July outlook for Canadian dairy shows pressured profitability

FCC Ag Economics is doing a mid-year check-in on our January 2018 Outlooks. Throughout July, we’ll update our expectations about profitability in six Canadian ag sectors (crops East and West, hogs, cattle, dairy and food processing). We’ll describe what’s happened in 2018-to-date and what we think you should monitor in the next six months.

Our January forecast for Canadian dairy failed to anticipate the challenges to profitability the sector faced in the first half of 2018. We expect profit margins in the P5 milk pool to be breakeven or slightly negative for the remainder of 2018 (using industry average cost of production and butterfat composition). Margins in the Western pool are projected to be slightly above the cost of production for the rest of 2018. The pools’ profitability outlooks differ because of their shares of industrial milk relative to shares of fluid milk.

Looking back at 2018

Butterfat production expanded 6% year-over-year (YoY) in the first four months of 2018, an expansion that increased total revenues and introduced a lower milk price. World skim milk powder prices remain at historical lows, showing little upside for the rest of 2018 according to USDA projections. The 2018 January-May average milk price was as much as 3% lower than the 2017 average. The increase in the butter support price effective September 1st will lift the milk price paid to producers. 

Butter stocks have steadily increased since mid-2015 and reached 43,000 tonnes in May, exceeding the industry target of 35,000 tonnes. Production-limiting measures (e.g. fewer incentive days, quota cuts) in the second half of 2018 will help to better align supply with market requirements. They should help sustain a higher milk price, although it’s difficult to predict price patterns without knowing how the pace of consumption growth will compare to changes in actual milk production. We estimate production costs climbed 3% to 4% YoY, on average, in the first half of 2018 mostly due to higher feed costs, energy prices and interest expenses. Feed grain prices are projected lower for the second half of 2018.

Canadian dairy product retail pricing trends declined 0.5% between June 2017 and June 2018. Retail prices for both butter and cheese fell even more – 4% and 2%, respectively – in that same period. That softness helped improve dairy’s pricing relative to many foods: overall inflation in Canada climbed 2.5% and food inflation increased 1.4% at the same time.