Overheads Are Fixed!

What would you have to do to increase profit in a business where you couldn’t control costs? You’d have to increase production per animal, increase the number of animals you carry and hope for higher prices. These are the strategies most ranchers have followed, and Universities have recommended, for generations. It’s a logical approach if you believe that you can’t do much to reduce costs, especially overhead costs.

The biggest costs on most ranches are overhead costs. Overheads are costs that don’t change very much as the units of production in an enterprise change. Overhead costs include all land and labor costs (e.g. rent, salaries & benefits, and equipment related costs) and account for 60-80% of all of the costs on most ranches. Economists call these “fixed costs.”  At the RFP school we contend that the economists are wrong. We argue that the word “fixed” implies that these costs can’t be changed.

Thousands of Ranching For Profit graduates, who have dramatically increased profit by drastically slashing overheads, know that we are right.  But for the vast majority of ranchers who haven’t been to the Ranching For Profit School the economists are right!

Overheads are fixed unless you change the fundamental structure of your business. Consider the example of a March-calving cow-calf enterprise in an environment with severe winters and no green growing grass until sometime in April. The cow’s highest nutritional requirement matches the lowest pasture forage quantity and quality of the year. Our traditional answer? Feed hay. The hay we feed is a direct cost, a cost that changes directly as the number of units change. But the equipment and labor costs involved in feeding the hay are overheads.

We can tweak the efficiency of our March-calving cows all we want. We can improve our grazing program so that we make use of stockpiled forages well into the winter. But as long as our production schedule is out of sync with the forage cycle, we will need hay and, therefore, we will incur the overhead costs of feeding hay. Unless we change our production schedule we will not be able to reduce overheads in any meaningful way. They are fixed in place by our production strategy. It doesn’t matter if we have 50 cows or 500, feed 100 bales or 1,000, we incur most of the overheads just by owning the tractor in the first place.

If we’ve been putting up our own hay, we can cut our overheads by contracting with someone else to put it up for us or by eliminating the hay enterprise and buying in whatever hay we need. Changing a March-calving cow-calf enterprise to a seasonal stocker or custom grazing program would also be a way to slash the overheads.  Either way, if we want to make significant changes in overheads, we need to make changes at a very deep level in our businesses. When we change at a structural level, the overheads become easy to cut. Unless we change the structure, most overheads are fixed.

Let me be clear. I am not recommending that you make any of these changes. But if overhead costs are 60-80% of the costs in your business, and those costs are fixed, aren’t you in a fix too?

If you have enjoyed our post, please follow and like us and be sure to share us with your friends.

9 Comments


  1. Dear Dave
    I didn’t have much direction for a drought plan, we have only had an inch and three tenths of rain since march. Because we have attended RFP school last week now i have all the direction i need . Your school was definitely life changing. I can’t thank you enough! PJ.

    Reply

  2. “Economists call these “fixed costs.” At the RFP school we contend that the economists are wrong. We argue that the word “fixed” implies that these costs can’t be changed.”

    That implies a misunderstanding of Economics. By definition, “variable” costs “vary” with the level of production (feed, seed, fertilizer, etc).

    By contrast, “fixed” costs do not vary no matter the level of production. The local appraisal district’s tax thief is going to be there whether or not you have 1 cow or 1,000 cows.

    Reply

    1. Thanks Jimmy. I’m sorry if I didn’t make my point clear. I do know the classic definition of fixed costs. Let’s take your example of property taxes, which is without doubt a fixed cost by the classical economic definition. No argument there … but let’s not be too quick to dismiss any “fixed” costs as being “fixed” (unchangeable) … many states have programs that, as long as a property is kept in ag, reduce the property taxes, proving that even fixed costs aren’t always “fixed.”

      It also makes analysis easier…consider a 10,000 acre ranch. If I lease if for a flat fee (or by the acre since the property is a fixed size) it is a fixed cost. If I lease it by the head it is a variable cost. Yet either way it is land. Let’s say that I stock the property so that the lease costs when I pay per head is equal to the flat fee I pay for the property. In one scenario it might look like my fixed costs are under control and my variable costs are awful, but only because I didn’t include the land. In the other scenario my fixed costs look awful and my variable costs look good…but either way the land costs what the land costs… our approach keeps all land costs together.

      You can stick to the classic definition of fixed costs if you want to. You’d be right to do so…academically. Our approach to economics may not go by the text book, but an awful lot of folks have found that it works. If your approach, which is more widely accepted, works for you … fantastic. Stick with it.

      Reply

  3. You can’t buy good quality hay and have a dependable supply year after year. Just ask some one who has been though a drougth

    Reply

    1. Thanks Alan,
      It can be hard to find good hay in a drought and expensive once you find it … but we advise people to NEVER EVER feed hay in a drought. It’s bad for the land and it’s bad for the pocket book. There is no substitute for destocking in drought.

      I’m not against anyone growing hay … but most ranches don’t have the economies of scale to justify it. If it is profitable as a stand-alone enterprise, fantastic! Grow hay. However, whether you grow it or you buy it from someone else, your cows have to pay market price for it. If you are in drought and your hay is worth $200/ton, if you are going to feed it to your cows, your cows have to pay $200/ton.

      If making hay is a losing proposition, as it is for many ranchers, the annual machinery and labor cost is an expensive drought insurance policy for a really bad insurance plan.

      Reply

  4. As usual, right on, Dave. Serious changes in overhead expenses require major structural change in the business. And the math here is pretty simple; we can usually do it with a legal pad and a Sharpie. But if that’s true, the question remains: why do most ranchers resist (to the death) making the structural changes necessary to radically reduce overheads and improve the bottom line?

    It ain’t the math. It’s the emotion.

    I remember very clearly the day all the hay equipment went to live somewhere else. My mom was heart-broken. A few years later, I watched 40 years of genetics get on a truck and head down the road, and I’ll admit, there were some heartstrings being stretched. These were changes that were very clearly called for, the math was simple, the economics were easy. Still, making the changes was hard.

    Math is simple. Heart surgery and psychology, not so much.

    Reply

    1. Couldn’t have said it better.

      Reply

      1. I don’t mean to take this down a rabbit trail but I think diversification fits into the economics of overheads. Enterprises need to stand alone but if we can use that tractor in multiple enterprises or generate profit with uses in multiple enterprises. Example is using the tractor for cattle, farming, pushing snow, custom work mowing, custom spraying, custom fence building, custom roadside seeding, custom oil field work etc.

        I’m not making the case for buying the tractor but if you have the overhead and the hired help or kids that need something to do, diversification can generate a lot of money with the same overhead assets. Again, it needs to be profitable.

        Same with land: graze, lease for recreation, dig gravel, sell trees, sell sand, cow/calf and stocker, sell hay then graze, a place for others to get rid of manure, etc. I love brain storming.

        Reply

Leave a Reply

Your email address will not be published. Required fields are marked *