Having recently reviewed a few contract farming and other agreements, a few points have struck me as being critical.

When a contract farming operation is put in place, there are two important areas for the contractor to examine; the herd hire charge and the contract fee.  I have seen three agreements now that are under real pressure, arising from the current financial circumstances, where no divisible surplus will be made and indeed there will be a need to wipe a deficit out prior to a divisible surplus becoming payable again.  Where in the past some businesses relied on the profit share out to make up for poor budgeting, this is no longer the case and some contractors face a real loss.

In terms of the herd hire charge, this should represent the real cost of maintaining the herd and giving a small return on capital involved (often representing the loan interest cost of buying the original herd). Herd maintenance represents the money that is involved in supplying the replacement animals (generally heifers) less the income from cull cows and deaths / casualties.  This gap of say £700 is then split over the average herd life or replacement rate.  The reality is, that needs to be a figure of £240 p.a. / cow place supplied and can be paid out as £20 / head / month for all cows in the herd at the month end.  If this is not achieved, a situation can arise whereby the contractor loses real money as the replacements become a real cost!

A similar argument runs for the contractor’s fee.  This does not need to make a profit necessarily but ideally a small surplus should be planned as nothing is ever truly black or white.  If the contractor has to employ staff and run machinery or pay for contract silage making etc. he must ensure that he is making adequate money to cover this.  If he does not, a situation can arise whereby the contractor starts subsidising the Contract Farming Agreement and he will lose money.  This is the road to ruin and dissatisfaction all round.  Worse still, if a small surplus is made he will only get for example 70% of the pay out or expressing it cynically, he “funds” 70% of all expenditure excesses!

By taking a leaf out of the arable contracting agreements’ approach, dysfunctional Dairy Contracting agreements are being reviewed and have started building in a sliding scale of remuneration whereby no excessive profits are payable to the contractor alone.  For example the first tranche of profit will be payable 70:30 in favour of the contractor to a certain level.  At this point it switches to 60:40 to another level, at when it then becomes 50:50. If the milk or cereals price rises above a certain level, it effectively is a “windfall”” and not a result of the contractor’s good management and as such should be shared by all equally.

These approaches can be used in negotiations and should be thought about.  Whatever occurs, the operator cannot be expected to take a loss on the basic input costs.  If this does happen for a prolonged period, it will lead to poor farming and a running down of the business due to the contractor being forced to reduce losses.  A pragmatic view needs to be taken of whole agreements and a solution that allows all to share risk needs to be achieved.

For help and guidance with looking at contract farming as an option for your business please contact Ian at ianbrowne@fcgagric.com  or your local FCG office.