidiana (Cline et al., 1995) and Mmnesota (1,400-sow) (Lazams et al., 1996)

were compared with the West Texas 1200-sow outdoor pig farm to determine which is

more expensive to establish. Investment costs by individual investment item (e.g., land

and improvements) are shown in Table 5.6. Buildings, machinery, and equipment make

up the biggest percentage of total investment cost for indoor pig operations while land is

the biggest cost item for outdoor pig farms.

Investment costs without land cost without land costs show a total investment per

sow without land costs of $817.76 for the outdoor weaned pig farm and much higher

costs for the indoor systems( $l,339.36-Missouri, $l,373.19-Mmnesota, and $1,858.13

for Indiana)

83

Table 5.5. Sensitivity Analysis and Elasticities ofFeed Price, Pig Price, Pigs/SowA^ear for a 5,000 Sow Farm. A. Sensitivity of Returns to Changes in Levels of Variables

Levels of Variable Variable/Annual Retum - 1 SD Mean +1 SD Feed:

ROI, %/yr 22.39 19.44 16.58 $'s per Acre 340.27 292.06 243.84

Pig Price/No. of Pigs Sold ROI, %/yr 13.07 19.44 25.84 $'s per Acre 175.84 291.87 408.27

B. Elasticities (Calculated at the Mean Values of the Variables) Variable ROA Feed Price -1.1 Pig Price or Pigs/sows/year 3.6

$/Acre -1.1 4.3

84

A look at the investment costs without land may give a better picture of capital

requirements since the exact number of acres required for spreading manure is unknown

and was not included when calculating the totals for the indoor units. This could explain

the high investment costs for the outdoor unit as compared to the indoor unit. Costs of

$2,500-$3,000 per sow are not uncommon for confinement, while outdoor systems can

have costs in the range of $650-$750 per sow (Wegehenkle, 1994)

85

Table 5.6. Investment Cost ($'s) of fridoor (Confined) and Outdoor Weaned Pig Operations

Investment Land and Improvements Building, Equipment, & Machinery Breeding Stock Operating Inputs Total for Farm Total for Farm Without Land Costs

Total per Sow Total per Sow Without Land Costs

Indoor Operations Missouri

1,200 Sows 10,000

1,033,000 405,500 168,735

1,617,235 1,607,235

$1,347.70 $1,339.36

Minnesota

1,400 Sows^ 10,000

1,269,000 390,084 263,388

1,932,472 1,922,472

$1,380.34 $1,373.19

Indiana

1,200 Sows' 22,400

1,591,092 425,775 212,888

2,252,155 2,229,755

$1,876.80 $1,858.13

Outdoor West Texas

1,200 Sows 648,078 414,892 311,964 254,450

1,629,384 981,306

$1,357,82 $817.76

^Adopted from" Missouri System of Swine production" by DiPietre et al (1996)

''Adopted from "Swine Production Networks in Minnesota" by Koehler and Buhr (1996).

"Adopted from "Positioning Youi Pork Operation for the 21st Century" by Cline (1999).

86

Cgnip.arison with Midwest WeaneH Pip Farmc

Feed costs (Table 5.7) were considerably higher in West Texas compared to the

pnce paid by the Iowa farms participating in the Iowa State University (ISU) Swine

Business Records program. At the lowest level for the West Texas outdoor pig faim

(5,000-sow level), feed cost was higher than the Iowa farm cost by $ 1.64 per head. And

for smaUer size West Texas farms, feed cost was as much as $3.59 per head higher. This

is due to tiie fact that Texas is a com deficit region and therefore farmers have to pay for

ferrying hog feed to Texas

Labor cost for outdoor pig farms is expected to be higher than that for indoor

farms. At the 300-sow farm size, labor cost for an outdoor farm ($7.41 per head) is

considerably higher than that of the small Iowa indoor wean pig operations surveyed in

the ISU Swuie Business Records program ($3.30 per head). As size increases for the

outdoor farm, economies of size reduce labor cost down to the level of uidoor costs in the

Midwest—i.e., a 5,000-sow outdoor farm has labor cost ($3.08 per head) that is shghtly

less than that of the Iowa farms ($3.30 per head). It should be noted that a partial

explanation for the lower labor cost reported in the ISU Swine Business Records program

is due to the fact that pig farmers in Iowa generally farm com as their major enterprise

and pigs on the side and this could lead to an overlap of costs. Generally, wean pig

farmers in Iowa appear to do better on average as compared to the West Texas model

farms developed in this study.

87

Table 5.7: Performance Measures for West Texas, Outdoor Pig Famis, by Size and Average Performance Measures for Breed-to-Wean, Iowa State University Swine Business Records,

Performance Measures Feed cost (J/hd) ~ '

Labor cost, farm & salary (S/hd) Depreciation, taxes, and ins, cost ($/hd) Depr (exc truck and breeding animals), ins, & taxes($/lid) Interest cost on fixed capital ($/hd) Interest cost on operating capital (S/hd) Fuel, gas, elec & phone cost (S/hd) Vet, med, & vaccine cost (S/hd) Transportation cost to mkt ($/hd)

Total cost (S/hd)''

Fixed cost per female maintained (S) Fixed cost per pig weaned ($)

Total lbs of feed per hd produced (lbs) Average cost of diet, S/cwt

Hours of labor per hd produced (hr) Hours of labor per female maintained (hr) Hours of labor per Utter weaned (hr)

No, of htters weaned per female per yr No, of pigs weaned per Utter No. of pigs weaned per female per yr

Breeding stock death loss, % of no, mainted

300

Sows 10,27 7.41 7,87 3,35 0.00 0.66 1,32 1,17 2,34

26.52

86,20 4.78

125,58 9.25

1,08 19,41

8.82

2.20 8.20

18,04

600

Sows 9,44 5,22 6.48 2,75 0,00 0.53 0,86 1,14 1.10

21,04

91,15 4,77

119.08 8,66

0,76 14,56 6.33

2,30 8.30

19,09

1,200

Sows 8,71 4.30 5,83 2.55 0.00 0.47 0,69 1,11 0,55

18,38

94.73 4,70

113.37 8,11

0,60 12,13 5,06

2,40 8.40

20.16

5,000

Sows 8,32 3,08 5.27 2,27 0,00 0,41 0,41 1,11 0.36

15.96

91.18 4.47

111.95 7.85

0,37 7.57 3,15

2.40 8,50

20,40

ISU Avg.,

1996-99" 6.68 3.3

1.63 0.92 0,34 1,06

1

16,57

58.88 3,73

90.5 7,47

0,38 9,7

5,13

1,9 8,78

16,71

5,00 5,00 5.00 5.00 4.99

Average price of pigs sold (S/hd) Avg price of cuU breeding stock sold ($/cwt)

28,21 30.81

29,45 30,83

31.01 30,84

32.20 30.84

28.99 31,24

'Adopted from Iowa State University Business records, average of 1996-1999.

''Total costs do not include depreciation of truck and breeding stock to be able to compare to ISU business records.

88

It has to be noted though that the farmer participants in the ISU Swine Business Records

program operated small (220 sows, on average) and highly depreciated farms that were

consttiicted in tiie late 1970s or early 1980s as compared to the West Texas model farm

valuations that were done on a 2,000 year cost basis.

It should be noted that production in the Midwest is mostiy for farrow to finish.

ISU Swine Business Records has comphed business records for the farrow to finish

category since 1981 with very good retums (averagmg 25 % per year from 1981 to 1999

(Cline et al., 1999)) and an average of 216 farms participating. The Breed-to-Wean

category was done for a few years (1996 to 1999) with an average of 52 farms

participating in the stiidy, but was discontinued because of lack of participation by

producers (Bass, 2001). The ISU Breed-to-Wean data was used m this sttidy for lack of

any other database in the Midwest region.

Comparison with Cotton farms

Cotton farms participating in the SPA Total Enterprise program (Johnson, 2001)

were compared to the 1,200-sow outdoor pig farm in West Texas for the period 1996 to

2000. Their measures of retum and net income were compared as shown in Table 5.8.

Cotton farms in the West Texas region had a mean retum of $44.30 per acre compared to

the 1,200-sow pig farm that had a mean retum of $58.90 per acre. Pig farming retums

exhibited higher standard deviations on the per-acre basis ($100.80 for pigs compared to

$45.60 for cotton). This implies that pig fanners could on average make more money per

acre but with over twice the level of risk.

89

Table 5.8. Means, Standard Deviations (SD), and Correlation Coefficients Between Retums for Cotton Farming and Outdoor Pig Farming. A. Means and Standard Deviations:

Cotton^ Pig Farm (1200 Sow) Returns Mean Per Acre, S's 44.3 ROI, % 12.8

SD 45.6 11.2

Mean 58.9 7.0

SD 100.8 4.8

B. Correlation Coefficients (r): Return: r Per Acre, S's -0.89 ROI, % -0.80

P-value 0.01* 0.03

^Developed from data reported in Standardized Performance Analysis (SPA) (Johnson, et al, 2001). *Significant at the 0.05 level.

90

By comparison, cotton farms had a return on investment of 12.8% compared to

7.0% for the 1,200-sow pig farm. This is due to the fact that resource ownership is

different for the typical SPA cotton farm compared to the model West Texas outdoor pig

farms. Investment cost for the SPA cotton farms is reduced due to the fact that crop share

farmers (most SPA participants are crop share fanners) rent all or part of the land they

cultivate and thus land cost is not included in the investment cost. By comparison, the

model outdoor pig farm operations in this study were assumed to own the land on which

the pig farming operation was located. The reduced investment cost for a cotton farm

would translate to a higher retum on investment for the cotton farmer.

While cotton farmers realized a higher retum on their investment, the level of risk

in cotton farming was greater. Pig farms had a standard deviation for annual ROI of

4.8%) compared to a standard deviation of 11.2% for a cotton farm.

Pig farmuig retums in Table 5.8, Part B are negatively conelated with cotton

farming retums for both measures of retums examined (-0.89 for per-acre retums and -

0.80 for ROI). The negative conelation coefficients imply that risk reduction/dampening

can be achieved by diversification using cotton and pig farming together, hi general, low

rates of retum from cotton would be associated with high rates of retum from pig

farming, and vice versa, which would therefore lead to a risk reduction. It has to be noted

though that only the $-per-acre retum conelation coefficient is significant at the 0.05

level of statistical significance

91

Comparison with General Fanning Enterprises

The pork industry has a record of being a high margin business. Famis in the

Iowa State University (ISU) Swine Business Records program achieved in excess of a

25% annual average rate of retum (farrow to finish) on capital in hogs since 1980 (Cline

et al, 1995). Iowa pig fanners had average rettuns on capital that ranged from 2.57%

(1983, 187 fanns) to 60.70% (1986, 310 famis). In the period between 1980 and 1999,

Iowa hog farmers' rettun on capital stayed well beyond the 20% level with the exception

of 1998 (-27.20%, 85 fanns), 1997 (17.7%, 102 famis), 1994 (-5.32%, 221 fanns), 1984

(19.37%, 202 farms), and 1983 (2.57 %, 187 farais). It is tiiis kind of high rate of rettun

that has attracted investors into the pig indusfry in Iowa.

Hog farmers in a study on speciahzed U.S livestock farms had annual returns on

assets (ROA) ranging from -0.7% (1988) up to 2.9% (1987), with a five-year average

retum of 1.0% (Dodson, 1994). During this period, hogs had a ROA plus capital gains

(5-year average) of 4.4%) per year, on average. Hog farmers in the North Central region

had an average annual ROA of 6.0%. Large fanners in the North Central region (over

$100,000 sales) showed an average ROA of 7.8%), while small fanners in this region

(sales under $100,000) had an average ROA of-3.1%. Large hog farmers (over

$100,000) in the Southeast region had an annual average ROA of 6.6% while small

farmers in the region (less than $100,000 sales) registered an average ROA of-5.4%.

The results that Dodson reports for hogs (as well as other agricultural enterprises) show

that large size farms generally earn higher rates of rettim than small size farms. This is

consistent witii our fmdings for the four model West Texas outdoor pig farms where

92

retums range from a negative rettim for the smallest size farai (300 sows) up to positive

and even high rates of retum for the larger size farais (Table 5.3).

Comparison with Financial Investments

Large stocks (represented by the S&P 500 Composite hidex) and the 5,000-sow

farm had approximately the same rates of retum (about 11% per year). However, the pig

fann had a much lower standard deviation than large stock rettuns, implying that the pig

farai rettims were more stable than large stocks. Small stocks had a geometric mean of

12.4% while the rest of the fmancial uivestment rettams had lower geometric means than

the pig faim's IRR. Long-term government bonds have a standard deviation of 9.4%

compared to the 7.3% standard deviation of the 5,000-sow farm. Compared to bonds,

however, the IRR for the pig farm (11.2 %/year) is considerably higher than that of bonds

(5.7%/year).

An appropriate way to evaluate the possibility of diversification of a fmancial

portfolio with another enterprise is the use of the beta coefficient from the capital asset

pricing model (Ibbotson, 2001). To evaluate the possibility of risk reduction by including

a pig farm in a financial portfolio, annual pig retums were used as the dependent variable

in a regression with annual stocks retums as the independent variable (equation (2),

Chapter IV). The estimated equation is shown in Table 5.9, Part B. The slope coefficient

in this equation provides an estimate of the beta coefficient from capital asset pricing

theory. The t-test on the slope coefficient is not significant (p>.05), indicating that the

beta for a pig farm is not significantly different from zero. The retura on a zero-beta

93

mvestment is essentially unconelated with the retum on assets in general. From a

portfolio perspective, the implication is that if stock rettuns drop, pig rettuns will not

follow suit; and therefore, risk is reduced for a fmancial portfolio that includes a pig

farming investment.

Economic Impact

A pig farm would greatly add economic benefits to the West Texas regional

economy. A 5,000-sow farm generates $3.3 milhon in total sales revenues from the sale

of 102,000 weaned pigs priced at $32.56 per head. Applying a regional output

multipher of 1.45, the total regional unpact for a 5,000-sow farm would equal $4.8

million. (The regional multiplier is a Type II multiplier for the "Hogs, Pigs, and Swine"

sector (from IMPLAN) for the 34-county Texas High Plains region (Johnson, 2002). The

5,000-sow pig farm occupies 2,560 total acres. A large pig farm that came into the West

Texas region would likely be established on irrigated acreage (to provide a minimal level

of water for maintaining the grass under the pigs' feet). Most of the irrigated acreage in

the West Texas region is planted in cotton. Cotton farms participating in the SPA crop

enterprise records generate revenues of $310.10 per acre (5-year average, 1996-2000). A

2,560-acre cotton farm generates $0.8 miUion in total sales revenue. Applying a regional

output multipher of 1.76, the total regional unpact for this West Texas cotton farm is $1.4

milhon. (The regional multipher is a Type n multipher for the "Cotton" sector (from

IMPLAN) for the 34-county Texas High Plains region (Johnson, 2002).

94

Table 5.9. Means and Standard Deviations of Financial hivesttnents and Outdoor Pig Farming and Beta Value of Outdoor Pig Farming. A. Means and Standard Deviations:

Investments:

Large Stocks'

Small Stocks'' Long Term Corporate Bonds Long Term Government Bonds Litermediate-Term Government Bonds Treasury Bills

Outdoor Pigs, 5,000 Sow Farm^

Geometric Mean

Arithmetic Mean

Standard Deviation

11.0

12.4 5.7 5.3 5.3 3.8

11.2

% per year

13.0

17.3 6.0 5.7 5.5 3.9

11.1

20.2

33.4 8.7 9.4 5.8 3.2

7.3

B. Market model Retum on pigs = 6.38 -f- 0.37*(Retum on stocks) + error

(3.58) (0.15)''

Period, 1991-2000 (n=10) SEE=7.02 R-=0.428 DW=1.83 Note: Financial retums from Ibbotson Associates (2000) comprising actual retums for 1926-2000. Outdoor pig farming retums are simulated retums for 1991-2000.

^IRR is tised for geometric mean and ROA is used in calculating arithmetic mean and standard deviation.

''Standard errors of the estimated coefficients are in parentheses. "Large company stocks are represented by the S&P Composite Index with dividends reinvested (S&P 500, 1957-present: S&P 90, 1926-1956). ''Small company stocks are represented by the fifth capitalization quintile of stocks of the NYSE for 1926-1981, and performance of the Dimensional Fund Advisors (DFA) Small Company Fund for 1982-present.

95

Taking into consideration that the estabhshment of a hog farm in the West Texas

region would pull resources from cotton, which is the predominant crop in the region, the

net regional benefits for pig farming supplanting cotton is $3.4 milhon. The benefits to

the region of outdoor pig farming are substantial and the West Texas region stands to

gain a great deal.

96

CHAPTER VI

SUMMARY AND CONCLUSIONS

Four model outdoor weaner pig faims were specified and the cost stmcttire of the

fanns was estimated using the economic engineering method of cost analysis. A long-mn

average cost curve was estimated from the cost estimates for the four farais Average

cost was found to decline as farm size mcreased from 300 sows to 5,000 sows, mdicating

economies of size.

The outdoor weaner pig farm retums were negative for the 300-sow farm but

increased as farm size increased. Accorduig to a study by Rhodes (1995), it is clear that

diseconomies of size are not limiting the growth of large fimis with 95,000 sows or more.

The 5,000-sow model farm had an estimated annual retiun on investment of 24%. By

comparison, the retum on a cotton farm is about half that plus cotton farming has greater

risk (more variabiHty in retum) than a pig farm. In addition, pig fanning had a

comparable retum to stocks with about one-third the risk.

In conclusion, outdoor weaner pig famiing in West Texas is an economically

feasible agricultural investment for large size farms (5,000 sows and larger). Pig farmuig

provides an altemative uivestment to cotton fanning or a secondary enterprise with cotton

farming. The addition of cotton and pig fanning should reduce the risk in a single

enterprise fanning operation. Investment capital for pig fanning should be available

from non-agricultural interests since pig farming can be used to reduce the risk in a

financial portfolio.

97

Limitations of the s;tiiHv

A major limitation of this sttidy is the amount of time and cost required for cost

estimation usmg the economic-engineering method of cost estunation. According to

French (1977), a major limitation of the economic-engineenng approach is the high

research cost. The economic engineering method of cost estimation requires that the

researcher analyze and break down all equipment components when estimating their

costs and tiiis make the sttidy more complex and difficult. With this level of complexity,

tt is difficult not to unknowingly omit certain costs. Black (1955) and French (1977)

state that as the size and complexity of the operation increases, so does the possibility that

the model builder will omit some aspects of cost.

Further Studv Needs

Further analysis is called for to determine the type and amount of additional

infrastmcture needed to maintain an outdoor pig industry in West Texas. Research is

needed to determine the possibility of establishing pig-packing plants, feed mills, and

finishing hog farms that can support the hog industry in Texas.

Additional research is needed to quantify the risk level (including production and

price risk) of outdoor pig fanning. Numerous studies have examined risk in hog

finishing, but there is a deficiency of research studies on weaned pig operations.

A growuig market exists for animal friendly, environmental fiiendly, free-range

livestock and poultry products. Research is needed to evaluate consumer demand for

free-range pork. Market analysis studies are needed to gather information on consumer

98

tastes and preferences and willingness to pay for this type product. This information

would help direct the growth of the market for outdoor pork.

99

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103

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