A 'contract' is defined as an agreement by one party to buy and the other party to sell as set forth in the agreed Terms of Trade. A contract may be formed verbally or in writing and once reached is legally binding on both parties.
What are spot contracts?
Spot contracts are a series of individual purchases that occur 'on the spot' as feed requirements for each month are due.
You order the feed, it gets delivered and you are sent a bill for the going price that week.
Remember, a spot contract fully exposes you, as buyer, to market volatility and floating feed costs and will achieve the long-term average feed cost at best, which has cash flow impacts.
What are forward contracts?
Forward contracts cover several months forward at a fixed (locked in) feed price but you still take delivery and pay each month as you use the grain.
Forward contracts allow you, as buyer to know what the price will be for a given period.
They can be either a flat price or price plus monthly 'carry cost' (carry cost equals storage fees plus finance cost per tonne per month).
You can fix the price for a tonnage on forward contract for several months and 'top up' your monthly needs in the spot market.
The purpose of forward contracts is to provide price certainty and to reduce risk, not to minimise buying price.
Remember, forward purchasing is a tool to reduce price risk, not minimise buying price.
Forward purchasing transfers price risk to the seller, and the seller retains the production risk because he is obliged to deliver the feed. Having someone else manage your risk always comes at a cost.
Whether it is on a 'spot' or 'forward' basis, successful contracting of feed is a two-way street - a balance between buyer and seller. Grain contracts are designed to give business certainty to both parties and be a place to refer to in the case of a dispute arising.
A dairy farmer's guide to buying grain (PDF, 977KB)
This guide provides dairy farmers with a practical checklist for buying grain under the contract system used by the grains industry, including details on spot contracts, forward contracts, negotiation, and payment.
Every detail is important when it comes to contractual arrangements. For example, don't make the mistake of thinking the term 'feed contract' means the same as 'forward contract', or that a verbal agreement isn't a real contract. Contrary to popular belief, a verbal agreement (even one made over the phone) is a legally binding contract.
- Always confirm verbal agreements with feed suppliers by mail, fax, or email, and keep all paperwork in a safe place
- Maintain regular communication with suppliers (particularly if supply starts to look doubtful)
- Always remember quality and supply.
Feed contracts - it's all about security (PDF, 462KB)
Describes the five key points to cover (quantity / quality / time / place / payment terms), commonly used terms in grain contracts, and grain grades and quality standards. From price taker to price maker (PDF, 428KB)
Explains ways you can manage your supply and price risk and the differences between spot and forward contracts.
Derivatives allow you to manage price risk when you are unable to fix a price for supply in the cash market with a forward contract. They allow you to substitute a future physical purchase with a current paper transaction, which will be offset (cash settled) when the physical purchase takes place.
- Choose the pricing strategy that fits your target food price.
- Get specialist advice.
- Make sure you look at the upside and downside of any derivative contracts.
Using future contracts and other derivatives (PDF, 181KB)
Describes the impact of pricing strategies on feed costs, why and when to use derivative contracts, and where to get more information.