The Cash Flow Contract for Pork Producers™
Producers Livestock
800-318-5619
The Cash Flow Contract™
(CFC) is a butcher hog delivery contract that offers a fixed base price, cash
flow stability, and delivery point flexibility across a series of months into
the future. The CFC is a Producers
Livestock Marketing Association (PLMA) contract that producers can take to
their lender to show that they have price security and cash stability while
retaining their marketing independence.
A CFC contains a series of delivery
months (you choose how many) at a fixed base price (you establish the target
price prior to the contract being firmed up) and should only be entered into if
profitable (you need to know your breakeven).
Profitability and cash stability, not price shopping, drives CFC
usage.
The CFC can be delivered to
any packer on the best grid and specifications for the hogs when the hogs are
ready for market. Unlike long-term
packer contracts that lack flexibility and are often subject to price matrix changes,
the CFC has built-in flexibility to change delivery locations if a packer’s
matrix and price competitiveness changes.
The pigs are on the open, competitive market and are not subject to “captive
supply” factors. And, unlike Futures or
Hedge Contracts that have various price points and differing levels
of profitability, the CFC levels out pricing and stabilizes both cash flow and
profit on a delivery by delivery basis.
What you’re doing with this
contract is hedging your pork for several months on the futures exchange and
then at delivery, balancing the cash sale against the average of the futures
prices. The future hedge provides market
price protection and the exclusive Producers Livestock Cash-Flow-Adjuster
provides you the stable cash flow of a single contract price. The combination provides you price protection
and cash flow stability. And because its futures based, it enables you to ship
hogs to any packer with the added flexibility of changing the packer you
deliver to, even in the midst of the contract delivery period.
Sometimes pork producer’s
hedge only futures months that reflect the highest futures price and skip the
lower priced months, which often times are the months that need to be hedged
most. By averaging multiple futures contracts into a single price, the Cash
Flow Contract provides cash flow stability and a set price level for an
extended period of time, from 3 to as many as 14 months into the future. The premiums you receive from the packer are
still yours. You stand the basis gain or loss.
The minimum contract size is 20,000 pounds. [For information on how
basis and a hedge in the futures market works, see the “prospectus” section of
this booklet.]
A hedge/margin service fee of
50 cents per carcass hundredweight is required at the time the contract is
priced and the CFC is issued. That is
the only futures related fee that you pay.
You are not responsible for margin calls. Producers Livestock handles all of the
futures management and hedge position financing.
At market time Producers
Livestock markets the hogs to the packer of your choice; on the processor
matrix that is optimum for your hog based on genetic characteristics, meat
performance and market demand. A fee of
50 cents per carcass hundredweight is deducted from your settlement check for
the marketing, collection and settlement process at delivery.
Producers Livestock patrons
like the idea of a one-stop-shop that offers them the advantages of a hog
contract without futures margin responsibility but with a fixed base price, stable
cash flow and plant delivery flexibility.
WHAT DOES THE PRODUCER NEED TO DO?
WHAT HAPPENS NEXT?
When a producer decides to
place a contract, a Cash Flow Contract showing the delivery periods & year,
number of pounds for each delivery
contracted, price, service fee cost and invoice will be generated and forwarded
to the producer and the primary lender (if requested). Payment of the fee is to
be remitted by the producer or the lender to PLMA’s office. The producer will
be mailed a delivery reminder post card prior to the delivery period.
HOW DOES THE CONTRACT CLOSE OUT?
The producer schedules
delivery of the finished hogs associated with the contract and advises the PLMA
office to close out the hedge (call your PLMA Pork Agent or 800-318-5619). The
proceeds from the sale of the hogs are remitted to PLMA by the packer, where
PLMA will add any futures profit or deduct any futures loss and adjust the
price by adding or subtracting the cash flow component (see “Cash Flow Contract
Adjuster” below) then remits the balance of the proceeds to the customer or
primary lender with the appropriate lien holder identification.
CASH FLOW CONTRACT ADJUSTER
The difference between PLMA’s
Cash Flow Contract (CFC) and the Hedge Contract is that the CFC is a contract
with a group of hedges on different futures months averaged into a single
price. The futures delivery months are
all hedged and the basis risk to the producer is the actual difference between
the true futures hedge and the cash market at delivery. The CFC adjuster simply adds or subtracts to
the actual hedge price at delivery to make it the CFC average. At the end of all deliveries the Cash Flow
adjustment is zero. Producers Livestock
does not take a margin or spread in between the actual hedge and the price on
the Cash Flow Contract. Producers
Livestock’s only revenue is the fee schedule clearly stated previous to this
section.
SUMMARY
The ability to utilize the
futures market is a sound risk management tool. Often, an individual may not
want or need to lock in 100% of production, thereby limiting the use of the
futures market as a pricing or risk management alternative. Use of the futures market for smaller
quantities and an average futures price can be a valuable alternative to long
term contracts.
The primary lender is
protected by knowing exactly what portion of the producers’ total production is
under risk management and also not burdened with processing margin calls on
behalf of their borrower. This risk management protection can enhance the
lending relationship between producer and lender.
The Cash Flow Contract for Pork Producers™
Producers Livestock
800-318-5619
Producers Livestock
Cash Flow Contract for Pork
By
Pork producers can now sign up for a new risk-management tool that locks in a profitable return and averages out their cash flow each month.
Producers Livestock Marketing Association (PLMA) recently began offering a new cash flow contract for pork producers.
The cash flow contract takes a group of futures hedges over multiple months, averages them into a single price and pays the monthly average to the producer.
In essence, the contract evens out the cash flow for
producers, taking out the market highs and lows, says
“Many people are used to normally doing hedges or taking a hedge contract. But in some months they might make some money, and then in some months they might lose some money, and it’s just a lot of variation,” Ellinghuysen explains. “What we do is just average them all together and then write a contract for the price average over that time period.”
Ellinghuysen says the cash flow contract, which is the first of its kind in the pork industry, allows producers to lock in a profitable average price several months in advance.
Producers can take this contract to their banker to show that they have price security and cash stability, while still maintaining their marketing independence.
“It’s a unique product that we think is good for the industry,” Ellinghuysen says.
How it works
Producers who are already using the futures market to lock in a price for their hogs will find that the cash flow contract is just an add-on to their current risk-management plans, Ellinghuysen says.
The cash flow contract gives pork producers the flexibility to choose their target base price and how many delivery months (from three to 14 months) they want to hedge.
Hogs marketed under the cash flow contract are on the open, competitive market. Producers can choose to deliver their hogs to the packer that offers the best marketing grid and specifications.
Ellinghuysen says now is a good time for pork producers to use a cash flow contract to manage their price risk heading into the fall, when the hog market seasonally declines.
“We have a lot of protein around us, and historically, this is the time frame when we see the market come up a little bit. It provides some opportunity (for price protection) for those bad months,” Ellinghuysen says.
Many times, when producers use the futures market to price hogs, they tend to hedge the months with the highest prices and skip the lower-priced months, Ellinghuysen says.
However, the delivery months with the lowest prices are often the ones that producers would benefit the most from hedging, he explains.
“Making pricing decisions can be an emotional one, but this (cash flow contract) takes out the peaks and valleys and gives producers a chance to lock in their cost of production and profit,” Ellinghuysen says.
PLMA charges a hedge/margin service fee of 50 cents per carcass hundredweight when the cash flow contract is priced and issued. Otherwise, that is the only futures-related fee producers must pay.
“Once they enter into it, they don’t have to get a special line of credit so they can handle margin calls,” he says. “It doesn’t add to the need for capital at the bank.”
For more information
about the cash flow contract, contact PLMA at 800-318-5618 or visit
www.premiumpork.net for a list of regional PLMA pork marketing agents.