Small and medium-sized dairy business are being forced to manage risk like big multinationals amid ongoing geopolitical tensions.
Companies are increasingly adopting corporate-level hedging tools to avoid price shocks and reduce risk as the US-Israeli war with Iran continues to disrupt global commodity markets.
According to Attara, a commodity hedging strategy firm, dairy SMEs are stepping into new territory by leveraging hedging tools to make costs more predictable.
Hedging tools are financial instruments that allow businesses to lock in a fixed price for each month and thus reduce business exposure to the sharp price fluctuations. But these tools have been traditionally used by larger businesses and underutilised by smaller companies, explained Tom Tapp, agriculture & commodity hedging specialist for Attara.
“Hedging instruments and structured market access have historically been the preserve of large corporations and major agri-businesses, which typically have in-house trading teams and established risk management frameworks,” Tapp told us. “As a result, smaller businesses have been at a structural disadvantage, often having to react to market volatility in contrast.”
This knowledge gap has contributed to farm closures in some markets such as the UK, he added. But things are changing.
Why SMEs are adopting hedging tools now
Ongoing geopolitical tensions are forcing producers to rethink their risk management strategies – and embrace hedging tools to support resilience.
For those that have hesitated, Attara’s internal data shows that businesses that delayed hedging during recent volatility faced 26% higher costs on average.
“Following the ongoing developments in the Middle East and given the strategic importance of the Strait of Hormuz to global oil exports, Attara has seen a 300% increase in hedging activity in recent weeks, with SMEs in agriculture driving much of this,” Tapp said.
“We have been increasingly supporting dairy producers and processors with fuel hedging strategies, though their priorities differ from arable businesses, who face the additional pressure of rising fertiliser costs.”
What are the defining cost risks for dairies?
Rising fuel prices represent the biggest risk for dairy businesses. Dairies buy fuel monthly, making them vulnerable to sudden price swings.
This is why swaps is becoming the preferred hedging instrument for industry players, who are that way able to lock in monthly fixed prices and avoid shocks.
“A swap involves an agreement between a buyer and a seller to exchange future cash flows based on a commodity’s price movement, so only the difference between the fixed and market price is paid, instead of the commodity’s full value,” Tapp explained. “The benefits of this include the ability to lock in a fixed price for each upcoming month, which can drastically reduce business exposure to the sharp price fluctuations businesses are experiencing in the current geopolitical climate.”
Businesses can already do this with their existing supplier for up to four years without switching contracts, he explained, while a one to three-year plan with quarterly reviews insulates business margins from the current type of market volatility and builds financial certainty.
Energy shocks are also highlighting structural vulnerabilities in the dairy supply chain, with haulage and feed costs being most exposed, Tapp said; and oil prices are also pushing operating prices up.
Yet, fuel remains the more immediate pressure point, he added.
“This is acutely felt by SMEs across the commodities landscape as it enables supply chain flow,” Tapp said. “For the dairy industry in particular, this entails feed delivery, milk collection and distribution, but rising oil prices are pushing up operating costs at a multi-industry level too.”
Feed costs present a more indirect, but still meaningful, risk, he added.
“This is because fertiliser prices move in parallel with oil prices, impacting the cost of feed production, the price for buyers and margin pressure.”
Overall, a new model for SME resilience is emerging, with hedging turning from optional to essential business tool as commodity shocks become more ingrained in the operating environment.
Looking ahead, Tapp warns that dairy farmers and processors should monitor the prices of milk, butter and fuel during the second quarter, with fuel prices remaining the most significant input cost variable to watch if the conflict in the Gulf drags on.
It is also worth monitoring fertiliser and natural gas prices as movements there may indicate what’s to come for feed prices.
“Even once the conflict subsides, businesses should expect energy and input costs to remain high,” Tapp warned.
“Resilient dairy farms are already implementing proactive risk management strategies that anticipate price moves, instead of responding to them.”
In short, it’s not about if price shocks would happen, but if dairies are prepared to weather the storm: and using hedging tools can go a long way to reducing risk.
“Hedging isn’t about beating the market,” Tapp said. “It is simply turning an unpredictable input cost into a known one, and then getting on with business.
“Dairy farmers can now operate with the same financial capability as larger corporations. Those that are already doing this have reduced their business vulnerability and are better positioned to manage volatility.”
