A processor and a marketer, both specializing in niche meats, walk us through the ins and outs of how to cost out products efficiently and effectively, including insights on inventory management. This session focuses specifically on "upstream" costs - related to processing and marketing - rather than production/on-farm costs.
Date: October 21, 2010
Duration: 1 hour
NOTE: Arion Thiboumery would like to correct a comment he made about half way through his presentation:
"An additional dollar of sales is not better than saving a dollar of cost. It's more complicated. Cost savings do go straight to your bottom line. An extra dollar of sales has the price of materials taken out before it reaches your bottom line. However, sometimes reducing costs does not help your business grow – particularly with labor costs it could even cause contraction because it can lead to doing less work – while increasing sales often does lead to business growth."
Product Costing Spreadsheets
These interactive spreadsheets were created by Pam Saunders for the webinar. Enter your own data into the yellow cells. Detailed instructions are below each table.
The four worksheets cover:
Remember: this is just one approach to costing; you may find another way that works better for you.
Some questions came up after the webinar about price "indexing" using USDA published market prices, as mentioned by Pam Saunders.
To find these USDA prices, go to this website: www.ams.usda.gov/AMSv1.0/LivestockandSeed
This is NOT data for individual cuts, just primal cuts and sub-primals.
Pam Saunders says: "It is a starting point. If you plan, for example, to cut the short loin into bone-in steaks, you'd then have to understand the yield loss of cutting those steaks, so you'd need to do a cutting test to determine that loss, to return the value of that particular cut."
Pam Saunders is the quality and industry relations manager for Organic Prairie, which is the meat subsidiary and brand of crop cooperative Organic Valley, which is the largest organic farmer co-op in the U.S. Organic Prairie manages relationships with about a dozen certified organic co-packers for beef, pork, chicken, and turkey processing, from harvest to ready-to-eat branded products.
Pam: Thanks, Lauren and Arion. I'm glad to be here today. Just a disclaimer to start with: I'm not an accountant. But I've had a lot of experience over the years with doing this kind of thinking about costing because we're like a small niche marketer in that we buy the whole animal from our producers. We're responsible for marketing all of the parts of that animal and we do it for beef, pork, turkey, and chicken. I've got a lot of experience with this kind of thinking. We do the full range of products from raw to cooked, fresh to frozen and all market sectors.
The assumptions here are that if you're already a farmer listening or a producer listening, then you already know the cost of your animal or your flock and are using different tools to evaluate that. Some of these tools can actually be useful for doing that. We're assuming here that you already know what it's costing you to raise that animal.
It's useful to think about it in chunks. The next chunk that you have to think about is getting that animal to a processing plant and getting it processed. You can apply these concepts to individual animals or groups of animals and the idea is that the more that you add value to your product, the more complex and critical the costing equation becomes when you have things like shrink and so forth coming into the picture.
Calculating the cost of processing
Here's just a little diagram. We're not doing on-farm livestock costing today, we're doing processing costs and adding value. That's what we're going to talk about.
You need to choose your scenario, meaning, what kind of business are you doing? Understand where your yield loss and shrink occur. In order to really understand what you get out of your animal, you need to do a cutting test, so I'll cover some of these points.
So the different scenarios are: selling quarters or halves or whole birds. In that case you have a pretty simple equation, there's no rocket science to that. You may be selling pieces individually, you may be marketing to a local store or a farmer's market, and you may have chosen to sell further processed products to add value or some combination of the above.
Shrink: I just want to spend a little time talking about shrink because it's something that sometimes gets overlooked. On farm, you're going to have to account for your death and disease loss and in a similar way, at slaughter, you have to account for any animals that could be, for example, condemned. And you may say, "Well that never happens except for that one time." So maybe it happens 1 in 100 times, well then you've got a 1% that you have to add in there so that your business is covering those times if that happens.
Hot or cold carcass weight: It's important to know if you're being charged for hot or cold carcass weight. Because if you're being charged on hot weight, by the plant, you're going to have some shrink right away to cold. And this actually could be considered a yield loss, which I'll cover on the next page.
At the fabrication stage at the plant, you can get shrink coming in and that's kind of an "oops" that happens. Maybe there's something that happens that you really can't get the plant to make up to you, or maybe you're sharing the cost. Again, these sort of things may happen rarely, but they do happen. You need to protect yourself and your costing by putting in a factor and we'll show that in numbers a little later on.
In further processed products, there's a number of areas where you can experience shrink. Again, this is kind of the "oops" scenario where you may have some product that you thought the recipe was going to work and it didn't and it's really not to your standards and you can't sell it at your normal price or maybe you can't sell it at all. Maybe you've got certain parts of the animal that sit around in the bottom of the freezer and they get to be too old to sell. You need to land on some kind of a factor there to protect yourself for those kinds of things.
Yield loss is not really the "oops," it's something that you expect, and you have to establish this based on your history. At the fabrication stage, you might have had to keep your animals a little longer than you wanted, and they got too fat. Well, you're going to lose that fat. It's going to be a yield loss. Depending on whether you do a bone-in or a boneless cut of your animal, you're going to lose a certain amount of bones. You're always going to lose connective tissues and other wastes. You're going to need to understand what your yields are from your carcass.
In further processing, there's always line loss. If you put your meat in a grinder, there's going to be some meat left in the grinder. There's going to be some percentage of waste. Same goes for cutting steaks. And, of course, in cooking or drying products, you're going to have a typical yield and you can figure these in your costing so you understand where you can improve, where you need to challenge your processor, etc. And just a point: with the addition of ingredients, for example, water in a hot dog, you could actually end up with a net positive, if that's the case.
I'm going to go right to "What Does it Look Like if You're Selling Quarters and Halves?" and this is a pretty simple scenario. Here's your total carcass weight at the top, you've got your "known at the farm gate" price which you may express as per pound or as a per animal cost. You can do that either way, depending on your operation.
Hauling: you've got some expenses to get that animal in there, whether you're hiring somebody to do that or whether you're putting wear and tear on your truck and trailer, buying gas, etc.
The next line is shrink. 1% shrink. That covers those condemned and that kind of incident and then the check-off or whatever costs that you have in there.
Let me just say here first, that these are not intended to be real numbers, they're made up. They may or they may not be even close to what your situation is. The intention here is to show how you can set up a tool.
The processing charges are going to vary from plant-to-plant. You may have a kill-cost per head and then a further boning breaking charge on hot weight or maybe it's on cold weight. Or they may split it out into another level: they're going to bone and break and then they're going to have a packaging charge. Make sure you understand the basis of that. If it's a per head, per pound of hot weight, per pound of output. I put the grind in this scenario, just to keep it simple, that's really a further processing step, but you may know from your experience how many pounds that's going to be applied to.
Does the plant give you any credit, for the hide for example? Or anything that they might buy back? Typically, in a small scale plant, that would be already accounted for in your kill charge. In other scenarios, you might get just a per animal charge, kill-cut-wrap. Do you have any label expenses at this stage? Maybe you do, maybe you don't.
Certification and quality: are you being charged, for example, if you're organic? Are you being charged a surcharge for covering the costs of that plant's certification? If so, that needs to be in here. And then again, a % for damaged/spoiled/shrink. You've got to decide what that should be for your business, but put something in there to cover those events.
So you come up with a total processing cost and a total cost, in this case, $1987. How many salable pounds do you have from that quarter or half? This is obviously a boneless cut out, 58% meat yield in this example, so you come up with a cost per pound. Then you want to add a margin to cover a cost to actually get your product to market from that plant. Now you may want to put your delivery costs on a per pound basis. It might belong above the margin line.
But in general, you need to assess and do a separate assessment of what your margin needs to cover. Do you have marketing materials? Do you have labor involved in going to the farmer's market and meeting with people? One reasonable approach might be to take what you might anticipate for a year's cost for that kind of thing divided by the number of animals to figure out what kind of margin you need to meet. If you don't put that in your costs, then you're not being paid.
Cutting test example
The next slide is an example of a cutting test, and it did get cut off a little at the bottom here just a little bit. This kind of leads us to the next scenario where you're going to be actually marketing pieces of the carcass, trying to figure out what the relative value is. So in order to figure out what the relative value is, you need to figure out what's the list of your products and do a cutting test with an animal. Maybe you already have this information. It should be a typical animal, or it can be gathered from your past experience, so that you understand what kind of pounds per head you're going to get.
This is a beef example, with a very detailed list with some sub primals. At the bottom, note that there's some fat, you're probably not going to be able to recover that unless you do a really fatty trim item. Do you have some salable bones or are all the bones going to be waste? And also, what got cut off here, are the by-products like the liver, the heart, the kidney. Are you able to add any value? Maybe they belong above and to be included in the total salable pounds. Maybe they need to be below where you're not going to get any value.
That leads to the per-piece sale. On the screen, the top of this is filled out very, very faintly. I didn't realize it was going to look so faint. We've just covered what is the total cost for the animal by the time you get it to the plant and processed and in this example, you may have different ways that you sell pork lines. So you came up with a total cost of $302 for that animal processed. Now you have the different parts of the animal going down the left-hand side. Your list may be different, you may be cutting it up differently. You know how many pounds per head you're going to get.
The light blue shaded area is where you're going to play with those values. I just plugged in some pretend numbers. The pounds per head times the value per pound is what's in the next column to the right where it says $119.70. If you play with those highlighted light-blue cells until you come up with a total salable pounds, that have a value of $303, you've met your costs by doing this. I'll talk about how to play with those numbers a little bit more in a second. Again, you need to add your margin at this stage, and I've plugged in 10% here. I have no idea if that's right for your business or the kind of costs that you have. The number on the far right then, the column is for what would be your selling price of those parts of the animal with your margin added.
Now we'll go to how you can think about playing with those values per pound. You may know your market pretty well and know what costs each of the parts of the animal can bear or you may have parts of the animal that sit in the bottom of your freezer and you really can't sell them for the amount that you want to get with the number of pounds that you get. So you can tailor this or you can go to this website: USDA's Agricultural Marketing Service, where you can get market news and then you can look at the commodity prices are and how the commodity market is valuing those relative pieces of meat. It can just be a guideline for you to know if you're in the ballpark with that. We call it indexing.
A couple of examples for further processing. If you're taking a bone-in loin, a 410, maybe you have different ways that you go with and so we started assigning a value of $350 for that bone-in loin. There's 34 pounds of it. This is what you're going to be charged for cutting up that loin and maybe you have labels involved with that or not, but you've got a total cost in there for that loin of $136.80. When you take that loin apart and you make your bone-in chops, maybe you take your tenderloin out before you do your bone-in chops. You've got a loin-in roast, you've got back ribs, and you've got trim and you've got bone and waste. So you do that same exercise with that value per pound in that middle column. I didn't quite meet it, I've got, there needs to be a few cents added to one of those products. But I've got a total value of $135.50. It needs to go up a little bit in order to meet the total cost. And then you would go from there and add the margin. It's basically the same concept as you break that animal down further. Take special note here that we put a $2 value on the trim. And back here, we put a $2 value on trim. Moving forward to further processed cooked, let's look at making sausage out of that.
We decided that our trim is worth $2 as just raw trim. We've got spice and we have to pay $15/lb. for that, say. And then we have water that we can add to that formula. So figure out what your formula is, put in your costs, do the multiplication, to come up with what that cost per pound is. We're going to have a cooking loss in this particular product, we're going to come out with 90% of what we went in with. Therefore, we have to multiply the $209 times 90%, or divide it by 90% to come up with $232. That's what it costs you, starting out with the $2 trim for that meat block. Then you're going to have a processing charge that's going to be applied on your output.
You're going to have some packaging charges. You have to be sure to dig in to, say you have a label that costs you seven cents and you're putting it on a 12 oz. package, therefore on a per pound basis, you have to translate that to per pound, so it's going to cost you 9 cents. Same with a case. It's a 30 cent case, but it holds 7.5 pounds, so its only 4 cents per pound. That's how you come up with your total cost. Again, you're going to need to apply your margin to cover any of the expenses that are related to marketing, delivering that product to the customer, and your own time and labor for doing that. That's my presentation.
Lauren: Excellent, Pam. Thank you so much. I'm going to have to watch this again so I understand it. Does anyone have any questions of Pam before we move on to Arion's presentation? It's really valuable to have learned from your experience in doing this, Pam. We will post these presentations and the spreadsheets on our website.
Arion wears many hats. He is the co-coordinator of NMPAN. He is an Extension Associate at Iowa State University. And he is Vice-President of Lorentz Meats, which is a medium-small size processor in Minnesota. He received his doctorate from Iowa State University in Rural Sociology and Meat Science.
Arion: Thanks, Lauren. Thanks, Pam. Very good presentation, Pam. Glad to be able to talk about this topic. I sort of summed it up a little bit as making money as a processor because I'm approaching it a little bit more from that perspective, talking about how you can set up some things in your meat processing plant to monitor profitability. I'm going to talk a little bit about pricing vs. costing. Some points I'm going to talk about: seasonality of meat processing, how that feeds into pricing. I really want to talk about measuring performance, as similar to one of the key things in terms of pricing, because in manufacturing, you're not just adding up costs, you're trying to see what you can get through. Throughput is really a big factor in that.
This presentation was based on some things, based on experiences working with processors, working at Lorentz Meats, but also based on the manufacturing experience of two people: Mike Willett, who is with The Center for Industrial Research and Service at Iowa State University working with all kinds of manufacturers, and Nick McCann who now works for the National Center for Appropriate Technology's ATTRA project [and moved after this webinar back to Iowa State Univ. Cooperative Extension].
How do you know how you're doing?
This is a question I ask processors all the time. Here's some real responses that I've gotten: I check my bank account balance every week. I ask my accountant. If they have an accountant. We're in the black at the end of the year. Work like hell to get as much done as possible. Again, these are real responses and think that some people really‚ as with checking your bank account balance, is the cash amount going up? Is the cash amount going down? It tells you you're doing okay, but does it tell you how you can do better? Does it tell you where your strengths are and where your weaknesses are? Those sort of, I would call them, large scale indicators, don't really do that.
Let's examine some of the basic equations for how you make money as a processor. What you're looking for: the weight of the product you process times the price that you charge for it has to be greater than or equal to your cost of goods plus your overhead. So you lose money when your weight times the product, weight of the product you process times the price is less than your cost of goods and your overhead. So basically, money coming in, money going out.
These are the four things that sort of play into that and some of these are kind of, overhead is a large category. But just for the sake of discussion here, it's helpful to phrase it like this, or frame it like this. Cost of goods in some places equals labor, but I would argue that most of the time, in small processing plants, labor is not a flexible price, i.e. whether or not you have business to keep people busy all week, you pretty much still have to pay them, assume that you're going to pay them for a full-time salary. Packaging would definitely be a variable cost with cost of goods. Spicing: if you're doing a spiced further processed product, that would be a variable cost that would go into that cost of goods category.
Overhead is just all the indirect costs allocated and I'll talk in a little bit about how to allocate it to a processing area, but overhead would be the indirect expenses that would include the price of your building, building maintenance, the loan that you have on your building, loans you have on equipment, loans you pay for equipment, the salary that the owner/operator pays themselves, any other sort of indirect salary if you have accounting or quality assurance, those are sort of, the trash, the electricity, all the other utilities, those are all the overhead expenses that I'm talking about.
Common question: I don't know my overhead
That's something that you definitely want to ask your accountant. And then to allocate that, you want to work to allocate overhead to various processing areas in your plant. You know, the slaughter of your plant, the cutting room in your plant, if you have a sausage kitchen and do that, how can you allocate those specific overhead costs. There are multiple ways to do this, and there may not be one absolute correct way. My preferred way, I think, is based on the labor hours. If you've got one guy who does slaughter all day long, and five guys who spend the day in the cutting room, you should allocate five times as much of the overhead expense to the cutting room.
Some people do it on a square foot allocation, I think that that's not always the best way in a processing plant, because some areas are bigger than others, but they don't necessarily cost that much more.
Property and equipment. If you have some very expensive equipment, you could allocate more cost to that area, you know, you've got an expensive stuffer, smokehouse, that sort of thing. Or some people just make up some numbers and allocate them. Sometimes I think people really have good gut senses about how to do that. It may not always be the best way, it's hard to test if it's good, but, sometimes that works in small businesses.
Common question re allocating wages: "My employees work all over the place."
This is very true and common in a plant. They could work in slaughter, they could work in fabrication, they could work in sausage another time of the day. What I suggest is you allocate wages to that particular employee, you go employee by employee and allocate their wages to those work areas in your plant as a percentage of their time. A rough percent: they spend 15% in this part of the plant, they spend 50% in this other part, they spend 20, you know 35% in this other part of the plant. Until they add up to 100%.
Decreasing costs v. increasing throughput
Coming back to that equation, the equation about how to actually make money. There are four ways to change the equation. Ways 1 and 2 are decreased cost of goods or overhead. This is a common way that a lot of people try and approach it. Ways 3 and 4 are increased price and increased weight or throughput. I'm going to make an argument here in a moment that people often try and control costs, and try and tighten down on costs, squeeze a little bit more, keep wages low, and other things like that. I think it's important to control costs and to be aware of your costs, but I think ultimately, it's easier -- and I'm going to make a case that it's more profitable -- to put more emphasis on trying to increase your throughput.
It's conventional wisdom that you should reduce operating costs because that's the easiest to control. This is a slide put together by Mike Willett who I mentioned earlier from Iowa State University. There's a before and after set up. So we have sales of 100, raw materials are approximately 10%, the throughput, which means the money that comes out of that is $90. $40 goes into direct labor. Another $40 goes into overhead. Net profit is $10. If we hold things equal, but we're able to cut direct costs by $10, and then we only take out $30 for direct labor and $40 for overhead, you get net profit of $20, which is 100% increase. Which is good. Absolutely. Can't complain about that.
However, let's look at this from a different perspective, if we increase the throughput. We have again on the left side, left column, the exact same equation as before, after increase, if we increase sales by 10%. So decreasing costs by 10% versus increasing sales by 10%, and we're holding all the costs equal. So we have raw materials, the cost of goods. Cost of goods is going to go up by 10% as well. Our throughput is then, rather than $90, our overall money made is $112.50. Keeping direct labor the same, we're having the same amount of labor expense, but we've increased the volume going through, our total net profit is $32.50. Again, on the last slide, it was $20. We're looking at a 60% increase in profits. Just by increasing sales versus cutting costs. Just to say that another way, oftentimes if you can make one more dollar with the same amount of labor, it makes you more money than if you cut one dollar from your costs.
Are your prices too low?
One thing about raising prices vs. throughput is understanding your market. How do you decide on that left side of the equation that I've been presenting whether you need to just increase the weight or increase your prices too? One common thing I think I've heard a number of small business owners say, and I really agree with this, that if you're too busy, you're too cheap. You see this in a lot of smaller processing plants and that there's real seasonal variation and demand. I know in the Upper Midwest it gets really busy in the fall and it can be very slow in the spring. Is there some way that you can charge different prices? I do know some processors that do this, there's a little bit of a price differential. It's more expensive in the fall. You can charge more when the demand is the highest. When there's less demand in the spring, that's when you lower your cost. You try and balance it out over the year.
If you're a small processor and you're just always slammed, constantly busy all the time, there's never a slow period, never a slow week, you're always wondering how you're going to get it done, you obviously can't do any more. You're trying to balance that equation out and come out in your favor. You obviously can't do any more weight, the way you're doing it. You seriously should consider, can you go up on your prices a little bit? Will the market bear it? Can you test it in some things? One way I've heard of some people doing this is adding a seasonal surcharge or something like that would be an additional line item. So that it's clear to folks that this is a price this time of year and it's not a price this other time of year. Trying to communicate to people, well, if you bring me an animal when I'm slow, that's a win-win situation for both of us.
How much volume per day to be profitable
If you don't feel like you can change prices, you can't do it or you don't want to change prices, come back to this equation again down here. Weight times price has to at least equal cost of goods or overhead. Take your cost of goods and your overheard, figure out what those figures are, and solve this equation for your weight. If this is the price and that's going to stay, how much volume do you have to do? How much do you have to do everyday? I'm going to go through an example here that has to do with the cutting floor; that's straightforward. If I know I'm going to charge this price per pound, and I have these overhead costs, "how many beef do I have to cut a day?" is the question. What's that solved for weight? I assume this average carcass weight and then I set a production goal and this is something that we actually do here at Lorentz Meats.
What you need to know: Your cost of goods, your labor. If that's something that's variable, or it could be something that's not variable, in either case, it could become part of your overhead expense. Your packaging associated with that, when we do packaging tests around here, depending if we're packing a lot of primals, we get somewhere around two cents of plastic per carcass pound, if we're packing a lot of individual retail cuts it't in that 5-6 cent neighborhood, but we use expensive cryovac bags. Everything is vacuum-packed, we don't do any paper. Paper wrapping would be a lot cheaper. Amount of overhead allocated to the area and the price of the product. Again, that's just for the equation. Solve for weight.
Common question: I can't process that much in a day.
People do the equation and sticking to the example I'm giving here, the cutting room, it says, "Oh, I've got to cut 7 beef in a day if I really want to make this work out. I can't cut 7 beef in a day with my 5 guys. That's a lot of beef to cut."
Well, then you really should consider raising prices. Or can you add more people? It would be another way. If you hired another person, or two, could you then cut more beef and would that allow you to really meet that goal? And that person, ideally, should be increasing your revenue more than they're increasing your costs. Otherwise, they're probably not a very good employee if they don't do that.
Production incentives: If you set a goal everyday and they meet it everyday, does all of a sudden everybody get $30 worth of meat every pay period that they meet all the production goals or something like that. Can you give little bonuses? Or maybe you have a nice lunch for everybody. Or are there other incentives that you can offer to your employees?
Common question: what is the throughput needed to make it profitable?
People say, "I don't have room for that much meat." Analyze your system for bottlenecks. Common bottlenecks are the carcass cooler: you can kill all these animals, you can cut more animals, but you don't have room for them in the cooler or in the smokehouse. It's hard, the smokehouse is busy, you can't put any more meat in it. I'm going to come back to this point a little bit later to discuss it because I think it's really important because sometimes there are ways that if you use things a little bit differently, set your schedules a little differently, that you can get more work out of them. You can better utilize those resources of the cooler and the smokehouse. Those are really hard to change because they're physical infrastructure. You can add one employee, and if it doesn't seem like it's working out, the cost to hire him and to get rid of him are not as much as building on to the building. You don't have the same flexibility.
Another issue that folks have brought up is there is a conflict of interest for people to work faster. If you have production incentives and you say, "You need to get this much work done by the end of the day." Or, let's say today is a light day, that means that we normally cut 7 beef a day and today we only have 5 to do. Everybody may have heard the expression that the work fills up to meet the time that's given. So all of a sudden everybody's just going to work slower that day because they want to get their same number of hours.
One of the things that we've actually put in place around here is give them a minimum hour guarantee. Employees are guaranteed 35 hours a week minimum. We have never had to pay out on that because we're always able to keep folks busy. But it does give them peace of mind that if it was going to be really light, they should still work hard. If they work hard and everything gets done early, everybody can go home early and still get paid. Again, production incentives, like I mentioned before; does that include meat, does that include a cash bonus, does that include some other employee perks?
Common question: what about slow times of year?
Some times of the year are slow. A seasonal scheduling and pricing strategy, as I mentioned, also could work. I'll talk about seasonality in a little bit. I'm going to defer two of these issues to come back to in a moment.
I'm just showing you some examples of production goals. These are actually some production goals that we have used here. This is some older information from earlier in the year. We've got 14 people on the cutting floor, which includes packaging and cutting. We start the workday at 7 am, we try to get done usually around 3-3:30 or so. Here this day, we had 27 beef to cut. This is something that's particular to these kind of beef. We have different cutting specs for different customers and different customers bring in different size average carcass weights. We know, having done cutting tests on them and collected that information, here's how long it took. Here's how long it takes on average looking at multiple days. We can say this customer typically requires 4.5 man hours per beef to get it done. And then build that into a spreadsheet location that we can calculate, here's the prediction for the day. I have to say, folks on the floor, they like this, like seeing it and since we've put it up, we've seen some additions to improve it. They know that's the expectation. People like a challenge, they like a goal to strive towards. If they don't see that, they kind of just make it up. Everybody appreciates that and folks have been good with that.
Here's another couple different kinds of beef. We did it two different ways. It's split in the middle of the day. Each one of them has a different number of man hours per beef.
Here's one that I put together that has to do with a very small plant. Here's a model that you might look at. This is a day I made up. 4 custom beef, 5 people cutting. Let's say it takes approximately 8 man hours to cut a custom beef. What I mean by custom is just what a small establishment would do. It's cut, that beef, into maybe 4 quarters or 2 sides or something like that for the individual customer's specification. Let's say you start at 7, two hours in, you got one beef done. Another 2 hours in, you got 1 beef done. You take an hour off for lunch, so then 2 pm, you're done with 3, and by 4 pm, you're done with 4 beef. You're going to need to see, what's reasonable in your plant, what's the expectation? But then, trying it out and sticking to it and if you talk to your folks, your employees and say you know that you can get this much done. Sure, there will be circumstances where that one producer brought in that one beef that had an 1100 lb. carcass and sure that's going to take a lot more time. Or there's one producer who brought in some younger calves for whatever reason and just have real small carcasses. Those are going to take different times and you need to account for that sort of thing. But having a goal and stating that goal really helps you try to meet that goal.
Again, coming back to the whole reason that we would set a goal is because you want to have a certain amount of weight that you want to send through your plant every day times your price to either meet or exceed your costs for that building. This is a way of making that decision operational. Then you also know every single day, today was a good day, today was not such a good, today was really slow, you've got to really get going tomorrow. Or today was a great day, give your employees good, positive feedback that I'm sure they like to hear.
Back to seasonality and scheduling
Seasonality is a serious issue, particularly for a lot of smaller, custom processors. A price difference, as I mentioned before, fall vs. spring, and then I have seen people say, if you bring animals in in the spring, say in March or April, then you're guaranteed a slot in the fall, say November. Or if you didn't bring an animal in the spring, there's a surcharge. I talked about surcharges a little bit earlier. That's the seasonality surcharge.
Again, just trying to give real concrete incentives to producers or marketing companies you're working with who are bringing animals to try and help them and clearly communicate that this is what you need as your business. There's real rewards to try and make it win-win. Another way that I've seen, for a processor's work, is they take a slot, like I mentioned before. You take a slot in the spring, you're guaranteed a fall slot. And that's a good way, because everybody wants fall slots. So take one in the spring and make it worth folks' while.
Another way is folks always have annual meetings with significant customers and groups of producers. Can you talk with folks and try and have them say, "Hey, I'm going to take these 3 slots in the spring, these 4 slots in the summer, and these 5 slots in the fall," or something like that. Try and fill up the calendar a little bit further out to really have better communication so that everybody's on the same page.
A lot of times I know producers say, "Oh there's not enough capacity. Every time I call the processing plant they're booked 6 months out in advance." Well, a lot of times if that happens it's that everybody calls in November because that's when they want to get an animal in and the plant really is booked out a few months in advance. If they had called in March, they would have been able to get an animal in right away.
The way we do it here at Lorentz Meats is that we'll take a commitment from a producer with just a one or two animals several months out but we won't book a specific date. I think most people who are knowledgeable and have experience raising livestock will be able to say when they'll be ready. Maybe not to the exact day, or even the exact week, but they should know the exact month that they're going to bring those animals in, with proper farm planning and management.
Then, around the month beforehand, we'll call them to schedule a specific date. And by that point, folks should have a much better sense of when actually, "Oh I think they're going to be ready next week." So that means if we take a kill-date that week, that should be a good fit. That way they're booking the slot far out, but it's not to the exact day. Closer to the date, when everybody's got a better sense, we start to fill out the exact slaughter date calendar.
Slaughter fewer at a time, more often
Coming back to bottlenecks, one of the things that Nick McCann and I have discussed, in a study he did in his graduate work, working with smaller processors, they found that a lot of smaller processors stumble with capacity in their cooler and find that to be a bottleneck. But the most common reason that they stumble with that is because they'll have one or two kill dates a week. Let's say you have a cooler with 20 beef spaces and you kill 10 beef 2 days a week, it's like a snake trying to eat an elephant. It's a huge piece that's got to go through this little system. It creates this huge bubble that has to move through and digest slowly.
Whereas if somebody has a 20 beef cooler, and they're going to age those beef one week, they would then have the capacity to kill 4 everyday and then they could cut 4 everyday. The whole system runs a lot smoother because you kill every day, put them in the cooler, take 4 out everyday. The cooler is constantly being used to its maximum capacity and you're able to get more through than if you just did it 1 or 2 days a week and then weren't using the cooler to its full capacity. If you just killed 2 days a week, you would have spots in the cooler that would be empty.
In this particular example somebody analyzing their system, their bottleneck, they've got 7 beef per day, these are general numbers I throw out that one person can kill a beef every hour. Let's say with clean up and start up in the morning, a person can kill 7 beef in an 8 hour day. The cooler capacity, if you're killing 4 every day 5 days a week, that will fit in a 20 beef cooler.
Fabrication: I often say that on a custom beef that one person can do one beef from start to finish fabrication in an 8 hour period. If you've got 5 people on the fabrication floor divided by 8 man hours, the amount of time it takes to do one beef, then you do 5 a day. Clearly, the bottleneck right there is in the cooler. There could be other circumstances where you utilize the cooler better.
In the circumstance I put down here: only if the cooler is improved, can you increase the capacity of the system as a whole. Can it be improved without adding more space? What provides the highest throughput per expense ratio? If this was your circumstance, what kinds of things can you do that don't spend as much time in the cooler? You could cut more hogs. You could do cull animals. If you're doing a cull dairy animal, a cull dairy cow, that only needs to sit in the cooler for about 48 hours because you're going to grind the whole thing up. It doesn't need all that extra aging that would be associated with tenderness for steaks because the whole thing is going to be ground anyway.
Another way that you might be able to get more capacity through your system without physically expanding the cooler would be to move to some wet aging. Can you cut the primals up and then put them in a bag and let them age on the loin, the short loin, the ribs, some of those so you can still get that aging happening but you don't have to actually expand the cooler?
Another way, maybe your cooler rails are not as efficient a use of space as they could be. Can you alter some of the railing inside without physically expanding the space? That might be cheaper.
That's a lot of information. Now let's go through questions.
Q: Are there any prices that are "normal" for value-added only processing facilities?
There was some other discussion with other folks in the chat box, and she's basically saying that when you're pricing at the beginning, you won't have an idea of your costs until you start doing it. So we need a base to start at to charge farmers. You could say that there's no specific "normal" cost given that there's probably so much regional variation. But do you have a suggestion for how someone could start? What a base they could start with before they have a facility up and running and they can do the kind of analysis that you've done?
Arion: If folks have an estimate about how much they can process during the day‚ when you're working on a business plan, you're trying to estimate -- not to say that business plans are an accurate representation of what happens, but it's a good time for you to think about the process and try and get it in the ballpark. You're going to have an estimate of what your overhead is going to be. You're going to have an estimate of how many employees you're going to employ and what their costs are going to be. You're going to have an estimate about some packaging and other materials that you're going to use. And then you're also going to have an estimate about what your business is going to look like. That's sort of those 4 elements of the equation, 3 of the 4 elements of the equation, and what's that price look like?
One way I've seen processors try and establish or think about price is to look what other processors in the area are charging. If there's nobody in your area, that may be extra incentive for you to try and seriously come up with good prices that will work well for you because if you're the only show in town, you're the only show in town.
I would say that on the coasts, I definitely see higher prices than I see in the Midwest. But there's more processors in the Midwest, cost of living is less in the Midwest, so those are various factors.
I hate to just throw out a number because people seize on that, but I will do it just for the sake of clarity. I'm often seeing prices on the coast, for red meat, people are charging $.65-$.70 plus, per pound of carcass weight, maybe with a kill charge on top of that. In the Midwest, I see a good $.15 cheaper on the carcass weight.
Lauren: That's for cutting. Not for value-added.
Arion: That's for cutting. For value-added processing, there are really not that good figures because the equipment you have and the way you process are just so variable and it's really all over the board. People charge $.75 for bacon which I think is obscenely cheap and then other people charge $2.
Lauren: One of the things you mentioned earlier, Arion, about "if you're too busy, you're too cheap", made me think of small-plant owner Mike Smucker in Pennsylvania, who was featured in our recent newsletter. He said that they always had a hard time raising prices but then he got some advice and found that it worked. If you raise prices enough that 25% of your customers back off, they go away, then that's the right level. Then, the customers you have remaining are paying your higher price and you actually have throughput at a level that works for your plant. Am I remembering that right, Arion?
Arion: I wasn't privy to that conversation, but I guess I would have to see. You would have to raise the prices enough to more than compensate for the customers that you lost. You have to do the math and find the sweet spot. If you raised prices 25% and 25% of your customers went away, you would be doing less work for the same amount of money.
Q: Are charges generally per pound? I often see kill charges and packaging charges, but not per pound hanging weight charges.
Arion: My experience has always been that kill charges will be often a flat fee, sometimes it will be per hanging weight. But processing charges, i.e. cutting, fabrication, always on the hanging weight charge. But further processing is going to be on the price of the meat that goes into it, per pound of meat going into the product, sometimes it will also be on per pound of product produced at the end.
Mike Smucker responding to the earlier point: "We raised prices 25% but didn't lose any customers. We're still probably too cheap in some areas."
Arion: I think that's great. I'm sure some producers out there wouldn't say that that's great. Maybe some of Mike's customers didn't think that that was great. I do often think that knowing intimately all of the charges and the expenses that go into running a meat operation and all the employees and the sanitation and all the regulatory requirements, it's not a cheap endeavor. When you consider that a lot of folks go out and spend $80 an hour to have their car worked on and don't bat an eye at it, I think that its skilled work and it needs to be well compensated. The only reason why we're able to retain and keep good employees here is because we pay good wages.
Lauren: Right and one of the things that was very important about this webinar is for producers to understand processors and marketers, the upstream costs. Put those costs together based on what they go through and what happens at their point in the supply chain.
Q: What are ways to assure your customers that they're getting their animals back?
Arion: I won't apologize for all meat processors because I have heard situations where some people were not as scrupulous. Like Mike Smucker said right there, be very transparent. Take the time to walk people through your process. Show how the animals are tagged. Show how the carcasses are tagged. Show how the meat is moved around and labeled. You don't have to have fancy computer software to do this. There have been people who have been doing this for 50, 60, 70 years just with very good paper systems where everything always has a paper tag on it as it moves around and gets packed.
In the chat box: a comment from Casey about the charges in North Carolina, what plants are charging for a kill and packaging. We see a lot of variation here in Oregon. From a plant charging just $35 a kill a head, kill fee for cattle, all the way up to folks charging a little under $100. Sometimes with that kind of range of variation, even within one state, its hard for a newcomer to know where to set prices. Does anyone have any questions about Pam's presentation?
Q: Is the 10% margin enough?
Pam: 10% was intended just as a placeholder. I just wanted to emphasize that. You really have to do your analysis of what you need. One thing I forgot to mention was the "p word", which is profit. That should be included in that margin. Are you expecting to make a little bit of profit off of your venture for your efforts? That's a whole separate thing that I really didn't address. I kind of left the margin as kind of a black box.
Lauren: Pam, do you have margins vary by product or do you try to have a margin straight across the board?
Pam: We have a margin goal for the business. We have a margin goal by species. And we vary the margin depending on the customer base. Because we have ingredient customers, we don't have to spend as much time managing all the packaging and all the distribution. We just sell in bulk. That's a lower margin. For products where we're spending a lot of time managing it, we're likely to have a higher margin. In our business, that's how we do it, we vary it by the customer.
Arion: Because you have more overhead invested in the management of that line and you have to recoup those costs.
Pam: That's right.
Arion: I think Pam brought up a good point that, without advocating for greed, a business should be profitable. There are non-profits out there and they do very good work. But a meat processing business and a meat processing company should be a for profit business. Again, I'm not advocating for greed, but the numbers need to balance out and it needs to return a profit at the end of the year.
Lauren: How often do you both think these kinds of analyses that you've talked about in terms of figuring out your costs and what your margin should be, how you overhead should be allocated; how often do you think a business should do that?
Pam: For us it's a yearly process, because our financial reports during the year kind of track whether we got it right. If our cost of goods is over what we anticipated, we go back and look and see, maybe we didn't put enough for damage/spoiled. Or we had all these quality problems with this product this year that we didn't anticipate. Or that the processing charges are changing. For us, it's on a yearly basis. I think other businesses do it more frequently.
Arion: At Lorentz Meats, we like to evaluate prices on at least a yearly basis. We do more than that sometimes when products change and things like that. I'm advocating for putting in place production schedules and metrics that tell you every day how the day was. If you set a production goal, if you were going to cut this many pounds today, at the end of the day, you should know if you cut that many pounds. And if consistently you're not meeting those goals, it's going to tell you immediately that you need to analyze overall how you have set things up structurally.
If you're consistently exceeding those goals, that's awesome. It tells you in real time how that's working. Also the nice thing about production goals is that sometimes you're doing weekly or monthly reports and it's a lot of numbers and financial statements, that often can be very confusing for employees and also even supervisors who, no insult to their intelligence, they just don't have the familiarity and maybe feel overwhelmed by those. But if it's just, we need to cut this many pounds or this many head, everybody understands that. It really gives folks a sense of a target and of how, overall, we're doing.
Lauren: Thanks so much to you all. I think we should wrap this up. This has been an excellent webinar. Good questions. We will post the recording of the webinar to our website. If you are not on our email list, please email us and we'll add you. We will also post on our website a live spreadsheet based on Pam's presentation that folks can play with. If you have any comments or questions about future webinars, please let us know. Thank you so much, Arion and Pam for your excellent presentations.