Contract Feed Production Arrangements

by Joe Stellato, Crops and Soils Agent
Shawano County UW-Extension

PDF Version

Introduction

Economic necessity and a desire to manage risk are causing many Wisconsin farm operators to rethink their ways of doing business. All farm operators can reduce business risk by minimizing their investment in capital assets that do not produce a high rate of return. With ever-escalating field machinery prices, many dairy operators simply can no longer afford to own expensive machinery that will be used only several days out of the year. This problem is especially apparent on small and medium sized farms, although large farms need to watch their machinery investment as well. In addition, labor shortages on some dairies have made it very difficult for these operators to harvest high quality alfalfa, corn silage and feed grains in a timely manner. Finally, and perhaps most importantly, some dairy producers have expressed a desire to specialize in what they do best – that is, milking, feeding and managing cows, and to have more time available for family.

To deal with these realities, dairy operators might employ one or more of the following strategies:

• Using the services of a custom operator for planting and/or harvesting crops
• Equipment sharing
• Renting or leasing equipment
• Contract feed production arrangements (contracting with a nearby crop farmer to produce some or all of the corn, corn silage and alfalfa needed by the dairy herd)

Contract feed production arrangements have increased use in Northeast Wisconsin during the last few years. Contract feed production arrangements offer several advantages to both dairy operators and crop producers:

• They allow both dairy producer and crop producer to specialize and do what each does best, and hopefully have more time available for management activities.
• They free dairy producers from needing to hire and train workers for both dairy and cropping operations.
• Trucking costs are minimized if the farms are located relatively close
• Price risk is minimized for both parties since a guaranteed price is ensured for a set amount of feed delivered.
• The dairy producer obtains a secure source of feed inputs and the crop producer obtains a stable market and price for their production.
• Financing may be easier to obtain since lenders will know what the dairy operator’s feed costs will be and what the crop producer’s income will be.
• The dairy producer, having been relieved from some or all crop production duties, might have more time available for family activities.
• Specialized crop producers can provide land for manure from expanding dairies. The crop producers save on fertilizer costs and reap the fertility benefits of organic matter supplied by manure.
• Dairy producers can place all or most of their investment capital into the business of producing milk, rather than seldom-used field machinery.
• Crop producers, if operating enough acres, can justify machinery investments needed to produce and harvest high quality forages and feed grains.

However, the following points also need to be kept in mind by both dairy and crop producers:

• Prices set forth in the contract MUST be profitable for BOTH parties for long-term arrangements to last over time.
• In event of lower than expected yields, the crop producer will still be expected to deliver the contracted amount of feed, unless the dairy operator allows a smaller feed delivery due to circumstances beyond the crop farmer’s control (such as drought, flooding, frost, winterkill, etc.). To avoid this problem, the crop producer should NEVER contract his/her entire crop. Carrying crop insurance on the contracted amount is also strongly encouraged.
• The dairy producer will still be obligated to purchase the amount of feed specified in the contract at the prices specified, even though opportunities to buy feed at lower cost may arise later. Dairy operators who like to shop around for bargains might want to contract only a portion of their feed needs, allowing them to take advantage of future price drops if and when they occur. Remember that this strategy could also backfire if prices rise unexpectedly!
• Crop producers MUST take special care to monitor corn silage and high moisture corn dry down rates! They must also take care NOT to wilt haulage too long in the field. When feeds are ensiled too dry, digestibility declines. Also, heat damage and/or spoilage can become major problems. If the dairy operator specifies certain minimum moisture levels for haylage, high moisture corn and corn silage, crop producers should pay special attention to meeting those targets. The right to refuse feeds delivered below minimum acceptable moisture levels can also be written into contracts. Due to problems that have already occurred on a number of large dairy operations in Wisconsin, expect dairy operators to be extremely sensitive to the moisture content of feeds they purchase for ensiling.

Satisfactory feed production contracts have been negotiated and are being used by farmers in Northeast Wisconsin. This paper is designed to help both dairy producers and crop producers understand the elements necessary for developing a successful contract feed production arrangement.

Developing a Feeding Production Contract

No standard contract or “form” currently exists for contract feed production arrangements. In fact, it would be extremely difficult to develop a feed production contract that would cover all possible mishaps, such as crop loss due to drought stress, flooding, wind, hail, fire, herbicide injury, insect damage, plant disease, vandalism, etc. Quality loss can be accounted for to some extent using forage analysis with a price premium/discount schedule for various quality levels. But any attempts to write a contract to cover any and all possible mishaps will likely result in a very lengthy, cumbersome document that few producers will want to read and much less sign! So the first rule of developing a good contract is to do business only with another party that you know and trust. Any contract is only as good as the integrity of the parties who sign it!

Second, be sure to get your agreement in writing! Sit down and draft your contract together with an attorney, and get all your questions answered BEFORE signing. If your own attorney was not the one who drafted the contract, then have your own attorney review before you sign. It is also advisable to have your attorney review your contract before you sign. Attorneys are trained to ask “what if” types of questions, and may point out some potential problems or “gaps” in your agreement. Remember, it will be far cheaper to pay an attorney $100 – $200 to review your contract before you sign than it will be to hire one to defend you in a lawsuit!

Another important reason to get all agreements in writing is so that both parties have legal protection under state law. Wisconsin State Statute 402.201 Formal requirements; statute of frauds states under part (1) that “…a contract for the sale of goods for the price of $500 or more is NOT enforceable by way of action or defense unless there is some writing sufficient to indicate that a contract for sale has been made between the parties and signed by the party against whom enforcement is sought or by the party’s authorized agent or broker.” In other words, sale transactions of $500 or more cannot be enforced by the courts unless the sale agreement is in writing.

Arriving at feed prices that are profitable for both parties may be a challenge. At this point, a detailed business analysis is recommended for both the dairy and crop producer. Some farmers have used recent average market prices for hay and grain to determine contract prices, but this method will not prove suitable for years in which commodity prices dip below one’s cost of production. Our suggestion is to have each party determine their cost of production, and use this to determine profitable purchase and selling prices. The dairy operator needs to know how much he/she can pay for feed and still earn enough profit to continue operations. The crop producer needs to know what his/her breakeven price is, and must charge enough over breakeven to replace machinery and continue operations over time. Arriving at prices that are profitable for both parties will protect each other from the wide price fluctuations that affect agriculture most years, thereby minimizing price risk for both. County Extension Agents can provide assistance with business analysis and determining your cost of production.

What else should your contract include?

The following list identifies some, but not all, contract provisions that you should consider. Again, we suggest that you consult an attorney for more information.

• Names of all parties involved.
• What feed is to be delivered.
• Who is responsible for planting, fertilizing, spraying, harvesting, etc. of the crop.
• Base price per unit of feed at a specified moisture level. For example, “…Chocolate Milk Dairy Farm will pay $17.50 per ton of corn silage at 65% moisture.”
• Specify how prices will be adjusted from the base price for varying moisture levels (see example corn silage contract in the pdf attachement).
• Acceptable quality, moisture range, test weight, etc. If you must have your alfalfa harvested above 65% moisture for proper packing in a bunker silo, then specify it in your contract. If you want high moisture shelled corn delivered at 25 to 35% moisture, then specify it in your contract. BE SURE TO SPECIFY MAXIMUM AND MINIMUM ACCEPTABLE MOISTURE LEVELS OF FEEDS.
• Specify how prices will be adjusted for varying forage quality levels (how will prices increase or decrease with varying RFV levels in alfalfa?)
• “Right of refusal” clauses. If test weight, moisture levels or alfalfa quality are above or below a certain level, does the buyer have the right to refuse the feed?
• How will the feed be tested for moisture and quality? Will a grain probe be required for high moisture corn samples? Who will pull samples? Where will the samples be analyzed — at the local grain elevator, using a combine moisture tester, or at the Farm Service Agency Office? Who will pay for the moisture test?
• Who will be responsible for hauling the crop? Be sure to factor hauling distance into the final price.
• Specify use of preservatives, kinds and who will apply and pay for them.
• Determine how and where feed will be weighed. Must every load be weighed, or will every other load or every third load be enough? Who will pay any charges for weighing?
• Payment method and interest rates. Will it be cash on delivery or on installments? Will there be a late payment penalty or default interest rate?
• Cancellation clause — what happens if the crop producer can’t deliver?
• An arbitration clause — in case of a dispute, you may wish to identify impartial third parties who can help resolve the dispute. Will the arbitrator’s decision be binding?
• Date and signatures.

Included in the pdf attached above are examples of contracts that have been used by farmers in Northeast Wisconsin. The names have been changed to protect the privacy of the parties involved. These examples are provided to serve as a GUIDE ONLY. Use them as a starting point to develop your own contract during your own negotiation process.

Note that these example contracts do not attempt to cover all possible circumstances. They are not perfect or foolproof, but do set forth some major provisions for both parties to follow. To make such contract effective, both buyer and seller much have a sincere desire to conduct business that will be beneficial to both parties.

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