[Federal Register Volume 66, Number 207 (Thursday, October 25, 2001)]
[Proposed Rules]
[Pages 54064-54096]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 01-26901]



[[Page 54063]]

-----------------------------------------------------------------------

Part II





Department of Agriculture





-----------------------------------------------------------------------



7 CFR Part 1000, et al.



Milk in the Northeast and Other Marketing Areas; Recommended Decision 
and Opportunity To File Written Exceptions on Proposed Amendments to 
Tentative Marketing Agreements and to Orders; Proposed Rule

  Federal Register / Vol. 66, No. 207 / Thursday, October 25, 2001 / 
Proposed Rules  

[[Page 54064]]


-----------------------------------------------------------------------

DEPARTMENT OF AGRICULTURE

Agricultural Marketing Service

7 CFR Parts 1000, 1001, 1005, 1006, 1007, 1030, 1032, 1033, 1124, 
1126, 1131, and 1135

[Docket No. AO-14-A69, et al.: DA-00-03]


Milk in the Northeast and Other Marketing Areas; Recommended 
Decision and Opportunity To File Written Exceptions on Proposed 
Amendments to Tentative Marketing Agreements and to Orders

AGENCY: Agricultural Marketing Service, USDA.

ACTION: Proposed rule.

-----------------------------------------------------------------------

------------------------------------------------------------------------
     7 CFR part           Marketing area                AO Nos.
------------------------------------------------------------------------
1001...............  Northeast...............  AO-14-A69
1005...............  Appalachian.............  AO-388-A11
1006...............  Florida.................  AO-356-A34
1007...............  Southeast...............  AO-366-A40
1030...............  Upper Midwest...........  AO-361-A34
1032...............  Central.................  AO-313-A43
1033...............  Mideast.................  AO-166-A67
1124...............  Pacific Northwest.......  AO-368-A27
1126...............  Southwest...............  AO-231-A65
1131...............  Arizona-Las Vegas.......  AO-271-A35
1135...............  Western.................  AO-380-A17
------------------------------------------------------------------------

SUMMARY: This decision recommends changes to Federal milk orders based 
on the record of a hearing held May 8-12, 2000, to consider proposals 
submitted by the industry to change the pricing formulas included in 
the final rule for the consolidation and reform of Federal milk orders 
and on comments filed in response to a tentative final decision issued 
November 29, 2000. The proceeding was undertaken in response to a 
Congressional mandate included in the Consolidated Appropriations Act, 
2000, to reconsider the Class III and Class IV pricing formulas. The 
material issues on the record of the hearing relate to the elements of 
the Class III and Class IV pricing formulas, including: commodity 
prices, manufacturing (make) allowances, factors related to product 
yield, role of producer costs of production, and the issue of whether 
to omit a recommended decision. After issuance of the tentative final 
decision, approval of the proposed order amendments by producers, and 
issuance of an interim final rule, some of the provisions of the 
interim final rule were enjoined by the U.S. District Court for the 
District of Columbia. This decision considers comments filed in 
response to the tentative final decision and recommends changes that 
are consistent with the Court's ruling. Changes from the tentative 
final decision would increase the dry whey make allowance and remove a 
snubber used in the other solids component price calculation, revise 
the Class III butterfat and protein component price formulas consistent 
with the Court's ruling, eliminate the pooling of butterfat values in 
paying producers in component pricing orders, and change the 
classification of several high-fat products from Class IV back to Class 
III.

DATES: Comments should be submitted on or before November 26, 2001.

ADDRESSES: Comments (six copies) should be filed with the Hearing 
Clerk, Room 1081, South Building, U.S. Department of Agriculture, 
Washington, DC 20250. Reference should be made to the title of action 
and docket number.

FOR FURTHER INFORMATION CONTACT: Constance M. Brenner, Marketing 
Specialist, USDA/AMS/Dairy Programs, Order Formulation Branch, Room 
2968, South Building, P.O. Box 96456, Washington, DC 20090-6456, (202) 
720-2357, e-mail address [email protected].

SUPPLEMENTARY INFORMATION: This administrative action is governed by 
the provisions of sections 556 and 557 of title 5 of the United States 
Code and, therefore, is excluded from the requirements of Executive 
Order 12866.
    These proposed amendments have been reviewed under Executive Order 
12988, Civil Justice Reform. The amendments are not intended to have a 
retroactive effect. If adopted, the proposed amendments will not 
preempt any state or local laws, regulations, or policies, unless they 
present an irreconcilable conflict with this rule.
    The Agricultural Marketing Agreement Act of 1937, as amended (7 
U.S.C. 601-674), provides that administrative proceedings must be 
exhausted before parties may file suit in court. Under section 
608c(15)(A) of the Act, any handler subject to an order may request 
modification or exemption from such order by filing with the Secretary 
a petition stating that the order, any provision of the order, or any 
obligation imposed in connection with the order is not in accordance 
with the law. A handler is afforded the opportunity for a hearing on 
the petition. After a hearing, the Secretary would rule on the 
petition. The Act provides that the district court of the United States 
in any district in which the handler is an inhabitant, or has its 
principal place of business, has jurisdiction in equity to review the 
Secretary's ruling on the petition, provided a bill in equity is filed 
not later than 20 days after the date of the entry of the ruling.

Regulatory Flexibility Analysis

    This decision responds to a Congressional mandate to reconsider the 
Class III and Class IV pricing formulas included in the final rule for 
the consolidation and reform of Federal milk orders. The mandate was 
included in the Consolidated Appropriations Act, 2000 (Pub. L. 106-113, 
115 Stat. 1501).
    In accordance with the Regulatory Flexibility Act (RFA) (5 U.S.C. 
601 et seq.), the Agricultural Marketing Service (AMS) has considered 
the economic impact of this action on small entities and has prepared 
this regulatory flexibility analysis. When preparing such analysis an 
agency shall address: the reasons, objectives, and legal basis for the 
anticipated proposed rule; the kind and number of small entities which 
would be affected; the projected recordkeeping, reporting, and other 
requirements; and federal rules which may duplicate, overlap, or 
conflict with the proposed rule. Finally, any significant alternatives 
to the proposal should be addressed. This regulatory flexibility 
analysis considers these points and the impact of this proposed 
regulation on small entities. The legal basis for this action is 
discussed in the preceding section.
    The RFA seeks to ensure that, within the statutory authority of a 
program, the regulatory and informational requirements are tailored to 
the size and nature of small businesses. For the purpose of the RFA, a 
dairy farm is considered a ``small business'' if it has an annual gross 
revenue of less than $500,000, and a dairy products manufacturer is a 
``small business'' if it has fewer than 500 employees. For the purposes 
of determining which dairy farms are ``small businesses,'' the $500,000 
per year criterion was used to establish a production guideline of 
326,000 pounds per month. Although this guideline does not factor in 
additional monies that may be received by dairy producers, it should be 
an inclusive standard for most ``small'' dairy farmers. For purposes of 
determining a handler's size, if the plant is part of a larger company 
operating multiple plants that collectively exceed the 500-employee 
limit, the plant will be considered a large business even if

[[Page 54065]]

the local plant has fewer than 500 employees.
    USDA has identified as small businesses approximately 66,327 of the 
71,716 dairy producers (farmers) that have their milk pooled under a 
Federal order. Thus, small businesses constitute approximately 92.5 
percent of the dairy farmers in the United States. On the processing 
side, there are approximately 1,200 plants associated with Federal 
orders, and of these plants, approximately 720 qualify as ``small 
businesses,'' constituting about 60 percent of the total.
    During January 2000, there were approximately 240 fully regulated 
handlers (of which 186 were small businesses), 43 partially regulated 
handlers (of which 28 were small businesses), and 71 producer-handlers 
of which all were considered small businesses for the purpose of this 
regulatory flexibility analysis, submitting reports under the Federal 
milk marketing order program. This volume of milk pooled under Federal 
orders represents 72 percent of all milk marketed in the U.S. and 74 
percent of the milk of bottling quality (Grade A) sold in the country. 
Forty-four distributing plants were exempt from Federal order 
regulation on the basis of their small volume of distribution.
    Producer deliveries of milk used in Class I products (mainly fluid 
milk products) totaled 3.965 billion pounds in January 2000--38.8 
percent of total Federal order producer deliveries. More than 200 
million Americans reside in Federal order marketing areas--
approximately 77 percent of the total U.S. population.
    In order to accomplish the goal of imposing no additional 
regulatory burdens on the industry, a review of the current reporting 
requirements was completed pursuant to the Paperwork Reduction Act of 
1995 (44 U.S.C. Chapter 35). In light of this review, it was determined 
that these proposed amendments would have little or no impact on 
reporting, recordkeeping, or other compliance requirements because 
these would remain identical to the current Federal order program. No 
new forms have been proposed, and no additional reporting would be 
necessary.
    This notice does not require additional information collection that 
requires clearance by the OMB beyond the currently approved information 
collection. The primary sources of data used to complete the forms are 
routinely used in most business transactions. Forms require only a 
minimal amount of information which can be supplied without data 
processing equipment or a trained statistical staff. Thus, the 
information collection and reporting burden is relatively small. 
Requiring the same reports for all handlers does not significantly 
disadvantage any handler that is smaller than the industry average.
    No other burdens are expected to fall upon the dairy industry as a 
result of overlapping Federal rules. This proposed rulemaking does not 
duplicate, overlap or conflict with any existing Federal rules.
    To ensure that small businesses are not unduly or 
disproportionately burdened based on these proposed amendments, 
consideration was given to mitigating negative impacts.
    A comment filed by the managing partner of a large dairy farm 
argued that dairy producers selling less than 326,000 pounds of milk 
per month may comprise the majority of dairy farms, but not the 
majority of milk sold. The comment further stated that it is not 
appropriate to identify one sector and imply that they are most in need 
of protection and preservation.
    The production guideline of 326,000 pounds per month in identifying 
small dairy farms is an attempt to relate a measure of size for which 
data is available (pounds of production per farm) with the criteria 
specified by the Small Business Administration (revenue from sales), 
for which data is not readily available to USDA on an individual farm 
basis. The Regulatory Flexibility Analysis does not represent an 
attempt to create special privileges for farms defined as small, but to 
examine the regulations to assure that they do not create a 
disproportionate burden or competitive disadvantage for such farms.
    One of the principal issues considered at the hearing was the 
source of price data that should be used to generate prices for milk 
components and, thereby, prices to be paid to producers. The options 
considered were the National Agricultural Statistics Service (NASS) 
surveys of selling prices of manufactured dairy products, Chicago 
Mercantile Exchange (CME) prices, and producer costs of production. The 
decision selects the NASS-reported prices as the most appropriate for 
use in determining product prices because of the considerably larger 
volume of product represented in those price series than in the CME 
price data. Producer cost of production was not included in the 
calculation of prices because assuring dairy farmers that their costs 
of production will be covered addresses only the milk supply side of 
the market and ignores factors underlying demand or changes in demand 
for milk and milk products.
    Various proposals to reduce or increase the levels of the 
manufacturing (make) allowances of butter, nonfat dry milk, cheddar 
cheese and dry whey were considered. This decision adjusts these make 
allowances from the levels adopted under Federal order reform on the 
basis of data and testimony contained in the hearing record. Most of 
the adjustments are minimal. Primarily, manufacturing cost surveys done 
by USDA's Rural Cooperative Business Service (RBCS) and the California 
Department of Food and Agriculture (CDFA) were used to determine the 
most appropriate levels of make allowance for the products used in 
calculating Federal order class prices.
    The only other actual collection of manufacturing cost data for 
cheddar cheese and dry whey that was cited in the hearing record was a 
survey of cheddar cheese and dry whey manufacturing costs arranged for 
by the National Cheese Institute (NCI). This survey was conducted by 
persons unfamiliar with the dairy industry among cheese processors who 
did not testify about the data that they submitted for the survey, and 
entered into the hearing record by a witness who had no firsthand 
knowledge of the data included. As a result, the NCI survey should be 
relied upon to a lesser degree than the two studies used to determine 
the cheddar cheese make allowance. In the case of the RBCS study, the 
person who gathered the data testified about its collection and what it 
represented. In the case of the CDFA-collected data, a manual detailing 
the method by which the data was collected and presented was made 
available, and several witnesses familiar with the survey testified 
about it.
    In addition, one nonfat dry milk manufacturer testified to costs of 
manufacture that exceeded those of the two studies by a significant 
amount, mostly in the areas of return on investment and marketing 
costs. The data did not include any information about the pounds of 
product manufactured and could not have been weighted with the data 
from the two other studies.
    Several proposals to change the factor reflecting the yield of 
nonfat dry milk from nonfat solids in milk would have increased the 
nonfat solids price and the Class IV skim price, but ignored the need 
to reflect the generally lower price and higher manufacturing cost of 
buttermilk powder that also must be considered in calculating the Class 
IV nonfat solids price. Testimony and data in the record was used to 
determine a

[[Page 54066]]

factor more representative of nonfat dry milk yield and the effect of 
buttermilk powder price and cost. The alternatives to the formula 
adopted either did not include consideration of the price, cost, and 
volume of buttermilk powder relative to those of nonfat dry milk, or 
gave those factors too great an influence.
    Proposals were made to reduce the butter and cheese product prices 
used in calculating the butterfat price and the Class III component 
prices. The record of this proceeding continues to support the use of 
the product prices adopted in the final rule in the Federal milk order 
reform process as representing accurately the values of these products. 
In the case of adjusting the Grade AA butter price to reflect the value 
of Grade A butter, the record fails to reveal any source of information 
for obtaining current prices for Grade A butter. In the case of 
proposals to remove the 3-cent adjustment between the barrel and 40-
pound block cheese prices, there was no testimony about the actual 
difference in cost between the two types of packaging that overcame 
testimony that 3 cents is the actual cost difference, or any data that 
indicates that the customary price difference is not at least 3 cents.
    Proposals to reconsider the class price relationships in the orders 
were considered, although a proposal to use a weighted average of the 
Class III and Class IV prices as a Class I price mover was not noticed 
for hearing in this proceeding. The hearing record supports the 
continued relationships between the Class IV and Class II prices and 
between the higher of the manufacturing class prices and the Class I 
price.
    A proposal that the Class II differential be changed to negate any 
changes in the Class IV price formula that would affect the current 
price relationship between nonfat dry milk and Class II failed to 
consider that the Class II-Class IV price difference adopted in Federal 
order reform is based on the difference in the value of milk used to 
make dry milk and the value of milk used to make Class II products.
    Proposals that any increases resulting from changes to the Class 
III and Class IV price formulas not be allowed to result in increases 
in Class I prices did not address the rationale for the current Class I 
price differentials above the manufacturing price levels for the 
purpose of obtaining an adequate supply of milk for fluid (drinking) 
use.
    The changes to the Class III and Class IV price formulas included 
in this decision should have no special impact on small handler 
entities. All handlers manufacturing dairy products from milk 
classified as Class III or Class IV would remain subject to the same 
minimum prices regardless of the size of their operations. Such 
handlers would also be subject to the same minimum prices to be paid to 
producers. These features of minimum pricing are required by the 
Agricultural Marketing Agreement Act and should not raise barriers to 
the ability of small handlers to compete in the marketplace. It is 
similarly expected that small producers would not experience any 
particular disadvantage to larger producers as a result of any of the 
proposed amendments.
    Interested parties are invited to comment on the probable 
regulatory and informational impact of the amended provisions of this 
decision on small businesses. Also, parties may suggest modifications 
of this decision for the purpose of tailoring the applicability of the 
provisions to small businesses.
    An analysis was done on the effects of the alternatives selected, 
and is summarized below.

Analysis

    In order to assess the impact of changes in Federal order milk 
pricing formulas, the Department conducted an economic analysis. While 
the primary purpose of this decision is to amend the product pricing 
formulas used to price milk regulated under Federal milk marketing 
orders and classified as either Class III or Class IV milk, these 
product price formulas also affect the prices of regulated milk 
classified as Class I and Class II.
    The modifications in this decision are analyzed simultaneously as a 
change from the set of formulas implemented on January 1, 2000. This 
analysis focuses on impacts on milk marketed under all Federal milk 
marketing orders, and treats the Federal order system as a single 
entity for purposes of generating system-wide price and quantity 
changes. Order-specific changes in uniform blend prices and blend 
prices plus premiums are estimated as well. Milk marketed in 
California, milk marketed under other state regulations and unregulated 
milk are treated separately. The hard manufactured dairy product 
markets are national.

Comments Concerning Model Analysis

    In response to the tentative final decision, several commenters 
raised issues regarding model analysis of the effects of changes in 
order provisions. Select Milk Producers, Inc., et al. (Select), 
expressed reservations about analysis of the Federal order system as a 
whole, without including analysis for each order. Select asserted that 
use of the Model as a national evaluation masks the damage of a low 
Class III price in some orders, such as the Western and the Upper 
Midwest where Class III utilization, pooled or not, is high. Select 
also contended that a national model ignores the fact that the impact 
of higher nonfat dry milk prices and corresponding increases in Class I 
and Class II prices may increase national average returns, but do not 
have such an effect in areas where Class III use is dominant. Select 
claimed that national analysis violates the Agricultural Marketing 
Agreement Act of 1937.
    The dairy industry model is a national model that includes three 
separate marketing areas: the aggregated Federal Milk Order system, 
California, and aggregated all other markets. The aggregated Federal 
order system includes a minimum Class I differential that is an average 
over the 11 orders, as well as the Federal order minimum prices for 
Classes II, III, and IV. Changes in the Federal order system prices 
adopted in the tentative final decision were reported in Table 1 of the 
Economic Analysis available for that decision, both for milk at 3.5 
percent butterfat and at average class test. Since Class I 
differentials are held constant in the analysis, any changes in Class I 
minimum prices must be caused by changes in Class III and Class IV 
prices. Blend prices are affected in relation to an order's class 
utilizations and the changes in the class prices.
    Concerns that markets with high Class III utilizations would suffer 
sharp declines in producer income and milk marketings were considered 
and dismissed without further analysis because of the minuscule price 
changes resulting from the formula changes. The analysis of the 
tentative final decision indicates that the Federal order Class III 
price (at test) would have decreased by an average of $0.015 per 
hundredweight over the five-year period. Even if an order had a Class 
III utilization of 100 percent, such a small price change would result 
in no observable change in milk supplied. The estimated changes in all 
the class prices at test under the tentative final decision were so 
small that no single order blend price could have been increased or 
reduced by more than about 2 cents per hundredweight, or less than .2 
percent. A change of this magnitude has to be considered 
``approximately zero'' in an analysis of milk markets. [See Table 1 of 
the Economic Analysis for the Tentative Final Decision on Class III and 
Class IV Price Formulas].
    Select also raised an issue over the use of the model, asserting 
that its use could represent post-hearing testimony that is not subject 
to cross-examination by hearing participants. Select argued

[[Page 54067]]

that changes in the model between any description of it in testimony at 
the hearing and analysis used in the decision would represent evidence 
not legitimately part of the record, and concluded that the Secretary 
should clearly identify any alterations in the model.
    The model used to analyze the tentative final decision was modified 
and substantially improved between the preliminary economic analysis (a 
summary of which was published with the hearing notice in this 
proceeding) and the Economic Analysis for the Tentative Final Decision 
on Class III and Class IV Price Formulas. The original model accounted 
for milk on a butterfat basis. The improved model accounts for both 
nonfat solids and fat solids in milk and allocates the solids among the 
various milk and dairy products. The improved model's performance is 
much better, particularly with respect to simulating the effects of 
program changes on the manufactured dairy product markets which 
generate the prices used to drive the Federal milk order pricing 
system. Further improvements have been completed recently, including 
re-estimating the supply and demand relationships using data from 1980 
forward. Previous estimates used data from 1970 forward. The economic 
analysis of this recommended decision uses the model as modified, with 
new supply and demand relationships documented in the complete Economic 
Analysis for the Recommended Decision on Class III and Class IV Price 
Formulas.
    More to the point, however, is that Federal milk order decisions do 
not depend upon the model results. Proposals must have their own 
economic substantiation. Testimony and evidence relative to the issues 
considered in the proceeding must be submitted to support the need for 
changes in order provisions. Thus, the model is not the evidentiary 
record for the proposals in this decision. The function of the model is 
to evaluate the impacts of the proposed changes on the dairy industry 
generally, and particularly to assess if an adequate supply of milk 
will be forthcoming to meet the Class I needs of the order marketing 
areas. The preliminary economic analysis, published with the hearing 
notice, was performed with the intention of providing analysis that the 
industry might find useful. In the period between the hearing and the 
tentative final decision, the model was improved and an economic 
analysis was performed on the tentative decision and made public. The 
model-estimated results of implementing the tentative final decision 
changes were deemed to have no discernable effect on the quantity of 
milk supplied. Thus, it was concluded that Class I needs would continue 
to be met in all orders.
    In comments filed in response to the tentative final decision, 
National Farmers Union (NFU) questioned the baseline assumption that 
the price support program would end on December 31, 2000. Subsequently, 
the support program was extended for another year, and NFU questioned 
whether the results of the analysis would have been different if the 
analysis had incorporated an extension of the support program.
    The official USDA baseline considers policies and programs as given 
at the time of its development. The baseline provides AMS and other 
agencies with an official interagency forecast against which to conduct 
policy analysis. To have assumed continuation of the support price 
program would have required that a number of other assumptions be made, 
including the relationship of butter and nonfat dry milk support 
prices. Dairy Programs does not create its own baseline because it 
might direct debate toward the correctness of the baseline and away 
from the issues under consideration. With respect to the effect on the 
results, it is not thought that including an additional year of dairy 
price support would have much effect.

Scope of Analysis

    Impacts are measured as changes from the model baseline as adapted 
from the USDA dairy baseline published in February 2001. This baseline 
used the Class III and IV pricing formulas implemented on January 1, 
2000, as a result of Federal order reform. The USDA baseline is a 
national, annual projection of the supply-demand-price situation for 
milk and dairy products. Baseline assumptions are: (1) The price 
support program would end on December 31, 2001; (2) the Dairy Export 
Incentive Program would continue to be utilized; and (3) the Federal 
Milk Marketing Order Program would continue as reformed on January 1, 
2000.
    It was necessary to make the following simplifying assumptions in 
order to conduct the analysis. The Federal order share of U.S. milk 
marketings is about 71 percent. About 65 percent of all milk 
manufactured (Classes II, III, and IV) is marketed under Federal order 
regulation. Given the prominence of Federal order marketings in the 
U.S. milk manufacturing industry, prices paid for manufactured milk 
under Federal orders cannot get too far out of alignment with the value 
of milk for manufacturing in the rest of the United States. Similarly, 
the fluid prices in non-Federal order markets are largely reflective of 
Federal order minimum Class I prices.
    California stands out as the state with the highest production and 
has its own market regulations. California milk marketings are 
estimated as a function of the California pool price. Non-California 
milk marketings are estimated as a function of an all-milk price that 
incorporates the Federal order pool price and over-order payment 
estimates. The Federal order share of those non-California marketings 
is estimated as a function of the Federal order blend price relative to 
the minimum prices of Class III and IV value of manufactured milk.
    The decision's formula changes have an impact on Class I and Class 
II prices. Class II prices move in concert with changes in Class IV. 
The effects on Class I prices depend upon the effect of the formula 
changes on the Class III price relative to the Class IV price. Class I 
prices are based on the higher of the Class III or Class IV prices.
    Demands for fluid milk and manufactured dairy products are 
functions of per capita consumption and population. Per capita 
consumption for the major milk and dairy products are estimated as 
functions of own prices, substitute prices, and income. Retail and 
wholesale margins are assumed unchanged from the baseline. The demands 
for fluid milk and soft manufactured products are satisfied by the 
eligible supply of milk. The milk supply for manufacturing hard 
products is the result of milk marketings minus the volumes demanded 
for fluid and soft manufactured products. The remaining volume is 
allocated to making cheese and making butter/nonfat dry milk according 
to returns to manufacturing in each class. Wholesale prices for cheese, 
butter, nonfat dry milk, and dry whey reflect supply and demand for 
these products. These prices underlie the Federal pricing system.

Summary of Results

    The results of the changes to the Class III and Class IV formulas 
adopted under Federal order reform that are recommended in this 
decision are summarized using five-year, 2002-2006, average changes 
from the model baseline. The results presented for the Federal order 
system are in the context of the larger U.S. market. In particular, the 
Federal order price formulas use national manufactured dairy product 
prices.

[[Page 54068]]

    The advanced Class I base price is the higher of the Class III or 
Class IV advance pricing factors. The Class I base price is the Class 
IV price in all years of the analytical period for the baseline, while 
Class III becomes the Class I base price in 2002 and 2006 under this 
decision. The Class I price, at the class average test of 2 percent 
butterfat, is slightly above the baseline in each year. This slight 
price increase results in small proportional reductions in the demand 
for skim milk and butterfat for Class I use. Milk generally shifts from 
Class I use to the production of butter, nonfat dry milk, and cheese in 
generally the same proportions as in the baseline. As a result, the 
wholesale prices of butter, nonfat dry milk and cheese each decrease 
slightly, which reduces the returns per hundredweight for U.S. milk for 
manufacturing.
    Producers. Over the five-year period, the changes taken as a whole 
result in an increase of about $0.20 per hundredweight in the Federal 
order minimum blend price for milk at test. Including the effects of 
Class I premiums and the reduced returns from manufactured milk, the 
Federal order all-milk price is increased by $0.10 per hundredweight. 
Federal order marketings increase by an average 83 million pounds due 
to an increase in production in response to higher producer prices. 
Cash receipts increase by $136 million (0.8 percent) from baseline 
receipts of $17,194 million.
    The distribution of the 2002-2006 annual average price changes 
across the 11 orders varies with the distribution of Class III and 
Class IV utilizations. Estimates of annual average price changes by 
order are provided in the economic analysis for this decision.
    The five-year annual average U.S. all-milk price increases by $0.07 
per hundredweight, and includes an average manufactured milk value 
decline of $0.05 per hundredweight. U.S. milk marketings increase by an 
average 65 million pounds annually, and cash receipts increase by $126 
million (0.5 percent) from baseline receipts of $23,884 million.
    Milk Manufacturers and Processors. Annual Class IV and Class II 
skim milk prices increase each year for an average of $0.08 per 
hundredweight (1.1 percent) for the 2002-2006 period. This increase 
results mainly from changing the conversion factor for nonfat dry milk 
to nonfat solids from 1.02 to 1.0. The Class I skim milk price 
increases by an average of $0.10 per hundredweight. Butterfat prices 
decline each year by an average of 1.05 cents per pound.
    The Class IV price at test (about 6.82 percent butterfat) declines 
by an average of -$0.07 per hundredweight, mainly as the result of a 
slight reduction in the butterfat content of Class IV over 2002-2006. 
The Class II price at test is unchanged. The Class I price at test 
(about 2 percent butterfat) increases on average $0.07 per 
hundredweight (0.57 percent).
    The annual average Class III price at test (3.82 percent butterfat) 
increases by about $0.38 per hundredweight during 2002-2006. From the 
2002 and 2003 Class III price increase of $0.47 and $0.48 per 
hundredweight, respectively, the changes steadily decline, ending in an 
increase of $0.23 in 2006. The major change in the Class III price is 
the average protein price increase of $0.18 per pound, ranging from an 
increase of $0.22 in 2002 and 2003 and declining steadily to an 
increase of about $0.13 in 2006. The change in the Class III price 
results primarily from a combination of changes in the protein formula 
that reduces the impact of the butterfat price on the protein price. 
The major changes in the protein price formula are multiplying the 
butterfat price by 0.90, reflecting a 90 percent butterfat retention 
rate in the cheese, and replacing the 1.28 factor with 1.17.
    Consumers. The expected $0.07 per hundredweight increase in the 
minimum Class I price for 2002-2006 results in an average $0.006 
increase in the price per gallon of fluid milk for consumers. Annual 
consumer costs for fluid milk over 2002-2006 are estimated to increase 
on average by about $28 million in the Federal order system and by $26 
million in the U.S.
    The price of butter is estimated to decrease on average $0.008 per 
pound for the period. Cheese is estimated to decrease $0.005 per pound. 
Annual consumer expenditures over the five-year period are estimated to 
decrease by $10 million on butter, and by $16 million on American 
cheese.
    A complete Economic Analysis for the Recommended Decision on Class 
III and Class IV Price Formulas is available upon request from Howard 
McDowell, Senior Economist, USDA/AMS/Dairy Programs, Office of the 
Chief Economist, Room 2753, South Building, U.S. Department of 
Agriculture, Washington, DC 20250, (202)720-7091, e-mail address 
[email protected].

Civil Rights Impact Statement

    This decision is based on the record of a public hearing held May 
8-12, 2000, in Alexandria, Virginia, in response to a mandate from 
Congress via the Consolidated Appropriations Act, 2000, that required 
the Secretary of Agriculture to conduct a formal rulemaking proceeding 
to reconsider the Class III and Class IV milk pricing formulas included 
in the final rule for the consolidation and reform of Federal milk 
orders. The consolidated orders were implemented on January 1, 2000. A 
tentative final decision on the issues considered at the hearing was 
issued November 29, 2000 (65 FR 76832), and an interim final order (65 
FR 82832) became effective January 1, 2001. A preliminary injunction 
enjoining portions of the interim final order was granted in the U.S. 
District Court for the District of Columbia on January 31, 2001.
    Pursuant to Departmental Regulation (DR) 4300-4, a comprehensive 
Civil Rights Impact Analysis (CRIA) was conducted and published with 
the final decision on Federal milk order consolidation and reform. That 
CRIA included descriptions of (1) the purpose of performing a CRIA; (2) 
the civil rights policy of the U.S. Department of Agriculture; and (3) 
basics of the Federal milk marketing order program to provide 
background information. Also included in that CRIA was a detailed 
presentation of the characteristics of the dairy producer and general 
populations located within the former and current marketing areas.
    The conclusion of that analysis disclosed no potential for 
affecting dairy farmers in protected groups differently than the 
general population of dairy farmers. All producers, regardless of race, 
national origin, or disability, who choose to deliver milk to handlers 
regulated under a Federal order will receive the minimum blend price. 
Federal orders provide the same assurance for all producers, without 
regard to sex, race, origin, or disability. The value of all milk 
delivered to handlers competing for sales within a defined marketing 
area is divided equally among all producers delivering milk to those 
handlers.
    The issues addressed at the May 2000 hearing are issues that were 
addressed as part of Federal milk order consolidation and reform. 
Establishing representative make allowances in the formulas that price 
milk used in Class III and Class IV dairy products is an issue that 
affects the obligations of handlers of those products to the Federal 
milk order pool, and similarly the pool obligations of Class I and 
Class II handlers. The decision should result in no differential 
benefits in dividing the pool among all producers delivering milk to 
those regulated handlers. Therefore, USDA sees no potential for 
affecting dairy farmers in protected groups differently than the 
general population of dairy farmers.

[[Page 54069]]

    Decisions on proposals to amend Federal milk marketing orders must 
be based on testimony and evidence presented on the record of the 
proceeding. The hearing notice in this proceeding invited interested 
persons to address any possible civil rights impact of the proposals 
being considered in testimony at the hearing. No such testimony was 
received.
    Copies of the Civil Rights Impact Analysis done for the final 
decision on Federal milk order consolidation and reform can be obtained 
from AMS Dairy Programs at (202) 720-4392; any Milk Market 
Administrator office; or via the Internet at: www.ams.usda.gov/dairy/
    Prior documents in this proceeding:
    Notice of Hearing: Issued April 6, 2000; published April 14, 2000 
(65 FR 20094).
    Tentative Final Decision: Issued November 29, 2000; published 
December 7, 2000 (65 FR 76832).
    Interim Final Rule: Issued December 21, 2000; published December 
28, 2000 (65 FR 82832).

Preliminary Statement

    Notice is hereby given of the filing with the Hearing Clerk of this 
recommended decision with respect to proposed amendments to the 
tentative marketing agreements and orders regulating the handling of 
milk in the Northeast and other marketing areas. This notice is issued 
pursuant to the provisions of the Agricultural Marketing Agreement Act 
of 1937, as amended (7 U.S.C. 601 et seq.), and the applicable rules of 
practice and procedure governing the formulation of marketing 
agreements and marketing orders (7 CFR part 900).
    Interested parties may file written exceptions to this tentative 
decision with the Hearing Clerk, United States Department of 
Agriculture, Washington, DC 20250, by the 30th day after publication of 
this decision in the Federal Register. Six copies of the exceptions 
should be filed. All written submissions made pursuant to this notice 
will be made available for public inspection at the office of the 
Hearing Clerk during regular business hours (7 CFR 1.27(b)).
    The Hearing Notice specifically invited interested persons to 
present evidence concerning the probable regulatory and informational 
impact of the proposals on small businesses. To the extent that this 
issue was raised, it is considered in the following findings and 
conclusions.
    This recommended decision responds to a Congressional mandate to 
reconsider the Class III and Class IV pricing formulas included in the 
final rule for the consolidation and reform of Federal milk orders. The 
mandate was included in the Consolidated Appropriations Act, 2000 (Pub. 
L. 106-113, 115 Stat. 1501). The findings and conclusions set forth 
below are based on the record of a public hearing to consider proposals 
submitted by the industry to change the pricing formulas in the 
marketing agreements and the orders regulating the handling of milk in 
the Northeast and ten other marketing areas held in Alexandria, 
Virginia, on May 8-12, 2000. Notice of such hearing was issued on April 
6, 2000 and published on April 14, 2000 (65 FR 20094).
    In addition, this recommended decision is issued in response to 
comments received on the tentative final decision (issued November 29, 
2000; 65 FR 76832) on the above hearing and is consistent with the 
injunction issued by the U.S. District Court for the District of 
Columbia on January 31, 2001.

Brief Summary of Changes to Class III and IV Formulas

    As instructed by the legislation requiring this proceeding, the 
Class III and IV pricing formulas and all of the elements of the 
formulas were re-considered in developing the tentative final decision 
and this recommended decision. The changes made in the Class IV 
component formulas adopted in Federal order reform are minimal. The 
product prices used in the Class IV formulas (butterfat and nonfat 
solids) are unchanged. The make allowances for butter and nonfat dry 
milk are increased slightly, by .1 cents for butter and .3 cents for 
nonfat dry milk. The divisor used in the butterfat component formula is 
unchanged, while the 1.02 divisor used in the nonfat solids price 
formula to reflect the relative values and yields of buttermilk powder 
and nonfat dry milk is eliminated.
    The Class III component price formulas follow the format of the 
formulas included in Federal order reform and made effective pursuant 
to the injunction granted by the Federal District Court for the 
District of Columbia. The formulas revert to using the same butterfat 
price calculated from the butter price as in Class IV, and a protein 
price formula that includes an adjustment to represent the differential 
value of butterfat used in cheese and butterfat used in butter. In the 
butterfat adjustment to the protein price, the amount of butterfat 
accounted for at its value in butter is reduced to the same amount as 
that accounted for at its value in cheese (90 percent), and the 1.28 
multiplier is changed to 1.17. The dry whey price, for computing the 
other solids price, is unchanged. The whey powder make allowance is 
increased from the tentative final decision to recognize the somewhat 
greater cost of drying whey than of drying skim milk, and the snubber 
on the other solids price is removed.
    The material issues on the record of the hearing relate to:

1. Role of producer costs of production.
2. Commodity prices (CME vs. NASS).
3. Commodity and component price issues.
    a. General approaches on make allowances.
    b. Class IV butterfat and nonfat solids prices.
    c. Class III butterfat, protein, and other nonfat solids prices.
    d. Effects of changes to Class III and Class IV price formulas.
4. Class price relationships.
5. Class I price mover.
6. Miscellaneous and conforming changes.
    a. Advance Class I butterfat price.
    b. Classification.
    c. Distribution of butterfat value to producers.
    d. Inclusion of Class I other source butterfat in producer 
butterfat price computation.
7. Re-opening of hearing, issuance of a final decision, or issuance of 
a recommended decision.

Summary of Changes to the Interim Amendments

    This recommended decision differs from the tentative final decision 
in several respects and includes summaries of comments submitted on 
each of the issues within the discussion of the issue. The key changes 
that would be made to the interim order amendments are as follows:
    1. In Issue 3c, changes are made to the formulas for calculating 
the protein and other solids prices, and the Class III butterfat price 
would be the same as that calculated for Class IV on the basis of 
butter.
    2. In Issue 3d, the changes made in the Class III component price 
formulas would result in different effects on Class III component, 
skim, and hundredweight prices.
    3. In Issue 6b, the classification of frozen cream, plastic cream 
and anhydrous milkfat would be changed back to Class III.
    4. In Issue 6c, butterfat values would be pooled for the purpose of 
calculating producer butterfat prices in the orders in which producers 
are not paid on a component basis. In orders under which producers are 
paid on a multiple component basis, however, the producer

[[Page 54070]]

butterfat price would be the same as that for butterfat used in Classes 
III and IV.
    5. In Issue 6d, the butterfat in other source milk used in Class I 
is included in calculating the producer butterfat price in marketwide 
pools that do not use multiple component pricing, but would continue to 
be included in the producer price differential calculation in multiple 
component pricing pools.
    6. Issue 7 is changed to explain the reasons for issuing a 
recommended decision at this point in this proceeding, instead of a 
final decision.

Findings and Conclusions

    The following findings and conclusions on the material issues are 
based on evidence presented at the hearing and the record thereof:

1. Role of Producer Costs of Production

    Proposal 29 in the hearing notice proposed that producers' costs of 
production be incorporated into the Class III and Class IV pricing 
formulas. A number of dairy farmer witnesses testified that, just as 
manufacturing processors are assured that their costs of processing 
milk products will be covered, dairy farmers should also have some 
assurance that they will be able to continue to operate their dairy 
farms without losing money. Under the current system, according to the 
National Farmers Union (NFU) witness, incorporating a make allowance 
for processors but not for producers leaves dairy farmers to bear the 
entire burden of changes in supply and demand.
    Support for using cost of production in the Class III and IV 
pricing formulas was reiterated in the comments received in response to 
the tentative final decision issued November 29, 2000. The National 
Farmers' Union comment expressed disappointment that no portion of the 
milk pricing formulas was based on producer cost of production. The 
American Raw Milk Producers Pricing Association suggested that the USDA 
ignored existing law as written in the 1937 Agricultural Agreement Act, 
section 608c(18). Two dairy farmers also mentioned their concern about 
the need to follow 608c(18). Another dairy farmer advocated a producer-
influenced supply control/price control system.
    As explained in both the proposed rule and final decision under 
Federal order reform and in the tentative final decision in this 
proceeding, assuring producers that their costs of production will be 
covered addresses only the milk supply side of the market and ignores 
factors underlying demand or changes in demand for milk and milk 
products. As noted by the Dairy Farmers of America (DFA) witness, 
although pricing proposals incorporating cost of production have been 
noticed and reviewed several times in the last decade without success, 
if a sound mechanical concept could be advanced that overcomes the 
objections relative to supply and demand, it should be considered.
    The proposals by NFU and National Farmers Organization (NFO) that 
advocated adoption of make allowances that would be adjusted for 
changes in indexes reflecting dairy farmers' production costs are 
discussed under Issue 3a, General Approaches on Make Allowances.
    In this recommended decision, consideration has again been given to 
cost of production proposals. As noted by the NFO witness, the current 
pricing system uses the interaction of supply and demand for milk 
products as an indirect method of meeting the pricing requirements of 
the Agricultural Marketing Agreement Act of 1937 (the Act) for milk. 
The record of this proceeding contains no new dairy farmer cost of 
production data that could be used to reflect both the supply and 
demand sides of the market for dairy products. There is no evidence in 
the record that either USDA's Economic Research Service or the CDFA 
costs of production have ever been used to price milk.
    The Act stipulates that the price of feeds, the availability of 
feeds, and other economic conditions which affect market supply and 
demand for milk and its products be taken into account in the 
determination of milk prices. This requirement currently is fulfilled 
by the Class III and Class IV component price calculations. If 
conditions increase supply costs, the quantity of milk produced would 
be reduced due to lower profit margins. As the milk supply declines, 
plants buying manufacturing milk would pay a higher price to maintain 
an adequate supply of milk to meet their needs. As the resulting farm 
profit margins increase, so should the supply of milk. Likewise, the 
reverse would occur if economic conditions reduce supply costs. The 
price of feed is not directly included in the determination of the 
price for milk, but rather is one economic condition which may cause a 
situation in which the price of milk may increase or decrease. A change 
in feed prices may not necessarily result in a change in milk prices. 
For instance, if the price of feed increases but the demand for cheese 
declines, the milk price may not increase since milk plants would need 
less milk and therefore would not bid the price up in response to lower 
milk supplies. Also, other economic conditions could more than offset a 
change in feed prices and, thus, not necessitate a change in milk 
prices.
    The pricing system continued in this decision will continue to 
account for changes in feed costs, feed supplies and other economic 
conditions, as explained above. The product price formulas adopted in 
this rule should reflect accurately the market values of the products 
made from producer milk used in manufacturing. As supply costs increase 
with a resulting decline in production, commodity prices would increase 
as a result of manufacturers attempting to secure enough milk to meet 
their needs. Such increases in commodity prices would mean higher 
prices for milk. The opposite would be true if supply costs were 
declining. Additionally, since Federal order prices are minimum prices, 
handlers may increase their pay prices in response to changing supply/
demand conditions even when Federal order prices do not increase.
    Additionally, the pricing formulas developed in this decision are 
applicable to handlers, since handlers are the regulated parties under 
Federal milk order regulation. The formulas are used to establish 
minimum prices for milk used in making particular dairy products, not 
for determining payments to dairy farmers.

2. Commodity Prices (CME vs. NASS)

    As adopted in the interim final rule in this proceeding (published 
on December 28, 2000 (65 FR 82832)), commodity prices determined by 
surveys conducted by USDA's National Agricultural Statistics Service 
(NASS) continue to be used in the component price formulas that 
replaced the BFP. This decision recommends no changes in the source of 
product price data.
    Several proposals (1, 5, 10 and 19) were considered during the 
current proceeding that recommended using prices reported by the 
Chicago Mercantile Exchange (CME) instead of the NASS surveys to 
determine commodity prices. Both the CME and the NASS surveys were 
supported by testimony at the hearing and in briefs. The CME is a cash 
market where speculators, producers, and processors can buy and sell 
products. It is a mechanism for establishing prices on which the dairy 
industry relies. Thus, a lot of contracts to buy and sell dairy 
products are based on CME prices. A USDA witness testified that he is 
unaware of any other indices used to price cheese in the U.S. According 
to several witnesses, cheese and butter processors generally base their 
contract sales on CME prices.

[[Page 54071]]

    The NASS price survey gathers selling prices of cheddar cheese, 
Grade AA butter, nonfat dry milk, and dry whey from a number of 
manufacturers of these products nationwide. At the time the proposed 
rule on Federal order reform was published (January 30, 1998), the NASS 
survey included prices for cheddar cheese only. This survey had begun 
in March 1997. In September 1998, before the final decision was 
published in April 1999, NASS began surveys of Grade AA butter prices, 
dry whey prices, and nonfat dry milk prices. In developing these 
commodity surveys, input was obtained from the dairy industry on 
appropriate types of products, packaging, and package sizes to be 
included for the purpose of obtaining unbiased representative prices. A 
sale is considered to occur when a transaction is completed, the 
product is shipped out, or title transfer occurs. In addition, all 
prices are f.o.b. the processing plant/storage center, with the 
processor reporting total volume sold and total dollars received or 
price per pound. NASS Dairy Products Prices reports wholesale cheddar 
cheese prices for both 500-pound barrels and 40-pound blocks, USDA 
Grade AA butter, USDA Extra Grade or USPH Grade A non-fortified dry 
milk, and USDA Extra Grade edible non-hygroscopic dry whey. A more-
detailed description of the surveys can be found in the final decision 
of April 2, 1999 (64 FR 16093).
    The proponents of proposal 1, Western States Dairy Producers Trade 
Association, et al. (WSDPTA), a group of several trade associations and 
cooperatives, proposed that the NASS commodity prices for butter, 
cheese, and nonfat dry milk that currently are used for computing the 
Federal order component prices be replaced with prices determined by 
trading on the CME. Dry whey was not included in the proposal because 
there is no dry whey cash contract traded on the CME. A witness from 
WSDPTA did not oppose the collection and reporting of NASS data, but 
expressed the opinion that while it serves an important function as 
information, it should not be used to establish prices. The proponents 
presented several benefits of using the CME over the NASS survey for 
commodity prices.
    Proponents explained that by using CME prices in the formulas, 
prices would be known immediately rather than a week later when the 
NASS prices are published, reflecting more quickly the supply-demand 
conditions for dairy products. The one-week delay is caused by the time 
necessary to collect data. A witness for National Farmers Organization 
noted that interested persons are able to check the CME value of 
products on a daily basis and use the reported prices as a factor in 
establishing what they will pay, or what they will be paid, for cheese.
    A witness from WSDPTA went on to explain that buyers, sellers, and 
speculators trade the CME, trying to obtain a price in their favor, 
while the price actually is determined by supply and demand forces. He 
described the rules as fair and the results as transparent, with 
participants having a number of interests. The witness continued by 
noting that the CME price result is instant and results cannot be 
altered. In contrast, he stated, NASS prices are reported by sellers 
only, who are not disinterested parties. He argued that NASS 
respondents can modify their numbers or file an initial report after 
calculating the price impact of the latest reports.
    The proponents also concluded that the urging by many hearing 
participants that the NASS price series include mandatory participation 
and be audited proves that the NASS series is not reliable enough to be 
used as a price-discovery method.
    Finally, the witness from WSDPTA expressed the view that the NASS 
price series would feed on itself and result in price setting, not 
price discovery. He continued by noting that plants and their buyers 
will obtain prices one week and sell the commodity in the following 
week at a price derived in large part from the price obtained in the 
prior week. The witness compared the NASS survey to the CDFA survey of 
powder prices which, he claimed, results in a circular pricing system 
that is mathematically incapable of fully reflecting the top of the 
market price for powder because so little of the survey volume is 
priced off of the spot market. Proponents expressed the belief that 
this circularity causes prices to remain lower than they would without 
it and that prices would increase more slowly and decrease more rapidly 
than would prices on the CME, causing overall lower prices for dairy 
farmers.
    In the comments filed on the tentative final decision, the 
proponents of changing from NASS to CME prices commented only that USDA 
should reconsider the use of NASS prices. A partner/manager of a dairy 
farm stated that there is little correlation between the NASS and 
wholesale prices, and questioned the accuracy of NASS survey numbers. 
He also stated that block and barrel cheese is traded only between 
manufacturers and that they therefore have an influence on setting the 
price, especially if the percentage of the product traded is very low. 
He argued that a fair price would reflect retail prices or at least 
true wholesale price, not the value of the last pound of product 
produced.
    Opponents of changing from NASS to CME prices to compute component 
prices included International Dairy Foods Association (IDFA), Dairy 
Farmers of America (DFA), and National Milk Producers Federation 
(NMPF). Witnesses for these parties argued that the NASS survey 
includes pricing based on a significantly larger volume of product than 
does the CME. In the case of the nonfat dry milk market, the table of 
1999 monthly Chicago Mercantile Exchange Cash Markets data from the 
1999 Annual Dairy Market Statistics showed that there were no sales 
reported for either extra grade or Grade A in the year 1999.
    According to a witness from IDFA, the volume of cheddar cheese in 
the NASS survey is equal to 26.4 percent of all cheddar cheese 
production in the U.S. for the period September 1998 through February 
2000. During the same period, the CME volume of cheddar cheese traded 
represented only 1.7 percent of U.S. cheddar cheese production. The 
witness stated that for the same 18-month period, the NASS survey 
volumes represented 14.4 percent of all U.S. butter production while 
CME trading consisted of only 2.6 percent. He also noted that switching 
from the NASS survey data to the CME data would result in a change from 
a very broad to an extremely thin representation of actual product 
transactions.
    Opponents to the proposal to use CME prices also pointed out that 
prices at the CME are Chicago or Midwest prices based on the delivery 
location specification of the contract. Therefore, they argued, the 
scope of the reported prices for cheese, butter, and nonfat dry milk 
are not national. A witness for Kraft noted that reliance on the CME 
alone would exclude the substantial and growing volume of cheese 
produced in the western United States (U.S.), particularly California. 
A witness for Northwest Dairy Association suggested that a 
transportation credit would need to be used with CME prices, at least 
in the West, to reduce the value of the CME to a more representative 
level. Opponents went on to explain that since the NASS survey contains 
data from plants located all over the United States, NASS prices 
represent a national scope of the prices of each of the particular 
commodities.
    Several of the comments filed in response to the tentative final 
decision supported use of the NASS price series to determine product 
prices.

[[Page 54072]]

    According to the testimony in the record and a number of the 
briefs, cheese and butter sellers and buyers look to the CME to 
identify the most current price levels. As a result, prices move in 
response to supply and demand conditions in the marketplace as 
reflected at the CME. Since the transaction prices of commodities are 
based off of the CME, it is difficult to see how the NASS survey can 
cause, or result in, circularity. The NASS prices reflect the CME 
prices with a short lag but are based on a much greater volume, 
enhancing the stability of the price series. Continued use of the NASS 
price survey appears to be the best method of obtaining reliable data 
about commodity prices.
    As stated in the final decision on Federal order reform, NASS data 
traditionally have been collected via a survey with voluntary 
participation. The price information, like most NASS data, has not been 
audited. NASS, however, applies various statistical techniques and 
cross-checking with other sources to provide the most reliable 
information available. The issue of mandatory and audited NASS data was 
not within the scope of the rulemaking and could not be addressed on 
the basis of the hearing record. At the time of the hearing NASS was 
not authorized to conduct such activities, but legislation has since 
been passed that authorizes mandatory and verified price reporting.

3. Commodity and Component Price Issues

a. General Approaches on Make Allowances
    Changes to the make allowances for each of the product formulas 
used in calculating component prices were proposed and discussed at 
length during this proceeding. Except in the case of dry whey, make 
allowances adopted in the component price formulas in this decision are 
calculated using a weighted average of the most recent CDFA study and 
the RBCS study. A marketing cost of $.0015 per pound is added to both 
the CDFA costs and the RBCS costs, and the CDFA value for return on 
investment is used to adjust the RBCS cost. This is generally the same 
approach used to determine the appropriate make allowances under 
Federal order reform, and results in values that differ little from the 
formulas adopted at that time.
    For the calculation of the Class III ``other nonfat solids'' price, 
neither the CDFA nor RBCS studies included information on the cost of 
making dry whey. The tentative final decision determined that the make 
allowance for dry whey should remain the same as that for nonfat dry 
milk. However, the results of a survey done for this proceeding under 
the auspices of IDFA are being recommended in this decision for use in 
determining the make allowance for dry whey.
    A number of the proposals considered in this proceeding would 
change the manufacturing, or make, allowances adopted for the pricing 
formulas under Federal order reform. There was considerable testimony 
on the appropriate factors to be considered in establishing make 
allowances, and several sources of data were cited as the most accurate 
to use for such a purpose.
    Two surveys of product manufacturing costs that were averaged for 
use in calculating make allowances under Federal order reform were the 
California Department of Food and Agriculture (CDFA) study, which is 
done annually and includes nearly 100 percent of dairy products 
manufactured in California, and the Rural Business Cooperative Service 
(RBCS) study, which is conducted annually by USDA as an in-plant 
benchmark study for participating cooperative associations. These two 
surveys had both been updated since earlier versions had been used in 
determining the manufacturing allowances used in the component pricing 
formulas adopted under Federal order reform. In addition, the National 
Cheese Institute (NCI), an affiliate of IDFA, contracted with a third 
party to conduct a survey of the costs of manufacturing cheese and whey 
powder for use in this proceeding.
    A witness for NMPF stated that make allowances should reflect the 
costs incurred by average plants manufacturing the particular dairy 
product used in the component/Class price formulas: butter, nonfat dry 
milk, cheese, and dry whey. The witness went on to explain that the 
procedure used by the Secretary for determining the make allowances 
under Federal order reform, using an average of the CDFA cost of 
production studies and the RBCS study, was sound and that the same 
procedure should be used as a result of this hearing, using the updated 
data from both surveys. In calculating an appropriate make allowance, 
the witness supported addition of a marketing cost of $.0015 per pound 
to both the CDFA costs and the RBCS costs, as under Federal order 
reform, and the CDFA value for return on investment used to adjust the 
RBCS costs under Federal order reform. The witness explained that both 
of these factors should be included as they are legitimate and 
necessary costs incurred in operating manufacturing plants.
    The witness for IDFA supported inclusion of the CDFA cost studies 
in the computation of the make allowance; however, the witness stated 
that the appropriate procedure for computing the make allowance for 
cheese was to compute a weighted average of the CDFA cost studies and 
the NCI survey. The witness explained that the RBCS study does not 
include all the necessary costs that must be recovered in the make 
allowance, and that the NCI survey is needed to determine what the 
additional cost values should be. The costs that the IDFA witness 
pointed out--those which are not included in the RBCS survey but which 
are included in the NCI survey--are general plant administrative costs, 
such as the plant manager's salary and corporate overhead; return on 
investment or capital costs; and marketing costs.
    The IDFA representative testified that the danger inherent in 
regulated prices is setting the manufacturing allowance at a level too 
low to assure that manufacturers will be able to recover their costs of 
manufacturing finished products and to have the money needed to invest 
in new plants. The witness pointed out that an inadequate make 
allowance would force manufacturers either to move to areas that do not 
have regulated pricing or go out of business. At the very least, the 
witness explained, the manufacturers would not invest in new plants and 
equipment, which in the long run would cause a decline in the 
productivity of the dairy industry. A number of briefs filed on the 
basis of the hearing transcript emphasized the importance of covering 
all handlers' costs of manufacturing, and not just average costs.
    The IDFA witness explained that if make allowances are established 
at too low a level, proprietary plants are placed at a competitive 
disadvantage relative to cooperative-owned plants. The witness 
explained that since cooperatives do not have to pay their producers 
the minimum order price, as proprietary plants are required to do, 
cooperative plants can reduce the prices paid to member producers to 
make up the difference in cost.
    The IDFA witness explained further that the problem with a make 
allowance established below the amount needed to cover plant costs 
occurs because the plant sells the finished product at the same price 
that is used in the formula for establishing the minimum price the 
plant must pay for the raw material (milk). The manufacturing 
allowances are the only place the plant has the opportunity to cover 
its costs, and those allowances are fixed in the formula that 
determines the raw material price.

[[Page 54073]]

    The witness for IDFA asserted that there is very little risk in 
setting a make allowance too high. He explained that if the make 
allowance is established at a level above plant costs, the additional 
revenue stream will be corrected through market forces by requiring the 
plant operators to pay competitive over-order premiums to milk 
suppliers to obtain an adequate supply of milk.
    A witness for WSDPTA explained that the most important part of 
determining a manufacturing allowance is to pick a method and stick 
with that method. The witness testified that the appropriate method is 
to use the results of the RBCS study with adjustments to include 
factors for marketing costs and for capital costs. The witness pointed 
out that use of the RBCS study is appropriate because the study is 
voluntary and represents the costs of making the particular 
commodities, and the plants are geographically widely dispersed. The 
WSDPTA witness stated that including the results of the CDFA study in 
the computation of the make allowance for pricing Federal order milk is 
inappropriate since there is no logical reason for considering the 
manufacturing costs of plants that do not procure any of the milk that 
would be priced using those costs.
    Witnesses testifying on behalf of NFU and NFO both supported the 
concept of variable make allowances, in which changes in dairy farmer 
production cost indexes would be used to adjust handler make 
allowances. The NFU proposal would use an average national cost of 
production, presumably as published by USDA's Economic Research 
Service, and the NFO proposal would use the CDFA milk production cost 
index. The witnesses supported such an approach as a means of 
addressing the problem of manufacturers being insulated from changes in 
supply and demand by their fixed make allowances.
    The NFU and NFO witnesses explained that a fixed make allowance, as 
contained in the current pricing system, does not vary with market 
conditions and creates a situation in which manufacturers will not 
respond to market signals since the manufacturers will receive a profit 
no matter what the supply and demand is for the finished products. The 
witnesses testified that as long as the make allowance allows 
manufacturers a sufficient return, the manufacturers will continue to 
produce the finished product even if there is limited demand for the 
product, thus resulting in a continued low price paid to producers for 
their milk. As a result, they argued, producers are left to bear the 
burden of changes in supply and demand. The NFO witness characterized a 
variable make allowance tied to the cost of producing milk as a market-
oriented system.
    The NFU witness described the California milk pricing system, in 
which manufacturers' production costs are covered through the make 
allowance, as an example of the problems encountered by producers with 
the use of product price formulas incorporating make allowances. He 
testified that California continues to produce a large quantity of 
lower-valued products because the pricing system makes the manufacturer 
immune to the supply of and demand for the products. The witness blamed 
the California make allowance system for the traditionally low milk 
prices in California that, he claimed, result in expansion of dairy 
herds to make up for reduced cash flow. The witness predicted that if 
the Federal order system follows the same pricing path, the same 
production patterns as witnessed in California would follow in the rest 
of the United States.
    In comments filed in response to the tentative final decision, NFU 
stated that producers, as well as processors, will fail if they don't 
attain their costs of production. NFU also argued in its comments that 
under a variable make allowance processors can avoid reduced make 
allowances by increasing product prices.
    The NFU comment overlooks the fact that the make allowances 
included in the component price formulas do not cover all of the costs 
of all processors, and probably allow for greater costs than are 
experienced by some processors. In this sense, the margins experienced 
by processors under product price formulas are variable between plants. 
Also, it is likely that processors share some of their margin with 
producers in the form of over order prices. The degree to which this 
sharing occurs certainly may vary with producers' cost/price 
situations, as perceived by processors. Although increased product 
prices would have the effect of increasing manufacturing margins, the 
ability of processors to increase prices while maintaining sales is 
limited by the fact that the marketplace in which they sell their 
products is competitive.
    There would appear to be no logical or economic reason for changing 
make allowances for processing plants because of a change in the cost 
of producing milk. If milk is to clear the market, plants must be 
willing to accept it. Make allowances that decline as a result of 
increasing milk production costs would squeeze plant margins, and 
manufacturers will have to choose between not receiving milk, refusing 
to receive pooled milk, or paying less than order prices to cooperative 
associations for milk used in manufactured products. None of these 
outcomes would be in the best long-term interests of dairy farmers, 
processors, or consumers. Many dairy farmers, facing increased costs of 
production, would have to find alternative outlets for their milk. 
Decisions on the part of many processors to cease operating, use only 
nonpool milk, or buy milk below order prices likely would result in 
very disorderly conditions among dairy farmers looking for outlets for 
their milk.
    Most hearing participants agreed that the make allowance should 
cover the cost of converting milk to a finished manufactured dairy 
product. However, several participants disagreed with the IDFA 
contention that there is very little risk in setting the make allowance 
too high. They argued that if the make allowance is set in excess of 
the cost to manufacture finished products, the additional revenue would 
be kept by the manufacturing plants as higher profits and not 
distributed to the producers supplying milk to the plant. They 
explained that in many parts of the country there is little if any 
competition for the dairy farmers' milk and therefore no incentive for 
a plant to pay above the minimum Federal order price. These plants, 
according to the witnesses, could be expected to keep the extra make 
allowance for themselves. Comments filed by Michigan Milk Producers 
Association continued to urge caution against logic that suggests a low 
risk of setting make allowances too high. The cooperative stated that 
not all of its 2,700 members might survive a market adjustment period 
if make allowances were set too high, even if theoretically greater 
premiums might be returned to producers.
    Several witnesses opposed the idea of setting make allowances at 
levels that guarantee plants a profit, or at least a return on 
investment, when the dairy farmers supplying milk to the manufacturing 
plants have no similar assurances for covering the costs of producing 
milk. These witnesses pointed to the Agricultural Marketing Agreement 
Act of 1937, Sec. 608c(18), as justification for setting a lower make 
allowance for plants, resulting in higher milk prices that would come 
closer to covering dairy farmers' costs of producing milk. This point 
of view was reiterated in a half-dozen comments filed in response to 
the tentative final decision.
    As supported by most of the hearing participants, the make 
allowances

[[Page 54074]]

incorporated in the component price formulas under the Federal milk 
orders should cover the costs of most of the processing plants that 
receive milk pooled under the orders. In part, this approach is 
necessary because pooled handlers must be able to compete with 
processors whose milk receipts are not priced in regulated markets. The 
principal reason for this approach, however, is to assure that the 
market is cleared of reserve milk supplies.
    In comments on the tentative final decision, IDFA continued to 
argue that some legitimate manufacturing costs are excluded from the 
RBCS survey and attacked the data gathered as ``inherently suspicious 
and unreliable.'' IDFA also stated that the survey is not taken 
seriously by some of its participants. Both IDFA and Leprino Foods 
Company argued in comments on the tentative final decision that adding 
factors for costs excluded in the RBCS study constitutes a less 
accurate result than if those costs were included in a comprehensive 
study. IDFA also commented that the need to allow for changes in cost 
factors that might occur over time (such as recent increases in energy 
costs) also supports the need for a make allowance that is too high 
rather than one that is too low.
    Although the RBCS survey does not include such costs as general 
plant administrative costs, return on investment or capital costs, and 
marketing costs, it is a survey that has been done for sixteen years 
with the same fundamental methodology and with some continuity of 
participants. Because the survey is done for the benefit of the 
participating organizations (cooperatives) to help them identify their 
costs and compare them with those of their peer group, there is every 
reason to believe that the costs provided are as accurate as possible. 
In addition, the years of experience with the survey have enabled USDA 
to shape the questions to obtain more accurate results.
    When the RBCS survey results are adjusted to include the factors 
that were mentioned above as not included by using the values for those 
factors from the CDFA survey, the two surveys' costs are comparable, 
especially considering that the RBCS survey represents manufacturing 
plants with a wide distribution around the U.S., while the CDFA survey 
includes only California plants. The CDFA survey is also done every 
year and is done according to a published procedure manual, with the 
costs being audited by personnel employed by the State for that 
purpose. Although no CDFA employee was available to respond to 
questions about the conduct of the survey, official notice was taken of 
the procedure manual and of California publications associated with 
manufacturing cost data. In addition, several witnesses who are deeply 
involved with the California dairy industry testified regarding the 
perceived reliability of the survey results.
    The use of manufacturing plant data from California plants that do 
not procure any of the milk that would be priced using those costs 
should not cause concern. The costs of manufacturing dairy products may 
vary slightly by region, but adoption of representative make allowances 
in product price formulas should not fail to use a well-documented 
study that includes a large amount of audited data, such as the CDFA 
survey.
    In contrast to the RBCS and CDFA surveys, the survey of cheese and 
whey powder manufacturing costs arranged for by NCI was developed 
solely for the purpose of establishing costs to be used in determining 
make allowances for this proceeding. The survey was conducted by 
persons unfamiliar with the dairy industry among cheese processors who 
would benefit from the adoption of overgenerous make allowances. No one 
who actually conducted the survey was made available to testify, and 
although the IDFA witness stated that survey participants would testify 
regarding their responses to the survey later in the hearing, none of 
the participating firms' witnesses would respond to questions about 
their firms' results.
    Although less weight must be given the NCI survey than either the 
RBCS or the CDFA surveys for the reasons stated above, the NCI survey's 
resulting manufacturing costs for cheese are not considerably different 
from a weighted average of the RBCS and the CDFA surveys. In fact, 
although the IDFA hearing participants went to great lengths to 
discredit the RBCS study for use in identifying an appropriate level of 
manufacturing costs, the hearing record reflects that the NCI survey of 
cheese and dry whey manufacturing costs used the RBCS 1996 survey 
results to identify outliers (plus or minus 10 percent) in the study 
commissioned by NCI.
    In comments filed on the tentative final decision, IDFA urged that 
USDA use the NCI and CDFA studies for use in determining make 
allowances for cheese and whey powder rather than using the RBCS and 
CDFA studies. The IDFA comments stated that the characterization of the 
RBCS study as neutral and not developed or commissioned for use in this 
proceeding was inaccurate, as cooperative associations attending the 
National Milk Producers Federation annual meeting were encouraged to 
participate in the survey so the results could be used in this 
proceeding. Since the RBCS study was developed and has continued for 
sixteen years for purposes other than establishing make allowances, and 
the methodology did not change from past years for the study used in 
the hearing, it is unlikely that it was designed for any purpose other 
than the one for which it was developed and has been used for that 
period. If the comment is intended to raise concerns that cooperative 
associations generally favor lower make allowances, it should be noted 
that only manufacturing cooperatives were surveyed. The record contains 
ample evidence that many manufacturing cooperatives desire make 
allowances just as generous as those favored by proprietary 
manufacturers.
    A comment filed on behalf of the Association of Dairy Cooperatives 
in the Northeast (ADCNE), some of which are national in scope, argued 
that use of the NCI data would demean the importance of sworn first-
hand testimony that is subject to cross-examination.
    As a result of the differences in conduct of the three surveys, 
manufacturing costs used to determine appropriate make allowances for 
cheddar cheese, butter, and nonfat dry milk in this proceeding are 
calculated primarily from a weighted average of the RBCS and CDFA 
surveys, with a check against the NCI survey cost of manufacturing 
cheddar cheese. Since the record lacks any other data regarding the 
cost of making whey powder, the NCI survey results are used for the 
make allowance in the other solids formula.
    One proposal included in the hearing notice would have eliminated 
any marketing allowance from the make allowances, and a number of 
witnesses' testimony objected to the inclusion of return on investment. 
The American Farm Bureau witness questioned the need for a marketing 
allowance since producers already pay a 15-cent assessment for 
promotion and research. A brief filed by the proponent of eliminating 
the marketing allowance stated that the allowance appears to be an 
``adjustment'' or a ``hedge,'' since it is not defined in the final 
decision in the Federal order reform process.
    There was general agreement among those testifying that a marketing 
allowance should be included in manufacturing costs, but no consensus 
about the appropriate number. Some of the costs covered by the 
marketing allowance include maintaining and staffing warehouses, 
supporting a

[[Page 54075]]

marketing and sales staff, and transporting product to market, as well 
as accounting costs associated with the sale of products. The NCI 
survey identified a marketing cost of $.0011 per pound of product, 
while the DFA witness stated that DFA's costs were approximately 
$.0018. The DFA witness testified that because the costs included in 
the activities designated as marketing generally fall within a common 
department under common management, it is appropriate to apply the same 
allowance to each product.
    A witness for Northwest Dairy Association (NDA), a cooperative 
association in the Pacific Northwest, stated that NDA's marketing costs 
are $.0026 but identified costs associated with the aging of cheese as 
included in that number. Since the NASS survey price does not include 
cheese intended for aging, the marketing allowance certainly should not 
include costs of aging cheese. The Associated Milk Producers, Inc. 
(AMPI), witness used a $.0024 marketing allowance in the calculation of 
AMPI's proposed make allowance for nonfat dry milk. The witness for 
Agri-Mark, Inc., a large Northeast cooperative association with several 
processing plants, stated that Agri-Mark's estimates of marketing costs 
ranged from $.0025 to $.005 per pound.
    The costs identified as those included in a marketing allowance are 
necessarily incurred in getting a product to market and are not related 
to the consumer education and advertising activities covered by the 
National Dairy Board assessment. Since the marketing cost determined by 
NCI is the only one of the estimates included in the hearing record 
that is supported by a survey, and it varies from the $.0015 rate 
included in Federal order reform by only 4 one-hundredths of a cent and 
applies only to cheese and dry whey, there seems to be no solid basis 
for making any change to the current marketing allowance.
    Some producer witnesses objected to the inclusion of any allowance 
for return on investment in manufacturing allowances on the basis that 
dairy farmers are assured of no such return. The CDFA manufacturing 
cost surveys include allowances for depreciation, which is included in 
the non-labor processing costs; and for return on investment, which 
represents the opportunity cost of the processors' resources invested 
in the business. These costs are supported by audited data.
    Both the marketing allowance and return on investment factors 
should be included in the manufacturing allowances provided in the 
component price formulas at the rates supported by the CDFA data. If 
processors are not provided enough of a manufacturing allowance to 
market the product they process, or to earn any return on investment, 
they will not continue to provide processing capacity for producers' 
milk. At the same time, the manufacturing allowances incorporated in 
the formulas will not provide enough of an allowance to assure that 
every processor, no matter how inefficient or high-cost, will earn a 
profit. Allowances set at such a level certainly could result in the 
situation warned of by producer groups in which processors manufacture 
greater volumes of product than the market demands because they are 
guaranteed a profit on all their production. As a result, the only way 
to market all of the product would be to reduce prices, with a profit 
to processors still locked in through the make allowance, which would 
result in decreasing prices paid to producers. In addition, 
manufacturers who are assured a profit on all of their output would 
have a lesser incentive to make a sufficient quantity of milk available 
for fluid use--a basic goal of the Federal milk order program.
    One area addressed by several hearing participants in testimony and 
in briefs as appropriate to consider in establishing make allowances or 
yields was the loss of milk components during manufacturing processes.
    Two cheese manufacturers, IDFA, and Land O'Lakes (LOL) continued to 
argue in their comments on the tentative final decision that make 
allowances should be increased, or yields reduced, to reflect shrinkage 
between farms and warehouses.
    As stated in the tentative final decision, the orders have always 
provided an allowance for shrinkage and continue to do so, but 
inflating costs of production or reducing yield factors to reflect 
shrinkage would not properly reflect the value of producers' milk used 
in manufactured products. Processing costs determined by the surveys 
described above, which underlie the manufacturing costs incorporated in 
the pricing formulas, are expressed in cents per pound of end product 
manufactured, not in the cost per hundredweight of converting milk to 
manufactured products. The component pricing formulas are based on the 
content of those components in the finished products for which a 
manufacturing cost per pound has been established. Both the CDFA and 
RBCS cost surveys allocate all plant costs to actual end products, a 
process which should take shrinkage into account. Similarly, the yield 
factors in the formulas refer to the amount of finished product 
resulting from the processing of a given volume of input or to the 
amount of component present in the finished product. Both of these 
factors in the pricing formulas include consideration of shrinkage.
    A comment filed by Lamers Dairy argued that using make allowances 
to calculate Class III and Class IV prices but not Class I and Class II 
prices constitutes unequal treatment. The comment disregards the fact 
that the make allowances in the Class III and Class IV price 
calculations are used to determine prices for milk used in those 
classes, and that the prices for milk used in Classes I and II are 
based on those milk prices. The Class I and II prices are determined 
for the purpose of valuing milk in uses that are alternatives to 
manufacturing uses. Once the Class III and IV prices have been 
established, the Class I and II prices can be calculated using 
differentials from the base prices.
    The detailed explanation of each product's manufacturing allowance 
is included with the description of its primary component's pricing 
formula later in this decision.
b. Class IV Butterfat and Nonfat Solids Prices
    Butterfat Price. This decision continues to use the NASS price for 
Grade AA butter for calculating the butterfat price to be used in Class 
IV and to change the manufacturing allowance in the butterfat price 
formula by \1/10\ of a cent per pound of butter from the allowance used 
under Federal order reform. The .82 divisor in the price formula is 
unchanged. The make allowance change is the same as that included in 
the tentative final decision, and neither it nor the other factors were 
affected by the injunction. However, the injunction resulted in the 
same butterfat price formula being used to value both Class III 
butterfat and Class IV butterfat.
    Several proposals were heard that would reduce butterfat prices, 
either by reducing the butter price used in the computation of the 
butterfat prices for all classes or by subtracting a fixed amount from 
the butterfat price computed for Class IV. Proposals also were made 
that would change the make allowance used in calculation of the 
butterfat prices. There were no proposals to change the butterfat 
divisor of .82, although one witness representing a western cooperative 
association suggested that it be reconsidered as he felt it did not 
include a shrinkage factor.
    Product Price (Butter). Several witnesses for proprietary processor 
proponents of the proposal to deduct six cents from the butter price 
before

[[Page 54076]]

computing the butterfat price stated that historically the value of 
butterfat in the Federal milk orders has been based on the price of 
Grade A butter. The witnesses explained that an equivalent price 
determination had been issued in 1998 (when the CME discontinued 
trading Grade A butter) that nine cents would be subtracted from the 
Grade AA butter price for use in calculating Federal order butterfat 
prices. This equivalent price, according to the witnesses, was found to 
be ``essential'' to the continued operation of the Federal milk order 
program. Further, they argued that its adoption continued the policy of 
basing butterfat pricing under the Federal milk orders on a value below 
that of Grade AA butter.
    The witnesses complained that under Federal order reform the 
butterfat value is determined by using the NASS Grade AA price of 
butter, which effectively increases the butterfat value under Federal 
milk orders. According to proponents' calculations, the increase does 
not amount to a full nine cents but is tempered by the use of the NASS 
Grade AA price, which has averaged approximately three cents below the 
CME Grade AA price, in the butterfat pricing formula. Therefore, they 
stated, the actual increase in the butter price used to calculate 
butterfat prices is approximately six cents. According to the 
witnesses, subtraction of six cents from the NASS butter price would 
return the relationship between the butterfat value under the orders 
and the selling price of butter to the relationship that existed prior 
to Federal order reform.
    Several witnesses explained that when handlers must pay for 
butterfat on the basis of the Grade AA butter market they cannot then 
sell cream or finished products at a price that would allow them to 
recover their costs. They testified that cream is sold at a price that 
is termed a ``multiple'' of the butter price, and that the multiples 
used when the butterfat price was calculated from the Grade A butter 
price have not adjusted to the new pricing formula using Grade AA 
butter.
    The IDFA witness pointed out that the IDFA proposal to subtract six 
cents from the NASS Grade AA butter price would apply not only to the 
butterfat formula for Class II, Class III, and Class IV but would apply 
to the advance butterfat formula used for computing the Class I 
butterfat price. The witness testified that by applying the same 
formula to all classes of butterfat the current relationship between 
the class prices would be maintained. The witness contended that there 
is no justification for changing the relationships between the class 
prices, particularly if the adjustment would widen the class price 
spreads or, in effect, increase the Class I and Class II differentials.
    Witnesses for NMPF and several large cooperative associations 
testified in support of NMPF's proposal to reduce the calculated 
butterfat price by six cents, with the reduction applied to Class IV 
butterfat only. Under this proposal, the computation of the butterfat 
prices for other classes would not contain the six-cent adjustment. 
Several witnesses representing cooperative associations that process 
butter explained that butter manufacturers incur additional costs when 
procuring cream used for manufacturing butter as opposed to the cost of 
converting producer milk to butter. The witnesses explained that these 
additional costs include transportation, additional handling, and 
additional pasteurization. The witness for LOL testified that the 
additional costs amounted to 4.57 cents per pound of butterfat for 
transportation and .4 cents per pound for receiving, storing, and 
repasteurization. A witness for Agri-Mark stated that Agri-Mark's 
transportation costs are slightly less than LOL's, probably due to the 
proximity of the Agri-Mark plant to the sources of cream, but that the 
other additional costs are slightly higher than the LOL costs, at .5 
cents per pound of butterfat.
    The proponents of reducing the Class IV butterfat value also 
referred to the computation of the California Class 4a butterfat price, 
which involves a subtraction of 4.5 cents per pound from the CME Grade 
AA butter price to adjust for the costs of moving butter from the west 
coast to the Midwest.
    Those parties who favored reducing the butter price before using 
the butterfat price formula to calculate any of the butterfat prices 
disagreed vehemently with the proposal to reduce only the Class IV 
butterfat price. They argued that such a reduction would distort the 
relationship between the Class II and Class IV prices, resulting in a 
greatly-increased price for Class II butterfat in relation to Class IV 
butterfat. Specifically, the projected increase in the Class II-Class 
IV butterfat price difference was cited as 6.7 cents per pound (from 
the current difference of .7 cents). These parties argued that 
butterfat values would most appropriately be reduced to the same degree 
in all classes.
    The price to be used for butterfat in Class III and Class IV should 
be computed by subtracting a make allowance of .115 dollars per pound 
from the monthly average NASS Grade AA butter price and dividing the 
result by .82 since 1.2213 pounds of butter can be made from 1 pound of 
butterfat. The Class II butterfat price should continue to be the Class 
IV butterfat price plus .007 cents, while the Class I butterfat price 
will be the advance butterfat price plus the applicable Class I 
differential.
    Contrary to the belief stated by some witnesses, the use of the 
Grade AA butter price for computing the butterfat price under Federal 
order reform was not an ``oversight.'' Trading of Grade A butter on the 
CME was ended as of June 26, 1998 (not by USDA, as implied in one 
brief, but by the CME) because the volume of Grade A butter traded was 
not great enough to warrant maintaining a trading venue. One brief 
argued that the Grade A butter price represents a minimum price, and 
that there is no need for concern that there will not be an available 
market for Grade A and Grade B butter. However, with the end of trading 
in Grade A butter on the CME, there is no published (or any other 
known) source for obtaining a price for Grade A butter.
    The use of the Grade AA butter price for establishing butterfat 
prices is appropriate since that is the only grade of butter that has 
significant enough trading volume to warrant a publicly-reported price. 
Grade AA butter prices are the only butter prices regularly available 
and represent the vast majority (about 95 percent) of the butter sold. 
Although the ``multiples'' of the butter price apparently had not 
adjusted to the use of the Grade AA price during the first 4 months of 
experience under the revised orders and probably should not be expected 
to adjust during the period in which this proceeding is under 
consideration, the marketplace should, in time, make the needed 
adjustments.
    Various witnesses estimated that Grade A and Grade B butter 
combined make up 3-7 percent of the butter in the U.S. Although a 
witness noted that the Minnesota-Wisconsin (M-W) price for non-Grade A 
milk continued to be surveyed even after the percentage of milk 
eligible for the survey had fallen below a 5 percent level, it was 
widely recognized for some time that a pricing alternative to the M-W 
must be found because the M-W eventually would no longer provide a 
representative price for a large volume of unregulated milk. Similarly, 
with the decline of Grade A butter (and the unavailability of prices 
for that product), the only alternative available for determining price 
is Grade AA butter. A finding in the equivalent price determination 
that a Grade A butter price was ``essential'' to continued operation of 
the orders referred solely to the fact that the Grade

[[Page 54077]]

A price was specified in all of the orders at that time, not that the 
butterfat value under Federal milk orders could never be based on any 
other price.
    Making an adjustment to a clearly valid price series to approximate 
a price series that has been discontinued for several years due to 
insufficient volume for trading is inappropriate. Comments to the 
tentative final decision from IDFA and Schreiber Foods continued to 
encourage the use of an estimate of the discontinued Grade A price 
series for the current formulas. Since it has been about four years 
since a publicly-traded price for Grade A butter has been available, it 
is impossible to determine what the current difference between these 
prices would be because there are no reports of the Grade A price 
available. The vast majority of butter made and sold in the U.S. is 
Grade AA, and that is the appropriate product to which to look for a 
value of butterfat used in butter.
    The 3-cent average difference between the CME and NASS butter 
prices makes up \2/3\ of the 4.5-cent adjustment made by CDFA in 
calculating the value of butterfat used in butter. An additional 6 
cents deducted from the butterfat price calculated from the NASS price 
would much more than make up the remaining 1.5-cent difference. Also, 
the 4.5-cent CDFA adjustment is made for the purpose of reflecting the 
cost of moving butter from California to Chicago. The butterfat price 
calculated under the Federal order program is not intended to apply to 
only one state. The NASS price is a nationwide survey and likely 
includes a significant representation of California butter prices. If 
there are additional costs involved in making butter, they would more 
appropriately be included in the make allowance for butter.
    Make Allowance (Butter). The make allowance factor in the butterfat 
price formula should be derived from a combination of the manufacturing 
costs determined by CDFA and by RBCS, as they were in the tentative 
final decision. The CDFA cost data is divided into two groups 
representing high cost and low cost butter plants, with the four plants 
in the high cost group manufacturing, on average, about the same 
average number of pounds of butter as the seven plants in the RBCS 
study. Use of the data for the CDFA high-cost group of butter plants is 
more appropriate than use of the weighted average cost for all of the 
California plants because it is more likely that the high-cost plants, 
like the plants in the RBCS survey, serve a predominately balancing 
function.
    When the RBCS data is adjusted to reflect the same packaging cost, 
general and administrative costs, and return on investment as the CDFA 
data for the high cost group, and a marketing allowance of $0.0015 is 
added to both sets of data, the weighted average of the two data sets 
is $0.115. This butter manufacturing allowance is very close to the 
current allowance of $0.114 and should continue to provide a 
representative level of the costs of making butter in plants that serve 
a balancing function.
    The increased costs of making butter, not including transportation, 
cited by the proponents of reducing the butterfat price are expected to 
be included in this manufacturing allowance, which exceeds the low cost 
group in the CDFA survey by 3 cents per pound. The only class of use 
for which adjustments for transportation have regularly been included 
under Federal order regulation is Class I. Assuring that the order 
provides an allowance for moving milk for use in manufactured products 
would interfere with provisions designed to assure an adequate supply 
of milk for fluid use.
    Yield (Butter). Although one witness suggested that the divisor in 
the butter price formula that reflects the butterfat content of butter 
be reconsidered, he did not indicate any number more appropriate than 
the .82 divisor used in the current formula. There was no other 
testimony in the record questioning the butter content factor. In fact, 
the only data in the record applicable to the issue was a CDFA report 
on butter and powder yields at California plants in 1996 that was 
included in an exhibit. This report shows a 1.2213 weighted average 
butter yield (1 pound of butterfat results in 1.2213 pounds of butter), 
which corresponds to the use of the .82 divisor.
    The record does not support adoption of a Class IV butterfat price 
that is not reflected directly in the Class II butterfat price. There 
was testimony from several witnesses that the current Class IV-Class II 
price relationship is rational and appropriate, and an adjustment to 
the Class IV butterfat price that is not reflected in the Class II 
butterfat price would disrupt the current relationship. In addition, it 
would seem reasonable that some of the extra costs claimed by butter 
manufacturers, such as transportation costs for supplemental cream 
supplies, butterfat standardization of outside cream sources, and 
additional pasteurization would be as applicable for Class II 
manufacturers of high-fat products using surplus cream as for butter 
makers. Accordingly, reduction of the Class IV butterfat price only is 
not considered appropriate.
    Class IV Nonfat Solids Price. As in the tentative final decision, 
this recommended decision maintains the use of the NASS survey price 
reported for nonfat dry milk and increases the make allowance for 
nonfat dry milk from 13.7 cents to 14 cents per pound of nonfat dry 
milk. In addition, the tentative final decision change to eliminate the 
1.02 divisor in the nonfat solids price formula to reflect the 
incorporation of dry buttermilk (with a lower product price and higher 
make allowance) is continued. This decision maintains the nonfat solids 
price formula continued under the injunction.
    Six proposals to change some part of the nonfat solids price 
formula were considered at the hearing. Three of the proposals dealt 
with the manufacturing allowance for nonfat dry milk (NFDM), with two 
of the proposals advocating use of the RBCS survey results and one 
proposal supporting an increase in the make allowance. The other three 
proposals supported changes in the yield factor of the nonfat solids 
price formula that would reflect greater powder yield from a pound of 
nonfat solids. Two of the proposals to change yield factors included 
using CME NFDM prices instead of the NASS survey. As discussed earlier 
in this decision, the product prices used in the component pricing 
formulas should continue to be obtained from the NASS survey.
    Product Price (Nonfat dry milk). No proposals were considered that 
would have changed the product price used in the nonfat solids price 
formula, and the record contains no basis for making any change in this 
formula factor.
    Make Allowance (Nonfat dry milk). At the time the hearing notice 
was issued, the most recent RBCS data were not available, and those 
costs were not specified in the proposals. By the time the hearing was 
held, however, the RBCS data had been released and were included in the 
information introduced at the hearing. NMPF supported continued use of 
a weighted average of the CDFA and the RBCS manufacturing cost surveys, 
with inclusion of a marketing allowance and the CDFA factor for return 
on investment. NMPF proposed that the NFDM make allowance be $0.140 per 
pound.
    South East Dairy Farmers Association also proposed that the RBCS 
survey be used to determine a make allowance for NFDM, but did not 
propose that a marketing allowance be included. The necessity of 
including a marketing allowance is discussed earlier in this decision.
    Associated Milk Producers, Inc. (AMPI), proposed that the NFDM 
manufacturing allowance be increased

[[Page 54078]]

from $0.137 to $0.1563 per pound, a rate based on AMPI's cost of making 
NFDM at its own three plants in the upper Midwest over a 5-year period. 
The AMPI witness stated that in addition to a processing and packaging 
cost of $0.1254, the make allowance should include a marketing 
allowance of $0.0024 and return on investment of $0.026, for a total 
allowance of $0.1538 per pound, modified from the level proposed in the 
hearing notice. The witness testified that the three AMPI plants 
operate at approximately 80 percent of capacity.
    No comments were filed that specifically addressed the adopted make 
allowance for use in the nonfat solids price.
    On the basis of the data and testimony included in the hearing 
record, the manufacturing cost level that appears to be most 
appropriate for use in the pricing formula for nonfat solids is $0.14 
per pound. This value is calculated by using a weighted average of the 
RBCS survey and the two less-cost California groups of plants, adding 
the CDFA General and Administrative costs and Return on Investment 
expenses for those two groups to the RBCS numbers, and adding a $0.0015 
marketing allowance to both sets of data. The basis for using the two 
lower-cost groups of California plants are that the mid-cost group is 
of a similar average size as the group included in the RBCS survey, and 
that the lowest-cost California group has a very similar total cost to 
the mid-cost group. These three groups of plants (the RBCS plants and 
the two California groups) are similar enough in size and cost to 
consider as fairly representative, and should encompass those plants 
that perform a market balancing function. The highest-cost California 
group should not be included since its average cost is more than ten 
cents per pound of NFDM above the RBCS group or either of the other two 
California groups.
    The AMPI cost numbers cannot be included in the weighted average 
since the number of pounds of NFDM associated with those costs is not 
available. When the AMPI marketing allowance and return on investment 
estimates are replaced with the more moderate numbers used in the make 
allowance calculation, the AMPI manufacturing costs do not differ much 
from the other two sources. This is true despite the wide discrepancy 
in the capacity utilization percentage estimates for the two data sets 
(80 percent for the AMPI plants versus less than 50 percent for the 
plants in the RBCS survey). Inclusion of the AMPI costs in the RBCS 
survey would have included a larger representation of NFDM manufactured 
outside California. However, the record indicates that a high 
percentage of the NFDM manufactured in the U.S. comes from California, 
and the proportion of cost data representing California in the 
manufacturing allowance is reasonable.
    ``Yield'' (Nonfat solids). The elimination of the divisor of the 
nonfat solids price formula adopted in the tentative final decision and 
continued in effect after the injunction should be maintained.
    A considerable portion of the testimony dealing with the nonfat 
solids pricing formula pertained to the 1.02 divisor. The divisor is 
not strictly a yield factor but is intended to reflect the amount of 
nonfat solids in NFDM, with an adjustment for the small amount of 
buttermilk powder that is made in conjunction with the manufacture of 
butter and NFDM. Testimony by a number of witnesses asserted that the 
product price minus the make allowance should be either multiplied by a 
number greater than 1 (such as 1.02) or divided by a number smaller 
than 1 (such as .99 or .975) to reflect the fact that more than 1 pound 
of NFDM can be expected to be manufactured from 1 pound of nonfat 
solids due to the moisture content of NFDM.
    Many of the hearing participants supported the 1.02 divisor, 
adopted under Federal order reform, and expressed understanding of the 
approach of adjusting the ``yield'' of NFDM to compensate for the fact 
that some of the powdered product made from Class IV milk is buttermilk 
powder (BMP). Although 1.03 to 1.05 pounds of NFDM generally can be 
obtained per pound of nonfat solids, the formula also recognizes a 
lower value and higher manufacturing cost for BMP.
    Several witnesses correctly assessed an alternate solution to the 
dilemma of calculating a component price from two commodities with 
different prices and different make allowances as one requiring 
addition of dry buttermilk as another component price in the Federal 
milk order pricing system. As described by at least one witness, such 
an undertaking would require adding dry buttermilk to the NASS price 
survey, determining a separate make allowance, and calculating a yield 
factor. This procedure would be a burdensome undertaking for very 
little benefit, since dry buttermilk represents only about 5 percent of 
the dry products resulting from the manufacture of butter and nonfat 
dry milk. The issue that remains is how best to reflect the value of 
nonfat solids used in both NFDM and BMP in the same component pricing 
formula.
    The IDFA witness testified that for the 19-month period beginning 
with September 1998, the central states' dry buttermilk price had 
averaged $0.798 per pound, while the central states' ``mostly'' price 
for NFDM averaged $1.043. The LOL witness similarly testified that the 
1999 Northeast ``mostly'' price for NFDM averaged $1.0389, while the 
BMP price was $0.7686 per pound. On the basis of these numbers, it 
would appear that the price of BMP is roughly 75% that of NFDM. 
However, comparison of BMP and NFDM prices for the years of 1996 
through 1999 and into 2000 reflects a more complex relationship between 
these prices than the hearing testimony would indicate. The BMP price 
as a percentage of the nonfat dry milk price (using Western prices) was 
100.9% in 1996, 94.5% in 1997, 88 percent in 1998, and 71% in 1999. 
During the first third of 2000, BMP prices generally averaged less than 
70% of NFDM prices. As the year 2000 progressed, however, the 
percentage increased, being at levels up to 100% in late July and 
remaining above 85% for the second half of the year in all areas.
    The witness representing Agri-Mark stated that Agri-Mark employees 
engaged in manufacturing operations had estimated that the costs of 
producing BMP range from 1 to 3 cents more per pound than those of 
producing NFDM. Given that the manufacturing costs estimated by the 
Agri-Mark witness for other products were somewhat higher than those 
supported by the bulk of the hearing record, it is reasonable to 
consider the extra cost of manufacturing BMP to be generally not more 
than 2 cents in excess of the cost of manufacturing NFDM. In addition, 
it is difficult to justify increasing the powder make allowance for all 
of the powdered product represented in the make allowance since the 
RBCS witness testified that manufacturing costs of BMP manufactured at 
the plants included in the RBCS survey are included in the powder costs 
reported by RBCS.
    Testimony regarding actual yields of NFDM and BMP were provided by 
only one witness representing a manufacturing plant operator. The 
numbers provided, while not complete enough for an exact accounting of 
the ultimate disposition of the plant's receipts of producer milk, 
indicate strongly that the approximate loss of nonfat solids used in 
the manufacture of NFDM at the specific plant was 3 percent, with 16 
percent lost in the manufacture of BMP, for a combined weighted average 
loss of more than 3.5 percent of nonfat solids. In comparison,

[[Page 54079]]

data published by the State of California showed a weighted average 
loss of solids not fat of 2.13 percent in the manufacture of butter and 
powdered products.
    The California data indicate a weighted average powder yield of 
1.0252 pounds of NFDM and BMP from 1 pound of nonfat solids. One 
witness discounted this data by observing that the ``high'' California 
yield was reported as 1.0406, which would represent a higher-than-
allowable moisture content. This number may be influenced by the 
``high'' reported BMP yield of .0749.
    As noted above, the general impression conveyed by testimony in the 
hearing record, that BMP is worth considerably less than NFDM and that 
the cost of processing it is significantly greater than that of 
processing NFDM, is misleading. The average BMP price over the period 
1996-July 2000 is approximately 87 percent of the NFDM price, and the 
cost of manufacturing BMP is, on the basis of the information 
available, no more than 2 or 3 cents in excess of the $0.14 recommended 
as the NFDM make allowance. These small adjustments to the product 
price and the make allowance used in the nonfat solids formula apply to 
little more than 5 percent of powder manufactured. It is apparent from 
the information contained in the record of this proceeding that the 
1.02 factor, as a divisor, is excessive.
    The following information from the hearing record was used to 
determine a multiplier or divisor for the total nonfat solids pricing 
formula that would result in a minimum price for nonfat solids while 
incorporating the data and testimony in the record about the 
manufacture of NFDM and BMP. To assure that the result represents a 
minimum price, the low or high areas of ranges of numbers related to 
the manufacture of these two products were used. The CDFA report on 
butter and powder yield in California plants in 1996 was used in making 
some of the calculations regarding this factor.
    a. The price of BMP represents roughly 80 percent of the price of 
NFDM (80 percent is less than the average historical relationship of 
these prices over the past 5 years).
    b. The cost of manufacturing BMP is not more than 2 cents greater 
than the make allowance for manufacturing NFDM.
    c. Using a theoretical yield of 1.03 pounds of powder containing 3 
percent moisture made from milk containing 8.62 percent nonfat solids 
would result in .054 pounds of BMP and .976 pounds of NFDM.
    d. Adjusting the theoretical yield of 1.03 pounds to the minimal 
yield of 1.01 pounds (the ``low'' yield in the CDFA report) and 
prorating the BMP and NFDM to 1.01 pounds instead of to 1.03 pounds, 
the amount of BMP manufactured from a pound of nonfat solids used in 
butter/powder is approximately .053 pounds. When the NFDM yield is 
prorated, the resulting minimum yield is .957 pounds.
    Using a NFDM price of $1.03 per pound, a make allowance of $0.14 
cents per pound of NFDM, and a divisor of 1, the resulting calculation 
is: $1.03 - $0.14 = $0.89 per pound of nonfat solids. The same result 
is achieved through a more complicated calculation using both product 
prices and make allowances, as follows:


Buttermilk powder:
    ($1.03  x  .80) - $0.16 = $0.664; $0.664  x  .053      =    $0.03519
+ Nonfat dry milk:
    $1.03 - $.014 = $0.89; $0.89  x  .957                  =    $0.85173
                                                              ----------
                                                                $0.88692
                                                                (Rounded
                                                               to $0.89)
 


On the basis of this analysis, no multiplier or divisor is necessary in 
this formula.
    A number of comments were filed in response to this aspect of the 
tentative final decision, with some supporting the use of a divisor of 
``1,'' two comments suggesting that a divisor of 1.01 would be more 
appropriate (but one determining that such a change would not be 
possible on the record of this proceeding), and several insisting that 
the above analysis is flawed by use of incorrect or inappropriate data 
and that the divisor should be returned to the 1.02 level in effect 
before January 1, 2001.
    The IDFA comments stated that, in the interest of establishing 
minimum pricing, no more than 70 percent of the NFDM value should be 
assumed for the BMP price and that 3 cents should be added to the BMP 
make allowance instead of 2. IDFA also indicated that the formula 
should include shrinkage. NDA and LOL criticized the use of the 
California yield data in determining the comparative yields of NFDM and 
BMP, both because some of the data reflected information that included 
powder with higher-than-allowable moisture and because no witnesses who 
had participated in the survey were present to testify about it. LOL 
criticized USDA's use of Western prices rather than the Northeast and 
Central prices quoted by witnesses who discussed the relative values of 
NFDM and BMP.
    Comments filed by Agri-Mark protested elimination of the 1.02 
divisor, arguing that USDA relied on a casual remark about the 
difference between the cost of manufacturing BMP and NFDM rather than 
on detailed cost information as in the other make allowances. Agri-Mark 
also stated that the role of Class IV in balancing surplus cream from 
Class I use increases the ratio of BMP to NFDM over that calculated 
from an assumption about uses of the nonfat solids in producer milk.
    Criticism of use of the Western BMP and NFDM price series to 
analyze the relative values of BMP and NFDM in the tentative final 
decision did not consider the fact that the Western price (mostly) 
series is the only one with an uninterrupted data series for the five 
years considered. In addition, the percentage of the NFDM price 
represented by the BMP price for the Western region was lower during 
each of the years 1996-2000 than for the Central region; and very 
similar, with some years averaging higher and some lower, to the 
Northeast region. Criticism of the CDFA yield data ignores the fact 
that the yield factors used in the initial analysis for the tentative 
final decision adjusted the relative ``weighted average'' yields of BMP 
and NFDM to the ``low'' yield.
    The hearing record contains enough information on the issue of the 
relative weights, values, and costs of manufacturing NFDM and BMP to 
support the conclusion reached in the tentative final decision about 
the appropriate divisor in the nonfat solids price formula. The .96 
divisor considered in the proposed rule on Federal order reform 
represented the pounds of nonfat solids in NFDM rather than the yield 
of nonfat dry milk from nonfat solids. Use of the divisor of 1 adopted 
in the tentative final decision accounts for all of the nonfat solids 
used in Class IV and results in 3-4 cents less per pound of nonfat 
solids (over a NFDM price range of $.86-$1.10) than the value that 
would be calculated if the formula attributed all of the Class IV skim 
value to NFDM.
    The Agri-Mark comment emphasized that the ratio of BMP to NFDM milk 
considered in the nonfat solids price calculation should be calculated 
on the basis of the butterfat content in Class IV because butterfat 
surplus to Class I use is used in butter. The Agri-Mark comment 
observed that the butterfat percentage of milk used in Class IV in the 
Northeast over a 3-month period averaged 5.67%.
    Even if the national average of butterfat in Class IV (6.4%) is 
used to

[[Page 54080]]

determine the breakdown between nonfat solids used in BMP and nonfat 
solids used in NFDM, less than .8 pounds of nonfat solids out of the 
8.4 contained in a hundredweight of Class IV milk at 6.4% butterfat 
should be attributed to use in BMP. In effect, the price of each of the 
8.4 pounds would be reduced by 3-4 cents. Such a calculation results in 
25.2-33.6 cents per hundredweight of milk containing 6.4% butterfat to 
cover the additional costs of making .8 pounds of BMP and the lower 
value of .8 pounds of BMP compared to the NFMP manufacturing cost and 
price. A 3-cent additional cost per pound of manufacturing .8 pounds of 
BMP would equal 2.4 cents, and a 25-percent reduction of the BMP value 
from that of NFDM would equal approximately 20 cents. These 
calculations would still leave 2.8-11.2 cents per hundredweight to 
cover any additional costs of making and selling BMP over those of 
NFDM.
    It should be noted that the additional 3 cents per pound cost of 
making BMP is on the high end of the information in the hearing record, 
and that the 25% reduction in value of BMP compared to NFDM is on the 
low end. Over the past 5 years, only during the period cited by 
witnesses testifying about the relative values of BMP and NFDM and 
during the first 4 months of 2000 has the BMP price as a percentage of 
the NFDM price fallen below eighty percent. In addition, the preceding 
calculations assumed that all of the nonfat solids not used in NFDM 
were used in BMP, whereas some are used in whole milk powder, which has 
a higher value than either NFDM or BMP. Therefore, elimination of the 
1.02 divisor is appropriate.
c. Class III Butterfat, Protein, and Other Nonfat Solids Prices
    In a change from the orders promulgated under the Federal order 
reform process, the tentative final decision calculated a Class III 
butterfat price from the value of butterfat in cheese rather than using 
the butterfat price calculated from the value of butter for both 
Classes III and IV. The Class III butterfat price in the tentative 
final decision was calculated to represent the value of the component 
in the NASS cheddar cheese price, as was a revised protein price 
formula.
    Before the interim final rule became effective on January 1, 2001, 
several petitions were filed requesting the Secretary to delay 
implementation because industry participants objected to the effects of 
the separate Class III butterfat price. Implementation could not be 
stayed because of the Congressional deadline on the rulemaking 
procedure, and partial implementation was not possible because the 
interim final rule had been approved by producers in its entirety. 
Before the separate Class III and Class IV butterfat prices could 
become effective, implementation of the separate butterfat prices was 
enjoined in the Federal District Court for the District of Columbia at 
the urging of organizations representing most of the interests in the 
dairy industry. The Court's order returned the price formulas for the 
Class III components to their earlier forms, with the new make 
allowances and cheese moisture adjustment incorporated.
    By the end of the comment period, comments representing nearly 100 
interested parties from most segments of the industry were received 
that objected to separating the Class III and Class IV butterfat prices 
and reducing the level of the protein price. The comments urged USDA to 
continue to calculate the Class III butterfat price on the basis of the 
value of butterfat in butter, and return to the Class III price formula 
formats in use before effectuation of the interim final rule.
    Several reasons were given for rejecting the change to Class III 
component prices based on the contribution of butterfat and protein to 
cheese yield. Numerous commenters cited the negative effects of a 
marked increase in the cost of milk for use in high-fat cheeses and the 
incentive created for handlers to substitute lower-valued Class IV 
forms of butterfat for use in cheese-making. Others stressed the 
difficulties created by the decision in marketing cream. Several 
commenters argued that the shift in value from protein to butterfat 
caused by the decision did not make sense in light of the importance of 
protein in cheese-making, and that the reduced protein price would send 
incorrect economic signals to dairy farmers. One particular concern was 
the potential significant reduction in the Class I skim value if the 
Class III price at 3.5 percent butterfat became the mover for the Class 
I price.
    Based on comments received, this decision recommends that the Class 
III butterfat price be the same as the Class IV butterfat price, 
calculated from the value of butterfat in butter. In addition, the 
portion of the protein price formula that adjusts the protein price to 
accommodate the differential value of butterfat in cheese, as opposed 
to butter, is incorporated in the formula. Technical corrections to the 
protein price formula are recommended that should make the protein 
price correlate somewhat more closely with the cheese price than has 
been the case with the earlier formula.
    The tentative final decision made only one modification to the 
specifications of the cheese price, currently a weighted average of the 
prices of cheese sold in 40-pound blocks and 500-pound barrels (with a 
3-cent addition to the barrel price). That change, to adjust the price 
of 500-pound barrels to 38 percent moisture instead of the 39 percent 
moisture price currently reported by NASS, is continued in this 
decision. Also as in the tentative final decision, this decision would 
reduce the make allowance for cheese from 17.02 to 16.5 cents per 
pound.
    The other nonfat solids price would continue to be calculated by 
subtracting the make allowance from the NASS-reported price for dry 
whey and dividing by .968. However, the make allowance is increased 
from 13.7 cents (14 cents in the tentative final decision) to 15.9 
cents per pound of dry whey.
    Class III Product Price (Cheese). Several proposals included in the 
hearing notice would, if adopted, have changed the NASS cheese price 
used in the Class III pricing formulas. One proposal would limit the 
cheese prices included to 40-pound blocks reported by the CME, while 
another would add 640-pound blocks to the prices surveyed by NASS for 
inclusion in the cheddar cheese price. A third proposal would replace 
the current 3-cent price adjustment between 500-pound barrel prices and 
40-pound block prices to a value that reflects the actual differential 
industry cost of making 40-pound blocks over 500-pound barrels. Still 
another proposal would adjust 40-pound block cheese prices for 
moisture, as 500-pound barrel prices are adjusted.
    As discussed above in Issue 2, CME commodity prices should not be 
used as the basis for calculating component prices. Eliminating 500-
pound barrels, which represent approximately two-thirds of the cheese 
represented in the NASS survey, from calculation of the market value of 
cheddar cheese would reduce greatly the degree to which the current 
product prices represent U.S. cheddar cheese prices. The record of this 
hearing provides no support for relying solely on prices for 40-pound 
blocks to identify a market price of cheddar cheese.
    Several parties testified that the NASS weighted average cheese 
price should include the value of 640-pound block cheese in the cheese 
price computation. They contended that such inclusion would improve the 
reliability of the average cheese price by adding a substantial 
quantity of cheese to the price survey. Witnesses' estimates of the

[[Page 54081]]

percentage of U.S. cheddar cheese production represented by 640-pound 
blocks ranged from 20 to 27 percent. Witnesses testified that the 
increased volume would better reflect the true value of cheese and 
additionally would reduce the potential for price distorting 
manipulation by individual handlers.
    In comments filed on the tentative final decision, IDFA stated that 
USDA had erred by excluding 640-pound blocks. IDFA reiterated the 
argument that 640-pound blocks represent as much as 27 percent of total 
cheddar cheese production. Furthermore, the comment noted that past 
data-collection problems are irrelevant because ``all participation in 
NASS surveys regarding data used to calculate federal order minimum 
prices is now mandatory.'' IDFA concluded that the argument that 640-
pound blocks should not be used due to their being made on a custom 
basis to customers' specifications is not valid because adjustments can 
be made, as they are for moisture in barrel cheese.
    Opponents to inclusion of the 640's in the cheese price computation 
explained that the vast majority of 640's are made on a custom basis to 
customers' specifications and therefore are not sufficiently uniform to 
have a standard identity. One witness noted that much of the commerce 
in 640's is made on a long-term contractual basis and as such would 
rarely be reflective of changing market conditions.
    ADCNE's comments on the tentative final decision reiterated USDA's 
position, stating that ``the market in 640-pound blocks of cheddar 
cheese does not involve sufficient buyers and sellers in arms-length 
transactions to provide good data to establish the Class III price for 
producer milk in all federal milk orders.''
    As stated in the tentative final decision, standardized pricing 
cannot be developed without a standard identity for the product, which 
640-pound blocks lack. In addition, there appears to be an insufficient 
volume of 640-pound block cheese transactions to warrant inclusion. At 
the beginning of the NASS survey, price data for 640-pound blocks was 
collected but was discontinued due to lack of volume and too few 
participants to allow disclosure of data. Even earlier (1995-96), the 
former National Cheese Exchange attempted to include trading in 640-
pound blocks but discontinued doing so because of lack of interest. 
Testimony from witnesses representing organizations that manufacture 
cheese in 640-pound blocks, and who favored inclusion of such product 
in the NASS survey, stated that the 640-pound blocks manufactured by 
their organizations are used internally, making that cheese ineligible 
for inclusion. Therefore, even though price reporting is now mandatory, 
640-pound blocks of cheese do not meet the criteria necessary for the 
prices of these products to be eligible for inclusion in the NASS 
survey.
    Elimination or reduction to one cent of the three-cent adjustment 
that is added to the barrel price for computing the weighted average 
cheese price was advocated in testimony at the hearing, comments 
contained in post-hearing briefs, and comments responding to the 
tentative final decision. The witnesses argued that since the barrel 
cheese price is adjusted to 39 percent moisture and block cheese is 
approximately 38 percent moisture, at least 2 cents of the observed 
difference in price between 40-pound blocks and 500-pound barrels is 
due to moisture and has nothing to do with actual differences in costs. 
In fact, they argued that there is no difference in packaging costs 
between block and barrel cheese.
    The witness for DFA, a cooperative that manufactures cheese 
packaged in both 40-pound blocks and 500-pound barrels, testified that 
three cents is an acceptable and reasonable spread between blocks and 
barrels and that there is no compelling reason to change the three-cent 
addition to the barrel price. The witness for LOL testified that the 
three cents is an appropriate difference between blocks and barrels and 
that adding three cents to the barrel price when computing the weighted 
cheese price is an appropriate adjustment. DFA and ADCNE argued, in a 
brief filed on behalf of both parties, that the record supports a 
conclusion that the 3-cent adjustment of the barrel price is 
attributable to volume utility and cost differences in packaging and 
handling.
    The National Cheese Institute, which proposed reducing or 
eliminating the 3-cent adjustment, argued that the adjustment should 
include only the actual cost differences involved in manufacturing and 
packaging the two sizes of cheese. Although a number of witnesses 
representing cheese manufacturers testified in favor of reducing or 
eliminating the adjustment, including one whose employer makes both 
sizes of cheddar, none of them addressed the actual cost differences of 
packaging and manufacturing 40-pound blocks and 500-pound barrels. 
Instead, the only testimony that was offered involved attributing a 2-
cent difference to the moisture-adjusted value of the two sizes of 
cheese packages. In comments responding to the tentative final 
decision, ADCNE argued that the 3-cent adjustment is representative of 
the historical difference in market value between barrel cheese and 
block cheese after adjustments for moisture.
    If the difference between the block and barrel prices were due to 
the difference in moisture, the difference between the prices should 
widen as the cheese price increases since the moisture adjustment is 
based on the price and moisture of the cheese. An analysis of 
historical cheese prices indicates that the difference between the 
block cheese and barrel cheese prices does not change with changes in 
price level. In fact, three of the largest differences between the 
block and barrel prices occurred at approximately the 40-month NASS 
weighted average monthly prices.
    In comments filed by Leprino Foods Company (Leprino) on the 
tentative final decision, Leprino argued that comparisons of the block 
and barrel cheese prices from May 1995 through December 1999 are not 
valid because of artificial market distortions. Leprino stated that 
valid relative price data is available only for calendar year 2000, 
during which the average spread is 1.54 cents. Leprino continued, in 
its comment, that the price spread between blocks and barrels does not 
move in lock-step because it is affected by many factors, and will 
continue to be driven by current market forces.
    The record contains no basis for concluding that the actual cost of 
manufacturing and packaging the two sizes of cheese is not the 
historical 3-cent price spread. In fact, during the period September 
1998 through June 2000 the difference between the block and barrel 
prices has been 4.4 cents per pound. The record of this proceeding 
supports maintaining the 3-cent addition to the barrel cheese price.
    An expert witness, and several other witnesses, testified that the 
moisture content of the cheese used for determining the NASS cheese 
prices and the moisture content used in the Van Slyke cheese yield 
formula used for computing the ``yield'' coefficients in the protein 
formula should be the same. The witnesses explained that failure to 
align the formula and the moisture content represented by the cheese 
price survey would result in overstating or understating the formula 
coefficients.
    The expert witness explained that the barrel cheese price is 
reported at 39 percent moisture after being adjusted from the actual 
moisture, while the block cheese price is reported at an unknown 
moisture level. The only testimony dealing with the actual moisture 
level of block cheese indicates that it averages about 38 percent.

[[Page 54082]]

    The coefficients originally used for determining the Class III 
protein price and the Class III butterfat price and used in the 
formulas in this decision were derived from using the Van Slyke cheese 
yield formula at 38 percent moisture. Therefore, it is appropriate to 
use cheese prices that reflect cheese containing 38 percent moisture. 
The current practice of using the 40-pound block cheese price 
unadjusted for moisture and the 500-lb barrel price adjusted for 
moisture should be continued, but with the barrel price adjusted to 38 
percent moisture instead of 39.
    In several comments on the tentative final decision, commenters 
stated that the 38-percent moisture adjustment to the barrel price 
requires an adjustment to 1 cent and not 3 cents for the price spread 
between 500-pound barrels and 40-pound blocks. Other interested persons 
filed comments supporting both adjustments. DFA argued in its comment 
that eliminating either adjustment should result in use of only 40-
pound block cheese prices.
    The hearing record provides no basis for altering the composition 
of cheese prices surveyed for use in the Class III pricing formulas or 
for changing the calculation of the NASS weighted average cheese price, 
other than the moisture adjustment to 38 percent for 500-pound barrels.
    Several witnesses testified that types of cheeses other than 
cheddar should be included in the NASS price survey as a more 
comprehensive basis for identifying a cheese price, although such a 
proposal was not included in the hearing notice. The cheddar cheese 
included in the NASS survey meets certain standard criteria that makes 
prices for the reported cheese sales comparable. If the survey included 
other descriptions of cheddar and other types of cheese, such as 
mozzarella, it would not be possible to consider the reported price as 
representative of the value of any particular product. Further, the 
manufacturing costs surveyed are, to a great extent, limited to the 
costs of processing cheddar cheese.
    Class III Make Allowance (Cheese). Several proposals to adjust the 
manufacturing allowance for cheese were included in the hearing notice 
and considered at the hearing. The NMPF witness testified that the 
organization had determined that the most appropriate cheese make 
allowance would be a weighted average of the updated RBCS and CDFA 
surveys, with addition of a marketing allowance. Thus, the NMPF 
supported adoption of a cheese make allowance of $0.1536 per pound of 
cheese. Several witnesses representing cooperative associations 
supported the NMPF $0.1536 proposal but also would have included a cost 
factor for return on investment. One witness testified that the make 
allowance should be based on data from actual plant operations through 
the surveys conducted by RBCS and CDFA and testimony from individual 
plant operators; that it should include California data, as California 
plants represent a large proportion of cheese manufacture; and that it 
should be generous enough to assure adequate plant capacity for 
continued manufacture of cheese.
    The witness representing NCI testified that the cheese make 
allowance should be no less that $0.1687, the weighted average of the 
NCI-sponsored and CDFA surveys with the addition of a marketing cost of 
$0.0011. He stated that such an allowance would represent the 
production of 24 cheese plants and 53% of U.S. cheese. Several cheese 
manufacturer representatives supported use of the NCI-supported make 
allowance, stressing the importance of adoption of an allowance that 
covers all of the costs of manufacturing cheese.
    A witness representing Farmers Union and the American Farm Bureau 
witness both supported adoption of a make allowance of $0.1521, as a 
weighted average of RBCS and CDFA data; and a witness for National 
Farmers Organization supported a make allowance of $0.141 composed of 
the RBCS cost with the addition of a marketing allowance and return on 
investment.
    Although ADCNE, in its comments on the tentative final decision, 
supported the use of California data as compiled and audited by a state 
agency, ADCNE disagreed with inclusion in the cheese make allowance of 
the CDFA ``general and administrative expense'' item, which added 1.9 
cents per pound to the make allowance. ADCNE described this allowance 
as ``generous, to say the least,'' as it represents $2-$3.5 million for 
the newest, largest, and most efficient cheese plants, and stated a 
preference for having some basis in testimony before building that sort 
of expense level into plant costs at the expense of minimum producer 
prices.
    The general and administrative expense was one of the cost factors 
included in the CDFA weighted average cost study, but not in the RBCS 
study. Therefore, it must be added to the RBCS data to make the two 
cost studies comparable.
    The make allowance used for computing the Class III protein and 
butterfat prices, $.165, was determined by combining the CDFA plant 
survey with the RBCS survey. As was pointed out by several witnesses at 
the hearing, several cost factors that are necessary to maintain the 
viability of processing plants are not represented in one or both of 
the RBCS and the CDFA studies. These cost factors include marketing 
costs, return on investment, and general and administrative expenses. A 
discussion of these expenses is included earlier in this decision. 
Neither the CDFA nor the RBCS survey included a marketing cost, so the 
$0.0015 marketing allowance was added to both studies. In addition, the 
CDFA return on investment cost of $0.0103 and the general and 
administrative expense of $0.0190, both of which were included in the 
CDFA weighted average cost, were added to the RBCS study, which 
included neither factor. The resulting adjusted costs for each survey 
are $0.1708 for CDFA and $0.15996 for RBCS. A weighted average of the 
two studies was computed using the respective adjusted make allowances 
and the pounds of cheese reported in each study--466,396,548 for the 
CDFA study and 633,142,812 for the RBCS study--to arrive at the Class 
III price make allowance of $0.165.
    In a comment filed in response to the tentative final decision, NFU 
stated that the reduction in the cheese make allowance should have been 
greater than $.0052, but that the cooperative could support an 
increased make allowance if it were tied to producer cost of production 
and market price through implementation of a variable make allowance. 
The $.165 make allowance is based on actual costs discovered by two 
surveys, the conduct of which were open to review in the hearing 
record, and is very close to the results of another that was conducted 
in a somewhat less accessible manner. There is no basis in the record 
for adopting a lower make allowance and, as discussed earlier, no 
acceptable rationale for implementing variable make allowances.
    Class III Butterfat Price. As discussed in the introductory portion 
of the Class III price section of this decision, above, the Class III 
butterfat price adopted in the tentative final decision was changed by 
a court injunction to be the same as the Class IV butterfat price. 
Based on evaluation of that decision and the comments received, this 
decision recommends that the butterfat prices for all classes of use be 
based on the value of butterfat in butter. The order will refer to both 
the Class III and Class IV butterfat prices as ``the butterfat price,'' 
as it did previously.
    The tentative final decision was based on the observation that 
market

[[Page 54083]]

distortions occur due to using the Class IV butterfat price calculated 
from the value of butterfat in butter to also represent the value of 
butterfat in cheese (Class III), and trying to incorporate the 
difference in value in the protein price. Analysis shows that there is 
very little relationship between the cheese price and either the 
current butterfat price or the current protein price.
    As a result, instances have occurred when the protein price 
declines while, at the same time, the cheese price is increasing. This 
outcome is contrary to the concept of pricing components on the basis 
of the value of the products in which they are used. The same inverse 
price scenario has affected the butterfat price, with occurrences in 
which the Class III butterfat price increases because the butter price 
has increased while the cheese market has been declining.
    Although reflection of the value of a manufactured product in the 
prices for the milk components that are instrumental in the yield of 
that product would require that the Class III protein and butterfat 
prices be tied more directly to their value in cheese than the result 
obtained from the Federal order reform price formulas, that outcome 
cannot be accomplished on the basis of this hearing record. However, 
any distortion between the Class III butterfat and protein prices and 
the cheese price should be ameliorated partially by the following 
changes recommended in the protein formula.
    Protein price. The tentative final decision on the hearing record 
for this proceeding derived formulas for calculating a Class III 
butterfat price and a protein price that considered only the 
contribution of each of those components to cheese yield and resulted 
in a 100 percent correlation with the cheese market. Therefore, the 
individual factors in the portion of the earlier protein price formula 
that adjusted the contribution of protein to cheese yield to account 
for differences in value between butterfat used in cheese and in butter 
and accounted for much debate in the hearing record were not considered 
in any detail.
    The protein price formula resulting from the tentative final 
decision took the following form:
    (NASS weighted average cheese price--.165)  x  1.405. This formula 
eliminated the following butterfat adjustment portion of the earlier 
protein price formula:

+ {[(NASS weighted average cheese price--.165)  x  1.582]--[the 
butterfat price]}  x  1.28

    This butterfat adjustment portion of the formula represents the 
difference between the value of butterfat used in cheese and the value 
of butterfat used in butter. The butterfat adjustment portion became 
unnecessary when the Class III butterfat price was calculated from the 
value of butterfat in cheese in the tentative final decision.
    Reconsideration of the protein formula in light of the 
determination that there should be only one butterfat price for Class 
III and Class IV results in the following recommended protein price 
formula:

[(NASS weighted average cheese price--.165)  x  1.405] + ({[(NASS 
weighted average cheese price--.165)  x  1.582]--[the butterfat price 
x  .9]}  x  1.17).

    Leprino, in response to the tentative final decision, urged that 
the 1.405 factor used to reflect the yield effect of one pound of 
protein in milk be reduced to 1.367 because the 1.405 factor assumes 
that true protein contains more casein (83.3%) than is supported by 
testimony in the record (82.2--82.4%).
    The hearing record contains much discussion of the derivation of 
the 1.32 cheese yield factor per pound of crude protein used to 
determine the 1.405 cheese yield factor per pound of true protein. Two 
explanations of the factor were advanced. The first involved assumption 
of 75 percent casein retention, 90 percent butterfat retention, and 38 
percent moisture content in the cheese. Holding butterfat and moisture 
constant and changing the protein content by .1 results in a .1318 
(rounded to .132) pound change in the cheese yield, or a one percent 
change in protein results in a 1.32 pound change in cheese yield. The 
second method assumes 78 percent casein retention, 90 percent butterfat 
retention, and a 38 percent moisture content in the cheese. In this 
second method the cheese yield is computed using a 3.2 percent protein 
and zero butterfat. The resulting cheese yield is divided by 3.2 to 
arrive at 1.316 pounds of cheese per pound of protein. The 1.316 was 
rounded to 1.32. Given these particular assumptions, both methods 
resulted in the same answer--1.32. A witness for National All Jersey 
testified that the second method is the appropriate procedure and was 
the one used to compute the 1.32 yield factor in past Federal order 
protein price decisions. However, if 78 percent is a more appropriate 
factor to use as the appropriate value for casein retention, then the 
first method yields a 1.37 yield factor. The 1.32 factor was used in 
the protein price formula in the Federal order reform proposed rule and 
in the five Upper Midwest markets beginning in January 1996 to compute 
the protein price prior to Federal order reform. The 1.32 yield factor 
generally has been accepted as an appropriate factor to use for 
computing a protein price.
    When the final decision on Federal order reform was issued, the 
protein price computation was changed to compute the protein price on 
the basis of true protein rather than crude protein, which had been the 
basis for protein price computations in the past. As in determining the 
1.32 factor, certain assumptions were made to arrive at the current 
1.405 yield factor. The 1.405 factor was computed based on the 
assumption that milk testing 3.3 percent crude protein has an 
equivalent true protein test of 3.1 percent. The relationship between 
crude protein and true protein was based on the results of laboratory 
testing of producer milk for both crude and true protein. The resulting 
percentage change in protein is 106.4516 (3.3/3.1), which was then 
multiplied by 1.32 to arrive at 1.405. In addition, use of the 1.405 
yield factor when pricing true protein results in a protein value 
equivalent to use of the 1.32 factor in pricing crude protein.
    Regardless of which procedure is used, assumptions must be made 
with regard to the various factors used in the formulas. These 
assumptions directly affect the outcome of the factors used in the 
protein formula and the resulting protein price and value. Since use of 
the 1.405 factor results in an equivalent protein value to use of the 
1.32--and there was no testimony or comments filed that the 1.32 factor 
was not appropriate--there is no reason to change the 1.405 cheese 
yield factor in this decision.
    Leprino argued that the appropriate casein recovery should be 82.3 
percent which, when using the second procedure above with a 2.99 true 
protein level, would result in a factor of 1.388. However, the majority 
(\2/3\) of the difference between 1.405 and the 1.367 factor advocated 
by Leprino accounts for shrinkage between the farm and the cheese vat. 
The issue of including shrinkage as an additional make allowance or 
yield factor in the calculation of component prices has been discussed 
earlier in this decision and determined to be inappropriate. 
Eliminating shrinkage from the 1.367 protein factor results in a factor 
close to the 1.405. In fact, using the second procedure above and a 
82.95 casein recovery, which an expert witness testified is equivalent 
to the 78 percent casein recovery used for crude protein, and a true 
protein test of 3 percent, which is equivalent to the 3.2 percent

[[Page 54084]]

used in the second procedure, the protein factor would be 1.3997, not 
significantly less than the 1.405. Testimony from other parties stated 
that the 1.405 is appropriate and should be continued.
    Based on the hearing record, comments filed in response to the 
hearing and tentative final decision, and the above analysis, there is 
no justification for reducing the 1.405 cheese yield factor.
    Since all of the butterfat used in Class III is to be priced on the 
basis of its value in butter, an adjustment must be made to account for 
the difference in butterfat values between cheese and butter. The 
butterfat adjustment portion of the protein price formula is the method 
chosen for making that adjustment. The first part of the butterfat 
adjustment portion of the protein price formula calculates the value of 
butterfat in Cheddar cheese using the Van Slyke formula, assuming a 90 
percent recovery of butterfat in the finished cheese. The resulting 
cheese yield factor attributable to butterfat is a multiplier of 1.582. 
Testimony in the hearing record and comments on the tentative final 
decision urged adoption of different multipliers in the butterfat 
adjustment portion of the protein price formula that represents the 
effects of butterfat on cheese yield. Suggestions to increase the 
butterfat recovery factor of 1.582 (to 1.6 or 1.617) were made by DFA; 
Select, Elite, et al.; and National All-Jersey, Inc. These commenters 
relied on hearing testimony that butterfat recovery in cheddar cheese 
generally ranges between 90 and 93 percent, although Kraft testified 
that their butterfat recovery is lower. The commenters favored use of a 
factor that reflected 91 or 92 percent fat recovery because that level 
of recovery is common. In a comment filed by Leprino, the cheese 
manufacturer urged that the 1.582 factor not be increased, as any 
increase would exacerbate the overvaluation of whey fat in the current 
formula and because the 90 percent recovery factor reflects results 
from many cheese vats installed prior to the late 1980's.
    Even though many cheese makers may be able to achieve a higher fat 
retention in cheese, use of the 1.582 factor representing 90 percent 
fat recovery in cheese continues to be appropriate. As a result of the 
90 percent level, butterfat in cheese is not overvalued, and those 
cheese makers who fail to recover more than 90 percent of the fat will 
not suffer a competitive disadvantage. The preponderance of the record 
indicates that most cheese manufacturers should be able to obtain a 90 
percent butterfat recovery.
    In testimony at the hearing and comments filed on the tentative 
final decision the issue was raised of whether the butterfat adjustment 
portion of the protein price formula in which the value of butterfat in 
butter is subtracted from the value of butterfat in cheese is based on 
equivalent amounts of butterfat. The 1.582 factor represents 90 percent 
recovery in cheese of one pound of butterfat used in its manufacture, 
while the butterfat price represents the value of one pound of 
butterfat used to make butter. Clearly, subtracting the value of a 
pound of butterfat in butter from the value of .9 pounds of butterfat 
in cheese reduces the actual value of butterfat used in cheese. 
Therefore, the value of butterfat used in butter should be reduced by 
10 percent in this calculation.
    Testimony at the hearing and analysis of the relationship between 
the current cheese, butterfat, and protein prices revealed that the 
current Class III pricing formulas cause inequities in producer 
payments based on the relationship between producers' butterfat and 
protein tests. The inequities were attributed to the use of the 1.28 
factor used in the portion of the protein price formula that is 
designed to incorporate the butterfat value of milk used in cheese that 
is not already accounted for by the Class III and IV butterfat price. 
Such a factor is necessary to reflect the fact that there is more than 
one pound of butterfat in cheese for every pound of protein.
    The record supports a conclusion that when the price of butter 
increases, the price paid for milk used in cheese and for milk 
delivered by producers will decline if the milk has a fat to protein 
ratio of less than 1.28, and decline at a more rapid rate than that at 
which the butter price increases. According to the record and numerous 
comments filed, most milk delivered by producers has a fat-to-protein 
ratio less than 1.28.
    In a number of the comments filed in response to the tentative 
final decision, commenters argued that this factor should be reduced--
to 1.22, 1.19, or 1.17--to better reflect the fat-to-protein ratio in 
producer milk. The factor, which originally appeared in a comment filed 
early in the Federal order reform process as 1.20, was calculated by 
dividing 1.582 by 1.32. When the change was made from crude protein to 
true protein, 1.20 was multiplied by 1.0645 to reflect that change, 
becoming 1.28. The recommended factor of 1.17 in the protein price 
formula represents a minimum value for the ratio of butterfat to true 
protein in producer milk. Its use assures that the value adjustment for 
butterfat in butter to butterfat in cheese included in the protein 
price formula accounts for the full amount of butterfat in producer 
milk.
    The Alliance of Western Milk Producers argued in a comments filed 
in response to the tentative final decision that the Class III 
component price formulas adopted in that decision would lead to 
disorderly marketing and provide an incentive for processors to seek 
alternative sources of butterfat, resulting in negative effects on 
producer income. The Alliance favored a return to the Federal order 
reform Class III component price formulas, but suggested that a snubber 
to prevent the butterfat value adjustment to the protein price from 
becoming negative would mitigate the potential for undervaluing protein 
under the formula.
    Although the protein formula recommended in this decision would 
still allow the butterfat value adjustment to have a negative effect on 
the protein price, use of the .9 multiplier in the butter portion of 
the butterfat value adjustment and reduction of the 1.28 multiplier to 
1.17 should reduce the magnitude of that effect.
    Class III--Other Nonfat Solids price (Dry Whey). This decision 
continues to calculate the price of the nonfat solids other than 
protein in milk used to make cheese by subtracting a manufacturing 
allowance from the NASS dry whey price and dividing the result by the 
content of these ``other nonfat solids'' in dry whey. No change is made 
or was proposed in the dry whey product price or divisor in the 
formula. The manufacturing allowance for dry whey is increased from the 
14 cents per pound adopted in the tentative final decision to 15.9 
cents per pound of dry whey to reflect a higher cost of drying whey 
than of drying nonfat dry milk. This decision is also changed from the 
tentative final decision to remove the snubber in the other solids 
formula that would prevent the other solids price from falling below 
zero.
    The hearing included several proposals that would change the dry 
whey or other solids price formula by changing the make allowance. 
Although the hearing notice included a proposal to use the CME average 
dry whey price, the proponent withdrew support for the proposal when it 
became apparent that the CME has no cash exchange market for dry whey. 
The NASS survey that currently is being used to identify commodity 
prices has included price data on dry whey since September 1998. There 
were no proposals to change the 0.968 yield factor in the other solids 
price formula. The 0.968 factor reflects

[[Page 54085]]

the solids content of dry whey, given a 3.2 percent moisture content.
    Make Allowance (Dry Whey). Since the most recent CDFA and RBCS cost 
surveys did not include costs for drying whey, there is no information 
from those two studies to use for computing the dry whey make 
allowance. A witness from NMPF suggested using the nonfat dry milk 
manufacturing cost allowance for dry whey since both products involve 
similar processing equipment and then adding $0.01 per pound to reflect 
the additional energy and higher equipment costs incurred in drying 
whey. Since the make allowance for nonfat dry milk adopted under the 
tentative final decision is $0.140, this procedure would result in a 
dry whey make allowance of $0.150.
    DFA proposed a dry whey make allowance of $0.1478 per pound based 
on costs at its plant at Smithfield, Utah. The plant is a cheddar block 
plant running throughout the year that condenses and dries whey from 
the cheese manufactured in this Smithfield plant only. The DFA costs 
include both direct and indirect costs, and return on investment and 
marketing cost data.
    A witness from WSDPTA testified that there is no reason to change 
the other solids price computation from the current formula, and that 
it is a necessary component of the cheese pricing formula. He noted 
that the use of dry whey as a commodity is correct and that the 0.968 
factor in the pricing formula reflects 96.8 pounds of solids in 100 
pounds of dry whey.
    Most witnesses who testified about the cost of drying whey 
expressed the belief that drying whey costs more than drying nonfat dry 
milk. Two cooperative association witnesses testified that their 
organizations have determined that the returns from whey powder with 
the current make allowance would not cover the costs associated with 
building and operating whey powder plants.
    IDFA presented the results of the survey, discussed earlier in this 
decision, contracted for by NCI. The IDFA witness testified that the 
survey showed a dry whey manufacturing cost of at least $0.1592. The 
IDFA witness testified that using the nonfat dry milk make allowance 
significantly understates the manufacturing cost of dry whey due to the 
relatively higher percentage of water in liquid whey compared to skim 
milk and the additional crystallization process required.
    A witness representing Leprino testified on the differences in the 
manufacturing processes for dry whey and nonfat dry milk that result in 
higher costs to produce whey powder. The witness concluded that the 
cost of making dry whey is $0.02559 above the cost of drying nonfat dry 
milk.
    The brief submitted by Leprino argued that the additional costs of 
processing whey powder over those of processing nonfat dry milk should 
include additional staffing, cleaning, and maintenance associated with 
the additional equipment for whey product.
    A witness from Kraft agreed that the dry whey manufacturing costs 
are about 2.6 cents per pound greater than the nonfat dry milk 
manufacturing costs. Although Kraft described its Tulare plant as large 
and efficient, it also represents a recent capital investment, meaning 
that depreciation costs are likely higher than average.
    Comments on the dry whey make allowance portion of the tentative 
final decision generally followed the lines of the testimony in the 
hearing record. WSDPTA favored maintaining the 14-cent make allowance 
adopted in the tentative final decision, and ADCNE/DFA supported not 
using the NCI survey on the manufacturing cost of dry whey. IDFA, 
Leprino, and Northwest Dairy Association advocated adoption of a dry 
whey make allowance of at least 15.92 cents per pound, the level 
determined in the NCI survey. These comments cited testimony in the 
record that the cost of drying whey is as much as 2.6 cents greater 
than that of drying skim milk, a calculation that would result in a 
make allowance of 16.6 cents. Kraft favored adding a value reflecting 
the reduced value of butterfat in whey to the whey make allowance and 
increasing the make allowance by at least 2 cents.
    Since information regarding the costs of drying whey was not 
available from the sources used for determining the other make 
allowances in product price formulas, the tentative final decision 
determined that the dry whey make allowance should remain the same as 
that for nonfat dry milk. However, that determination should be changed 
to reflect testimony and other evidence in the hearing record that the 
cost of drying whey is greater than that of drying nonfat dry milk.
    The other solids price will be computed by subtracting the make 
allowance of $0.159 from the NASS weighted average dry whey price and 
dividing the result by .968. The differential costs of manufacturing 
whey powder, from one source, over those of nonfat dry milk, from 
others, do not provide close enough agreement with the NCI-sponsored 
survey to use them with any confidence. Neither of the witnesses who 
testified that the extra costs of drying whey are 2.6 cents greater 
than the costs of drying nonfat dry milk testified about the total 
costs of either operation.
    In lieu of other studies and direct evidence of the total cost of 
drying whey, the NCI-commissioned study results, rounded to the nearest 
1/10 cent, should be used for determining the make allowance.
    Snubber/Other Solids Price. The tentative final decision snubbed 
the other solids price at zero. Thus, if the NASS dry whey price minus 
the make allowance resulted in a negative number, the other solids 
price would become zero. Michigan Milk Producers Association supported 
the inclusion of such a ``snubber'' concept for the whey price in a 
brief, citing testimony in which the DFA witness referred to the 
difficulty of explaining to producers a negative component price. 
Snubbing the other solids price to zero would have prevented it from 
negatively affecting the value of other Class III components or having 
a negative impact on the producer price differential. Support was 
expressed for use of the snubber in two comments.
    The snubber in the other solids price formula was opposed in 
comments filed by two parties. Leprino stated that sound policy should 
allow not only positive, but negative net revenues to be reflected in 
the milk price to prevent overvaluing milk. IDFA opposed the snubber on 
the grounds that it would prevent manufacturers of dry whey from 
covering all manufacturing costs if wholesale prices for dry whey 
failed to fully cover manufacturing costs. Both commenters suggested 
that if the component price were to become negative, the negative value 
could be pooled as part of the producer price differential, as inferred 
by the DFA witness.
    The prices calculated for the components in Class III milk are 
intended to reflect the value of those components in the products from 
which the prices are calculated. Use of a snubber to limit the other 
nonfat solids price would be inconsistent with the purpose of a pricing 
formula to reflect a component value and would appear to be an 
arbitrary adjustment to the price formula. After a thorough review of 
the record, including briefs and the comments on the tentative final 
decision, USDA has determined that the snubber on the other solids 
price should be eliminated.
d. Effects of Changes to Class III and Class IV Price Formulas
    The changes to the Class III and Class IV component price formulas 
discussed above would result not only in changes

[[Page 54086]]

to the respective component prices, but also to the resulting Class III 
and Class IV skim milk and hundredweight milk prices at 3.5 percent 
butterfat. The changes discussed in this portion of the decision are 
relative to the formulas resulting from Federal order reform. The 
calculations that follow, and those included in the model analysis of 
this recommended decision, show some increase in the level of the Class 
III price. USDA believes that the Class III pricing formulas 
incorporated in this decision are more technically correct than those 
adopted as a result of Federal order reform because they are based on 
more complete information derived through the formal rulemaking 
process.
    It is important to note that these calculated class price 
differences, or the ``static effect'' of the recommended changes, are 
based on historical product price data and not on product prices that 
will occur in the future. The price differences calculated in this 
portion of the decision cannot be used to calculate or estimate changes 
in revenue that would have occurred or may occur in the future because 
changing intersections of supply and demand for each product result in 
different prices.
    All of the comparisons that follow are calculated based on the NASS 
weighted average commodity prices from January 2000 through July 2001. 
NASS weighted average commodity prices for this time period were 
available, and no estimates of the relevant commodity prices need to be 
made. Although this time period is relatively short, a number of 
interesting price relationships occurred in the data series.
    For instance, during this period the cheddar cheese (39 percent 
moisture) market ranged from a low of $1.0245 per pound during November 
2000 to a high of $1.6434 per pound during July 2001. The November low 
was about 7.5 cents below the $1.10 per pound support price for 40-
pound blocks of cheddar. During this same 19-month period the NASS 
weighted average nonfat dry milk price showed little movement until 
July 2001, ranging from a high of $1.0165 per pound during January 2001 
to $0.9634 per pound during July 2001. The July 2001 decline was the 
result of a reduced support price. In fact, the nonfat dry milk price 
stayed within about one cent of support over the January 2000 through 
June 2001 period.
    Unlike the cheese and nonfat dry milk market, the butter price did 
not trade anywhere near the butter support price of $0.65 per pound or 
the revised support price of $0.8548 per pound. The butter price traded 
in a range from a low of $0.8820 per pound during January 2000 to a 
high of $1.9263 per pound during June 2001. It is important to keep in 
mind that since all milk is priced on the basis of butterfat and skim 
or nonfat components under Federal orders, focusing on the calculated 
hundredweight prices at 3.5 percent butterfat that are announced for 
comparison purposes may result in misleading conclusions.
    The formulas used for computing the Class IV prices are unchanged 
from those contained in the interim final decision, which currently are 
being used.
    Changing the butterfat price make allowance from $0.114 to $0.115 
results in a calculated average decline in the Class IV butterfat price 
of $0.0012 over the 19-month period studied. The two changes to the 
Class IV nonfat solids formula--increasing the make allowance from 
$0.137 to $0.140 and eliminating the 1.02 divisor--would result in a 
net increase of $0.0141 per pound in the Class IV nonfat solids price 
in the absence of any other changes. Since the Class II prices are to 
continue to be computed on the basis of the Class IV formulas plus the 
Class II differential of $0.70 per hundredweight, changes to the Class 
II prices will be the same as the changes to the Class IV prices. The 
calculated Class IV skim milk price would increase by an average of 
$0.127 per hundredweight. The calculated 3.5 percent Class IV milk 
price would increase by an average of $0.118 per hundredweight, 
reflecting the net difference between the increase in the skim milk 
price and the very small decline in the Class IV butterfat price.
    As a result of the 38-percent moisture adjustment to barrel cheese 
prices, the NASS weighted average cheese price used for computing the 
Class III protein price would be calculated to be higher by $0.011 per 
pound over the 19-month period January 2000 through July 2001. Use of 
this cheese price increase in the recommended protein price formula 
results in an increase of 3.6 cents per pound of protein. The decrease 
in the make allowance from $0.1702 to $0.165 in the recommended protein 
price formula accounts for an increase of 1.7 cents per pound of 
protein. The two changed factors in the protein price formula (0.9 and 
1.17), using data for the 19-month period, result in an increase in the 
calculated protein price averaging approximately 14.8 cents. The total 
increase in the protein price as a result of three changes to aspects 
of the Federal order reform protein price formula (moisture adjustment, 
make allowance, and formula changes) would be approximately 20.6 cents 
above the price that would have been computed based on the formula 
prior to 2001.
    At the same time, the increase from $0.137 to $0.159 in the dry 
whey make allowance for calculating the other solids price results in a 
calculated decline in the other solids price of $0.0227 over the 19-
month period. Elimination of the snubber on the other solids price 
would have made no difference during the period considered. The 
combination of the changes in both the protein price and the other 
solids price would have resulted in an average of about $0.50 per 
hundredweight increase in the Class III skim milk price over the 19-
month period if cheese and dry whey prices were unchanged.
    The changes in the protein price formula improve significantly the 
relationship between the cheese price and the protein price, from a 
correlation coefficient of 0.54, using the Federal order reform protein 
formula, to a correlation coefficient of .70 using the formula 
recommended in this decision. In addition to improving the relationship 
between the cheese price and the protein price, the recommended protein 
formula reduces the variability of the protein price and moderates the 
extremes that occurred under the Federal order reform protein formula, 
thereby giving producers a more consistent and positive protein price 
signal.
    The calculation of the Class III price at 3.5 percent butterfat, 
based on the formulas contained in this decision, would have averaged 
about $0.48 per hundredweight above the 3.5 percent Class III price 
based on the Class III formulas implemented under Federal order reform.
    In comments filed in response to the tentative final decision, IDFA 
and Leprino urged that in no case should the Class III price be 
enhanced relative to price levels under Federal order reform. Leprino 
reiterated arguments addressed earlier as to the importance of assuring 
that yield factors not be too high or make allowances too low for 
cheese plants to make enough profit to maintain their operations. IDFA 
focused on the negative long-term effects on producer prices, as 
described in USDA's analysis, of adopting enhanced Class III and Class 
IV prices. As described in detail above (in Issue 3c), the factors 
incorporated in the Class III component price calculations are based 
solidly on testimony and data in the hearing record.
    The record provides ample basis for believing that the margins 
allowed for cheesemakers under these recommended price formulas should 
be entirely adequate for them to maintain

[[Page 54087]]

their operations. As observed at the hearing and in comments filed in 
response to the tentative final decision by the expert witness from 
Cornell, a break-even point would be where the value of cheese plus 
whey cream plus whey powder equals the value of the milk price plus the 
make allowances. According to the witness, under Federal order reform, 
and to a greater extent in the tentative final decision, the total 
value of these products exceeded the sum of the milk price and the make 
allowances.
    The discussion at the hearing centered specifically on the make 
allowance used in the protein formula, with the implication that it 
represented the entire make allowance for cheese. Unlike the Class IV 
price formulas, where the make allowances used in the butterfat and 
nonfat solids price formulas can be attributed directly to butter and 
nonfat dry milk, the make allowances used for butterfat, protein, and 
other solids in the pricing formulas for Class III must be looked at in 
aggregate. All three components are involved in the cheesemaking 
process and have a significant effect on cheesemakers' costs and 
returns.
    Gross margins (including make allowances) can be compared using 
both the cost of milk based on the Federal order reform Class III 
formulas, and the cost of milk based on the Class III formulas 
recommended in this decision. For this purpose, gross margins are 
defined as the difference between the sum of the selling price of 
cheese and dry whey based on monthly average NASS prices and whey 
butter, estimated at nine cents below the NASS AA butter price, and the 
cost of milk under the two sets of formulas. The gross margins 
therefore reflect the amount of money available to processors to 
procure, process, and market the end products of milk used in Class 
III: cheese, whey butter and dry whey.
    Using Class III component tests from the Upper Midwest market to 
estimate product yields, the estimated gross margins would have 
averaged approximately $3.00 per hundredweight using the Federal order 
reform Class III formulas and $2.52 per hundredweight over the 19-month 
period of January 2000 through July 2001 if the recommended Class III 
formulas had been in effect. These gross margins are significantly 
different than the cheese make allowances of $0.1702 and $0.165 used in 
the formulas, which would be equivalent to approximately $1.70 and 
$1.65 per hundredweight of milk with a estimated yield of 10 pounds of 
cheese. Such a difference is expected since the make allowances for 
whey butter and dry whey are significantly lower than the cheese make 
allowance. Any residual value can be used by the handler to improve 
returns or increase producer pay prices. Also, the lower gross margins 
under the recommended formulas could lead to reduced over-order 
premiums to reflect increased milk costs and maintain current gross 
margins.

4. Class Price Relationships

    The price relationships between classes established under the 
Federal order reform process should be maintained. One proposal heard 
in this proceeding would have reduced the Class IV butterfat price 
without affecting the computation of other butterfat or product prices. 
That proposal is addressed specifically in the section of this decision 
dealing with Class IV Butterfat price.
    The current pricing system uses the same formulas for computing the 
advance component prices used to compute the Class I skim milk and 
butterfat prices and Class II skim milk price as are used to calculate 
the Class III and Class IV component prices. Several witnesses 
testified as to what the class price relationships should be if changes 
were made to any of the Class III or Class IV component price formulas. 
The witness for IDFA and several other parties stated that any changes 
to the Class III and Class IV formulas should also apply to the advance 
price formulas used for computing the Class I and Class II prices. The 
witness explained that failure to use the same formulas between the 
related classes of use would result in a direct impact on the Class I 
and Class II differentials which was clearly not the intent of Congress 
when Congress instructed the Secretary to conduct a rulemaking 
proceeding concerning the Class III and Class IV price formulas.
    A witness for Hershey Foods pointed out that the Secretary went to 
great lengths to justify the 70-cent Class II differential above the 
Class IV price. In support of Proposal 31, the witness said that there 
is no justification or new evidence for changing the current price 
relationship that exists between the manufactured products (butter and 
nonfat dry milk) and the Class II price if the Class IV formulas were 
revised as suggested in several proposals. The witness stated that such 
changes in price relationships clearly were not the intent of Congress. 
A brief filed on behalf of IDFA in support of Proposal 31 stated that 
the correct price relationship between NFDM and Class II is 70 cents 
and that the record provides no basis for changing that relationship. 
Actually, as explained in the final decision on Federal order reform, 
70 cents represents the correct price relationship between milk used to 
make dry milk powder and milk used in Class II, as nearly as can be 
determined from the information available.
    A proposal (Proposal 30) by two parties that any increases 
resulting from changes to the Class III and Class IV price formulas not 
be allowed to result in increases in Class I prices was supported in 
testimony by one of the parties, who argued that any increases in the 
Class I price mover should be balanced with reductions in Class I 
differentials. The witness stated that the proponents want to be sure 
that Class I prices are not further decoupled from Class III and Class 
IV pricing formulas, or that Class I prices are not artificially 
inflated.
    Neither Proposal 30 nor Proposal 31 were adopted under the 
tentative final decision.
    In comments on the tentative final decision filed by ADCNE and 
fully supported by DFA, consideration of Proposal 30 was opposed as 
being beyond the scope of the Congressional mandate and not fully 
debated at the hearing. ADCNE further opposed any modifications to 
Proposal 30, such as the Family Dairies' testimony supporting a 
weighted average Class I price mover, or to a similar proposal relative 
to the Class II price, that would change the basis for Class I and 
Class II prices or Class I and Class II differentials. ADCNE continued 
that there was no evidence presented at the hearing that would support 
the substantial revenue reductions to farmers throughout the Federal 
order system which Proposals 30 and 31 would cause. ADCNE urged that 
the conclusions of the tentative final decision to deny proposals 30 
and 31 be affirmed.
    Neither the price relationships established in the final decision 
between milk used in Class III or Class IV and milk used in Classes I 
and II should be changed. To the extent that there may be differences 
in the Class III or Class IV prices between the current prices and 
those adopted in this decision as a result of adjustments to the 
component pricing formulas, those changes should be reflected in the 
Class I and Class II prices. Any reevaluation of the formulas used to 
price the components used in manufactured products should be carried 
through to the class prices that are based on those component prices. A 
change in the computation of the nonfat solids price, for instance, is 
intended to better reflect

[[Page 54088]]

the value of those solids in dry milk products. If the new nonfat 
solids price formula results in an increase in the Class IV price, the 
record provides no basis for changing the difference in the value of 
the milk used in those solids between Class IV and Class II use. 
Similarly, the availability of milk for use in Class I is related to 
the higher of the alternative manufacturing values for that milk. The 
current relationships should be maintained.

5. Class I Price Mover

    A proposal that was not included in the hearing notice was made at 
the hearing by a Family Dairies, USA, witness on behalf of that 
cooperative and the Midwest Dairy Coalition, which represents 13 
additional organizations representing dairy farmers. The proposal would 
change the Class I price mover from the higher of the Class III and 
Class IV prices to a weighted average of the two. The witness for 
Family Dairies testified that the results of the current regulation are 
disturbing and unanticipated with the unexpected strength of the Class 
IV price relative to Class III.
    In testimony at the hearing, the Family Dairies representative 
complained that 10 percent of production under Federal orders (milk 
used to make nonfat dry milk) has been driving the Class I price that 
applies to 40% of the milk. As a result, he testified, milk production 
for fluid purposes is encouraged in markets with high Class I 
differentials and relatively high Class I use at a time when marketing 
conditions (an oversupply of milk) should have the opposite effect. As 
fluid-oriented markets are receiving increased prices relative to 
markets in which cheese is the dominant use, he complained, inequities 
in blend prices between markets are increasing.
    A group representing upper Midwest producer interests filed a brief 
describing the recent movement of milk from the Upper Midwest pool onto 
the Central and Mideast marketwide pools as disorderly marketing caused 
by increases of Class I prices in these higher-Class I use markets.
    An argument stated in another brief stated that since the 1960's 
the dairy industry has used a Class I mover tied to a market-clearing 
price represented by a weighted average of milk used in butter, cheese, 
and powder.
    In several briefs it was argued that the Regulatory Impact Analysis 
(RIA) published with the final decision on Federal order reform stated 
that the price formulas adopted therein were expected to generate a 
sufficient quantity of milk, and that both the adoption of Class I 
pricing option IA and use of the higher of the Class III and IV prices 
as the price mover have worked to enhance Class I price levels.
    A brief filed by a group representing fluid milk handlers suggested 
that USDA should give careful consideration to the proposal to use a 
weighted average of the Class III and Class IV prices to move Class I 
prices.
    Based on analysis of the hearing record and briefs filed by 
interested persons, the tentative final decision continued use of the 
higher of the advance Class III or Class IV prices as the mover for 
Class I prices.
    In comments on the tentative final decision, the Midwest Dairy 
Coalition repeated its position that the existing mover should be 
changed to a weighted average of the advanced Class III and advanced 
Class IV prices, with the weight based on the portion of manufacturing 
milk used for Class III and Class IV during the prior year. The 
Coalition stated that using the higher of Class III or Class IV prices 
could result in setting a minimum fluid milk price that is actually 
above the market clearing price for milk, especially if the higher of 
the Class III and IV prices were not representative of manufacturing 
markets. The Coalition also expressed concern that the tentative final 
decision adopted, as an unnoticed and unsupported change, the higher of 
the advanced Class III or Class IV milk prices at 3.5 percent butterfat 
as the new Class I mover instead of using the skim value.
    In comments, NMPF noted that significant fluctuation that could 
occur in the Class I skim milk price mover due to using the higher of 
the advanced Class III or Class IV prices at 3.5 percent butterfat. 
Several parties noted that use of the advanced price at 3.5 percent 
butterfat could cause the Class III price to be the Class I price 
mover, even with a very low Class III skim milk price, causing 
significant month-to-month changes in the Class I skim milk price.
    Michigan Milk Producers Association (MMPA) filed comments, stating 
that using a weighted average to set the Class I mover would severely 
impact fluid users' ability to attract sufficient quantities of milk 
when there were large differences between Class III and Class IV 
prices. MMPA and NMPF supported the continued use of the higher of the 
Class III or Class IV prices as the Class I mover.
    ADCNE's comments, fully supported by DFA, expressed opposition to 
the Family Dairies' proposal for a weighted average Class I price mover 
or any other proposal that would change the basis for Class I and Class 
II prices or Class I and Class II differentials. ADCNE argued that 
there was no evidence presented at the hearing that would support the 
substantial revenue reductions to farmers throughout the Federal order 
system which would result from adoption of the weighted average Class I 
price mover. ADCNE urged that the conclusions of the tentative final 
decision to continue to use the higher of the advanced Class III and IV 
prices as the basis for calculating the Class I price mover be 
affirmed.
    The shift in the pooling of milk from the upper Midwest to higher-
valued markets complained of in one upper Midwest brief has been a 
long-sought outcome on the part of upper Midwest producer groups. It is 
difficult to understand why it is now seen as a manifestation of 
disorderly marketing.
    Those briefs that cited the sufficient level of milk production 
projected under the RIA for Federal order reform appeared to base their 
arguments in opposition to use of the ``higher of'' Class I price mover 
on that projection. It should be noted that Congressional action 
relative to Class I prices following issuance of the final decision on 
Federal order reform applied only to the Class I pricing surface. Use 
of the higher of the Class III and IV prices as the Class I price mover 
was included in Federal order reform and in the accompanying RIA.
    The Upper Midwest Coalition's concern that the tentative final 
decision adopted the higher of the advanced Class III or Class IV milk 
prices at 3.5 percent butterfat instead of using the skim value as the 
new Class I mover, and the NMPF criticism that doing so would result in 
significant fluctuations in the Class I skim price is now moot because 
of the return to the use of one butterfat price. Use of the same 
butterfat price for the Class III and Class IV prices will result in 
the ``higher of'' the two being determined by the relative skim milk 
prices. Therefore, fluctuations in the Class I skim milk price 
projected under the tentative final decision should be reduced as a 
result of this decision.
    The price referred to in the brief expressing preference for the 
historical use of a weighted average of prices paid for milk used in 
butter, cheese, and powder was, at first, the Minnesota-Wisconsin price 
series (the M-W). The M-W, and later the M-W adjusted by a weighted 
average of current product prices for manufactured products, was 
specific to the upper Midwest area and included very little NFDM, since 
that area manufactures a higher percentage of cheese, relative to NFDM, 
than the rest of the U.S. The current pricing

[[Page 54089]]

system is much more representative of national supply and demand for 
manufactured dairy products than either of the versions of the former 
Class I mover.
    As explained in the final decision on Federal order reform, the 
higher of the Class III or Class IV prices are used to move the Class I 
price to assure that fluid plants will be better able to attract milk 
away from manufacturing uses. Use of the weighted average of the two 
prices when there is a significant difference between them would 
provide no assurance that milk would be available as needed for fluid 
uses and would be more likely to result in Class price inversions 
(where the Class I price falls below one or more of the manufacturing 
class prices). In addition, use of a weighted average Class I price 
mover would increase the occurrence of the blend price falling below 
the Class III or IV price in markets with low Class I utilization.
    Aside from the fact that the proposal to use a weighted average of 
the Class III and Class IV prices as the Class I mover was not noticed 
for consideration in this proceeding, it should be rejected on the 
basis of its lack of merit.

6. Miscellaneous and Conforming Changes

a. Advanced Class I Butterfat Price
    Because of the change made between the interim final rule and this 
recommended decision--to use only one butterfat price for butterfat 
used in both Class III and Class IV--a conforming change made in the 
interim final rule to the procedure for calculating the Class I 
butterfat and hundredweight prices is unnecessary. The advanced 
butterfat price used for pricing Class I butterfat would continue to be 
the advanced butterfat price calculated for both classes.
b. Classification
    The classification of anhydrous milkfat, butteroil, and plastic 
cream was changed in the tentative final decision from Class III to 
Class IV as a conforming change required by the adoption of separate 
butterfat prices for the two classes. The hearing notice contained no 
proposal to change the classification of these products, and there was 
no testimony in the record of the proceeding supporting their re-
classification. Therefore, with the elimination of the separate Class 
III butterfat price, the sole basis for the change in classification is 
also eliminated. As noted in the tentative final decision, a difference 
between the classification of these products, which have a very high 
butterfat content, and butter should not cause any market dislocation 
in a pricing plan where butterfat used in Class III products has the 
same value as butterfat used in Class IV products. One commenter 
opposed changing the classification of these products.
    In a comment filed in response to the tentative final decision, 
Hershey Foods urged that the Federal orders adopt a 2-class pricing 
system. Such a suggestion is entirely outside the scope of the current 
proceeding.
c. Distribution of Butterfat Value to Producers
    There were several responses to the issue of whether the butterfat 
price paid to producers should be the result of pooling butterfat 
prices from the different classes or continue to reflect the value of 
butterfat in Class III. A witness from Northwest Dairy Association 
testified that being able to line up the Class III price to plants with 
the component value calculation for producers is helpful, especially 
with regard to forward pricing. In a brief filed on behalf of DFA and 
ADCNE, the co-op groups supported continued use of the Class III 
butterfat price as the producer butterfat price. According to the 
brief, changes in direct pricing to the producer are not prudent at 
this time, and any change between the Class III and Class IV butterfat 
price should be settled through the producer price differential 
mechanism in the market order pools. The brief continued that the 
producer price differential is a blending of various debits and credits 
in the pooling process and the additional equalizing of any butterfat 
pricing adjustments through this procedure currently makes the most 
sense.
    In a post-hearing brief, National All-Jersey (NAJ) urged that USDA 
retain the current practice of using Class III milk component values to 
price producer component values. NAJ noted that this scenario makes it 
easier to use accepted hedging tools, such as Class III futures 
contracts, and helps simplify pricing for producers. NAJ further stated 
that the current procedure maintains the same producer butterfat price 
in all Federal orders with multiple component pricing (MCP).
    Seventy-nine dairy organizations supported payment to producers on 
the basis of the milk components priced in Class III, including the 
Class III butterfat price instead of a pooled butterfat price, plus the 
producer price differential in a comment filed in response to the 
tentative final decision. The commenters argue that payment to 
producers on the basis of Class III components facilitates the use of 
risk management tools by producers and avoids wider fluctuations in 
Class I and producer fat, skim, and component values.
    One of the principal reasons given in the tentative final decision 
for changing the pooling provisions of the MCP orders was that 
potential large differences between the Class III and Class IV/II 
butterfat prices would be likely to result in significant distortions 
in the effect of those differences on the producer price differential. 
In addition, the decision observed that it is possible that pool 
calculations in some markets would result in a negative producer price 
differential if the producer butterfat price is not changed to 
represent a blend of the values of butterfat in the four classes of 
use.
    This reversal of the decision to calculate separate Class III and 
Class IV butterfat prices invalidates the principal reason for pooling 
butterfat under the MCP orders.
    Therefore, producer payments under the MCP orders will continue to 
be made on the basis of the prices for milk components used in Class 
III rather than pooling the butterfat values of the four classes. The 
four orders that do not have component pricing will continue to pool 
the class use butterfat values and return a weighted average butterfat 
price to producers. As a result of this change between the tentative 
final decision and this recommended decision, some inconsistency 
between the producer butterfat prices under MCP and non-MCP orders will 
remain. It is not expected that this inconsistency will result in 
disorderly marketing.
d. Inclusion of Class I Other Source Butterfat in Producer Butterfat 
Price Computation
    In the process of promulgating the tentative final decision, it was 
determined that the value associated with the occasional classification 
of other source milk as Class I should be included in pooling the class 
butterfat values to determine butterfat prices to producers. For the 
orders under which butterfat is pooled, this change was made in the 
interim final rule, and should continue, so that the value of all of 
the butterfat in the pool will be reflected in the producer butterfat 
price.
    In the component pricing orders, the changes made in the interim 
final rule to include the Class I other source butterfat value in the 
butterfat pool should be reversed. Although the District Court's 
injunction had the effect of reversing these changes and the Federal 
order reform language has continued in effect, the order language

[[Page 54090]]

in the Code of Federal Regulations reflects the provisions adopted in 
the interim final rule. The proposed order language amendments 
accompanying this decision will reflect the language that is currently 
in effect in the MCP orders, reversing the changes that were made to 
include Class I other source butterfat in the butterfat pool.

7. Re-opening of Hearing, Issuance of a Final Decision, or Issuance of 
a Recommended Decision

    The statute requiring that this proceeding be held to reconsider 
the Class III and Class IV pricing formulas also required that a final 
decision be published by December 1, 2000, with any amendments to the 
orders to be effective January 1, 2001.
    The hearing record reflected unanimity among those addressing the 
issue that the industry should be afforded the opportunity to comment 
on a decision before its content results in a final rule. Consequently, 
a tentative final decision was issued, affording interested persons an 
opportunity to comment, even though the amendments adopted in the 
decision were to become effective January 1, 2001. Subsequently, an 
injunction was issued to prevent some of the provisions adopted in the 
interim final rule from becoming effective.
    One option for dealing with the injunction would be to reopen the 
hearing for the purpose of considering additional testimony on the 
issue of pricing the components of milk used in cheese in such a way 
that the component prices track the cheese price more closely than they 
have done under the Federal order reform pricing formulas, or would 
continue to do under the formulas recommended in this decision.
    Several interested parties commented in opposition to any reopening 
of the proceeding with regard to the Class III butterfat and protein 
price formulas. The only commenter that favored revisiting any of the 
issues involved stated that some way of reflecting increased energy 
costs to make allowances should be explored. The commenter seemed to 
refer to conducting a new proceeding rather than reopening the current 
proceeding. Given the present lack of interest in pursuing development 
of Class III component prices that are more closely correlated with 
cheese prices, reopening this proceeding should not be considered.
    Two commenters on the Tentative Final Decision urged that USDA act 
quickly to conclude this proceeding. The most rapid conclusion to this 
proceeding would be through issuance of a Final Decision, followed by a 
determination of producer approval and issuance of a Final Rule for the 
orders approved. However, significant changes were made to the 
Tentative Final Decision by the District Court order and this decision. 
Interested parties should have an additional opportunity to comment on 
those changes as well as other changes from the tentative final 
decision that are included in this decision. Therefore, USDA is issuing 
this Recommended Decision, which will allow comments (a 30-day comment 
period is provided) on the changes to be filed and considered before 
issuing a Final Decision, which producers will be asked to approve.

Rulings on Proposed Findings and Conclusions

    Briefs, proposed findings and conclusions, and comments on the 
tentative final decision were filed on behalf of certain interested 
parties. These briefs, proposed findings and conclusions, comments 
filed, and the evidence in the record were considered in making the 
findings and conclusions set forth above. To the extent that the 
suggested findings and conclusions filed by interested parties are 
inconsistent with the findings and conclusions set forth herein, the 
requests to make such findings or reach such conclusions are denied for 
the reasons previously stated in this decision.

General Findings

    The findings and determinations hereinafter set forth supplement 
those that were made when each of the aforesaid orders were first 
issued and when they were amended. The previous findings and 
determinations are hereby ratified and confirmed, except where they may 
conflict with those set forth herein.
    The following findings are hereby made with respect to each of the 
aforesaid interim marketing agreements and orders;
    (a) The interim marketing agreements and the orders, as hereby 
proposed to be amended, and all of the terms and conditions thereof, 
will tend to effectuate the declared policy of the Act;
    (b) The parity prices of milk as determined pursuant to section 2 
of the Act are not reasonable in view of the price of feeds, available 
supplies of feeds, and other economic conditions which affect market 
supply and demand for milk in the aforesaid marketing areas, and the 
minimum prices specified in the interim marketing agreements and the 
orders, as hereby proposed to be amended, are such prices as will 
reflect the aforesaid factors, insure a sufficient quantity of pure and 
wholesome milk, and be in the public interest; and
    (c) The interim marketing agreements and the orders, as hereby 
proposed to be amended, will regulate the handling of milk in the same 
manner as, and will be applicable only to persons in the respective 
classes of industrial and commercial activity specified in, marketing 
agreements upon which a hearing has been held.

Recommended Marketing Agreements and Order Amending the Orders

    The recommended marketing agreements are not included in this 
decision because the regulatory provisions thereof would be the same as 
those contained in the orders, as hereby proposed to be amended. The 
following order amending the orders, as amended, regulating the 
handling of milk in the Northeast and other marketing areas is 
recommended as the detailed and appropriate means by which the 
foregoing conclusions may be carried out.

List of Subjects in 7 CFR Parts 1000, 1001, 1005, 1006, 1007, 1030, 
1032, 1033, 1124, 1126, 1131, and 1135

    Milk marketing orders.

    For the reasons set forth in the preamble, 7 CFR Parts 1000, 1001, 
1005, 1006, 1007, 1030, 1032, 1033, 1124, 1126, 1131, and 1135 are 
proposed to be amended as follows:
    1. The authority citation for 7 CFR Parts 1000, 1001, 1005, 1006, 
1007, 1030, 1032, 1033, 1124, 1126, 1131, and 1135 continues to read as 
follows:

    Authority: 7 U.S.C. 601-674, 7253, Pub. L. 106-113, 115 Stat. 
1501.

PART 1000--GENERAL PROVISIONS OF FEDERAL MILK MARKETING ORDERS

    1. Section 1000.40 is amended by adding paragraph (c)(1)(ii) and 
revising paragraph (d)(1)(i) to read as follows:


Sec. 1000.40  Classes of Utilization.

* * * * *
    (c) * * *
    (1) * * *
    (ii) Plastic cream, anhydrous milkfat, and butteroil; and
* * * * *
    (d) * * *
    (1) * * *
    (i) Butter; and
* * * * *
    2. Section 1000.50 is amended by revising the last sentence of the 
introductory text and paragraphs (a), (b), (c), (g), (h), (j), (l), 
(n), (o), (p)(1), and (q)(3); and removing paragraph (q)(4) to read as 
follows:

[[Page 54091]]

Sec. 1000.50  Class prices, component prices, and advanced pricing 
factors.

    * * * The price described in paragraph (d) of this section shall be 
derived from the Class II skim milk price announced on or before the 
23rd day of the month preceding the month to which it applies and the 
butterfat price announced on or before the 5th day of the month 
following the month to which it applies.
    (a) Class I price. The Class I price per hundredweight, rounded to 
the nearest cent, shall be .965 times the Class I skim milk price plus 
3.5 times the Class I butterfat price.
    (b) Class I skim milk price. The Class I skim milk price per 
hundredweight shall be the adjusted Class I differential specified in 
Sec. 1000.52 plus the higher of the advanced pricing factors computed 
in paragraph (q)(1) or (2) of this section.
    (c) Class I butterfat price. The Class I butterfat price per pound 
shall be the adjusted Class I differential specified in Sec. 1000.52 
divided by 100, plus the advanced butterfat price computed in paragraph 
(q)(3) of this section.
* * * * *
    (g) Class II butterfat price. The Class II butterfat price per 
pound shall be the butterfat price plus $.007.
    (h) Class III price. The Class III price per hundredweight, rounded 
to the nearest cent, shall be .965 times the Class III skim milk price 
plus 3.5 times the butterfat price.
* * * * *
    (j) Class IV price. The Class IV price per hundredweight, rounded 
to the nearest cent, shall be .965 times the Class IV skim milk price 
plus 3.5 times the butterfat price.
* * * * *
    (l) Butterfat price. The butterfat price per pound, rounded to the 
nearest one-hundredth cent, shall be the U.S. average NASS AA Butter 
survey price reported by the Department for the month less 11.5 cents, 
with the result divided by .82.
* * * * *
    (n) Protein price. The protein price per pound, rounded to the 
nearest one-hundredth cent, shall be computed as follows:
    (1) Compute a weighted average of the amounts described in 
paragraphs (n)(1)(i) and (ii) of this section:
    (i) The U.S. average NASS survey price for 40-lb. block cheese 
reported by the Department for the month; and
    (ii) The U.S. average NASS survey price for 500-pound barrel 
cheddar cheese (38 percent moisture) reported by the Department for the 
month plus 3 cents;
    (2) Subtract 16.5 cents from the price computed pursuant to 
paragraph (n)(1) of this section and multiply the result by 1.405;
    (3) Add to the amount computed pursuant to paragraph (n)(2) of this 
section an amount computed as follows:
    (i) Subtract 16.5 cents from the price computed pursuant to 
paragraph (n)(1) of this section and multiply the result by 1.582; and
    (ii) Subtract .9 times the butterfat price computed pursuant to 
paragraph (l) of this section from the amount computed pursuant to 
paragraph (n)(3)(i) of this section; and
    (iii) Multiply the amount computed pursuant to paragraph (n)(3)(ii) 
of this section by 1.17.
    (o) Other solids price. The other solids price per pound, rounded 
to the nearest one-hundredth cent, shall be the U.S. average NASS dry 
whey survey price reported by the Department for the month minus 15.9 
cents, with the result divided by 0.968.
    (p) * * *
    (1) Multiply .0005 by the weighted average price computed pursuant 
to paragraph (n)(1) of this section and round to the 5th decimal place;
* * * * *
    (q) * * *
    (3) An advanced butterfat price per pound, rounded to the nearest 
one-hundredth cent, shall be calculated by computing a weighted average 
of the 2 most recent U.S. average NASS AA Butter survey prices 
announced before the 24th day of the month, subtracting 11.5 cents from 
this average, and dividing the result by 0.82.

PART 1001--MILK IN THE NORTHEAST MARKETING AREA

    1. In Sec. 1001.60 paragraphs (c)(3), (d)(2), and (h) are revised 
to read as follows:


Sec. 1001.60  Handler's value of milk.

* * * * *
    (c) * * *
    (3) Add an amount obtained by multiplying the pounds of butterfat 
in Class III by the butterfat price.
    (d) * * *
    (2) Add an amount obtained by multiplying the pounds of butterfat 
in Class IV by the butterfat price.
* * * * *
    (h) Multiply the difference between the Class I price applicable at 
the location of the nearest unregulated supply plants from which an 
equivalent volume was received and the Class III price by the pounds of 
skim milk and butterfat in receipts of concentrated fluid milk products 
assigned to Class I pursuant to Sec. 1000.43(d) and 
Sec. 1000.44(a)(3)(i) and the corresponding step of Sec. 1000.44(b) and 
the pounds of skim milk and butterfat subtracted from Class I pursuant 
to Sec. 1000.44(a)(8) and the corresponding step of Sec. 1000.44(b), 
excluding such skim milk and butterfat in receipts of fluid milk 
products from an unregulated supply plant to the extent that an 
equivalent amount of skim milk or butterfat disposed of to such plant 
by handlers fully regulated under any Federal milk order is classified 
and priced as Class I milk and is not used as an offset for any other 
payment obligation under any order.
* * * * *
    2. Section 1001.61 is revised to read as follows:


Sec. 1001.61  Computation of producer price differential.

    For each month, the market administrator shall compute a producer 
price differential per hundredweight. The report of any handler who has 
not made payments required pursuant to Sec. 1001.71 for the preceding 
month shall not be included in the computation of the producer price 
differential, and such handler's report shall not be included in the 
computation for succeeding months until the handler has made full 
payment of outstanding monthly obligations. Subject to the conditions 
in this paragraph, the market administrator shall compute the producer 
price differential in the following manner:
    (a) Combine into one total the values computed pursuant to 
Sec. 1001.60 for all handlers required to file reports prescribed in 
Sec. 1001.30;
    (b) Subtract the total of the values obtained by multiplying each 
handler's total pounds of protein, other solids, and butterfat 
contained in the milk for which an obligation was computed pursuant to 
Sec. 1001.60 by the protein price, other solids price, and the 
butterfat price, respectively;
    (c) Add an amount equal to the minus location adjustments and 
subtract an amount equal to the plus location adjustments computed 
pursuant to Sec. 1001.75;
    (d) Add an amount equal to not less than one-half of the 
unobligated balance in the producer-settlement fund;
    (e) Divide the resulting amount by the sum of the following for all 
handlers included in these computations:
    (1) The total hundredweight of producer milk; and
    (2) The total hundredweight for which a value is computed pursuant 
to Sec. 1001.60(h); and
    (f) Subtract not less than 4 cents nor more than 5 cents from the 
price computed pursuant to paragraph (e) of this section. The result, 
rounded to the nearest cent, shall be known as the

[[Page 54092]]

producer price differential for the month.
    3. In Sec. 1001.62 paragraphs (e) and (g) are revised to read as 
follows:


Sec. 1001.62  Announcement of producer prices.

* * * * *
    (e) The butterfat price;
* * * * *
    (g) The statistical uniform price for milk containing 3.5 percent 
butterfat computed by combining the Class III price and the producer 
price differential.
    4. Section 1001.71 is amended by revising paragraphs (b)(2) and (3) 
to read as follows:


Sec. 1001.71  Payments to the producer-settlement fund.

* * * * *
    (b) * * *
    (2) An amount obtained by multiplying the total pounds of protein, 
other solids, and butterfat contained in producer milk by the protein, 
other solids, and butterfat prices respectively; and
    (3) An amount obtained by multiplying the pounds of skim milk and 
butterfat for which a value was computed pursuant to Sec. 1001.60(h) by 
the producer price differential as adjusted pursuant to Sec. 1001.75 
for the location of the plant from which received.
    5. Section 1001.73 is amended by revising paragraphs (a)(2)(ii) and 
(b)(3)(vi) to read as follows:


Sec. 1001.73  Payments to producers and to cooperative associations.

    (a) * * *
    (2) * * *
    (ii) Multiply the pounds of butterfat received by the butterfat 
price for the month;
* * * * *
    (b) * * *
    (3) * * *
    (vi) Multiply the pounds of butterfat in Class III and Class IV 
milk by the butterfat price for the month;
* * * * *

PART 1030--MILK IN THE UPPER MIDWEST MARKETING AREA

    1. In Sec. 1030.60 paragraphs (c)(3), (d)(2), and (i) are revised 
to read as follows:


Sec. 1030.60  Handler's value of milk.

* * * * *
    (c) * * *
    (3) Add an amount obtained by multiplying the pounds of butterfat 
in Class III by the butterfat price.
    (d) * * *
    (2) Add an amount obtained by multiplying the pounds of butterfat 
in Class IV by the butterfat price.
* * * * *
    (i) Multiply the difference between the Class I price applicable at 
the location of the nearest unregulated supply plants from which an 
equivalent volume was received and the Class III price by the pounds of 
skim milk and butterfat in receipts of concentrated fluid milk products 
assigned to Class I pursuant to Sec. 1000.43(d) and 
Sec. 1000.44(a)(3)(i) and the corresponding step of Sec. 1000.44(b) and 
the pounds of skim milk and butterfat subtracted from Class I pursuant 
to Sec. 1000.44(a)(8) and the corresponding step of Sec. 1000.44(b), 
excluding such skim milk and butterfat in receipts of fluid milk 
products from an unregulated supply plant to the extent that an 
equivalent amount of skim milk or butterfat disposed of to such plant 
by handlers fully regulated under any Federal milk order is classified 
and priced as Class I milk and is not used as an offset for any other 
payment obligation under any order.
* * * * *
    2. Section 1030.61 is revised to read as follows:


Sec. 1030.61  Computation of producer price differential.

    For each month the market administrator shall compute a producer 
price differential per hundredweight. The report of any handler who has 
not made payments required pursuant to Sec. 1030.71 for the preceding 
month shall not be included in the computation of the producer price 
differential, and such handler's report shall not be included in the 
computation for succeeding months until the handler has made full 
payment of outstanding monthly obligations. Subject to the conditions 
of this paragraph, the market administrator shall compute the producer 
price differential in the following manner:
    (a) Combine into one total the values computed pursuant to 
Sec. 1030.60 for all handlers required to file reports prescribed in 
Sec. 1030.30;
    (b) Subtract the total values obtained by multiplying each 
handler's total pounds of protein, other solids, and butterfat 
contained in the milk for which an obligation was computed pursuant to 
Sec. 1030.60 by the protein price, other solids price, and the 
butterfat price, respectively, and the total value of the somatic cell 
adjustment pursuant to Sec. 1030.30(a)(1) and (c)(1);
    (c) Add an amount equal to the minus location adjustments and 
subtract an amount equal to the plus location adjustments computed 
pursuant to Sec. 1030.75;
    (d) Add an amount equal to not less than one-half of the 
unobligated balance in the producer-settlement fund;
    (e) Divide the resulting amount by the sum of the following for all 
handlers included in these computations:
    (1) The total hundredweight of producer milk; and
    (2) The total hundredweight for which a value is computed pursuant 
to Sec. 1030.60(i); and
    (f) Subtract not less than 4 cents nor more than 5 cents from the 
price computed pursuant to paragraph (e) of this section. The result 
shall be known as the producer price differential for the month.
    3. Section 1030.62 is amended by revising paragraphs (e) and (h) to 
read as follows:


Sec. 1030.62  Announcement of producer prices.

* * * * *
    (e) The butterfat price;
* * * * *
    (h) The statistical uniform price for milk containing 3.5 percent 
butterfat, computed by combining the Class III price and the producer 
butterfat price differential.
    4. Section 1030.71 is amended by revising paragraphs (b)(2) and 
(b)(4) to read as follows:


Sec. 1030.71  Payments to the producer-settlement fund.

* * * * *
    (b) * * *
    (2) An amount obtained by multiplying the total pounds of protein, 
other solids, and butterfat contained in producer milk by the protein, 
other solids, and butterfat prices respectively;
* * * * *
    (4) An amount obtained by multiplying the pounds of skim milk and 
butterfat for which a value was computed pursuant to Sec. 1030.60(i) by 
the producer price differential as adjusted pursuant to Sec. 1030.75 
for the location of the plant from which received.
    5. Section 1030.73 is amended by revising paragraphs (a)(2)(ii), 
(c)(2)(v), and (c)(3)(ii) to read as follows:


Sec. 1030.73  Payments to producers and to cooperative associations.

    (a) * * *
    (2) * * *
    (ii) The pounds of butterfat received times the butterfat price for 
the month;
* * * * *
    (c) * * *
    (2) * * *

[[Page 54093]]

    (v) The pounds of butterfat in Class III and Class IV milk times 
the butterfat price;
* * * * *
    (3) * * *
    (ii) The pounds of butterfat received times the butterfat price for 
the month;

PART 1032--MILK IN THE CENTRAL MARKETING AREA

    1. In Sec. 1032.60 paragraphs (c)(3), (d)(2), and (i) are revised 
to read as follows:


Sec. 1032.60  Handler's value of milk.

* * * * *
    (c) * * *
    (3) Add an amount obtained by multiplying the pounds of butterfat 
in Class III by the butterfat price.
    (d) * * *
    (2) Add an amount obtained by multiplying the pounds of butterfat 
in Class IV by the butterfat price.
* * * * *
    (i) Multiply the difference between the Class I price applicable at 
the location of the nearest unregulated supply plants from which an 
equivalent volume was received and the Class III price by the pounds of 
skim milk and butterfat in receipts of concentrated fluid milk products 
assigned to Class I pursuant to Sec. 1000.43(d) and 
Sec. 1000.44(a)(3)(i) and the corresponding step of Sec. 1000.44(b) and 
the pounds of skim milk and butterfat subtracted from Class I pursuant 
to Sec. 1000.44(a)(8) and the corresponding step of Sec. 1000.44(b), 
excluding such skim milk and butterfat in receipts of fluid milk 
products from an unregulated supply plant to the extent that an 
equivalent amount of skim milk or butterfat disposed of to such plant 
by handlers fully regulated under any Federal milk order is classified 
and priced as Class I milk and is not used as an offset for any other 
payment obligation under any order.
* * * * *
    2. Section 1032.61 is revised to read as follows:


Sec. 1032.61  Computation of producer price differential.

    For each month the market administrator shall compute a producer 
price differential per hundredweight. The report of any handler who has 
not made payments required pursuant to Sec. 1032.71 for the preceding 
month shall not be included in the computation of the producer price 
differential, and such handler's report shall not be included in the 
computation for succeeding months until the handler has made full 
payment of outstanding monthly obligations. Subject to the conditions 
of this paragraph, the market administrator shall compute the producer 
price differential in the following manner:
    (a) Combine into one total the values computed pursuant to 
Sec. 1032.60 for all handlers required to file reports prescribed in 
Sec. 1032.30;
    (b) Subtract the total values obtained by multiplying each 
handler's total pounds of protein, other solids, and butterfat 
contained in the milk for which an obligation was computed pursuant to 
Sec. 1032.60 by the protein price, the other solids price, and the 
butterfat price, respectively, and the total value of the somatic cell 
adjustment pursuant to Sec. 1032.30(a)(1) and (c)(1);
    (c) Add an amount equal to the minus location adjustments and 
subtract an amount equal to the plus location adjustments computed 
pursuant to Sec. 1032.75;
    (d) Add an amount equal to not less than one-half of the 
unobligated balance in the producer-settlement fund;
    (e) Divide the resulting amount by the sum of the following for all 
handlers included in these computations:
    (1) The total hundredweight of producer milk; and
    (2) The total hundredweight for which a value is computed pursuant 
to Sec. 1032.60(i); and
    (f) Subtract not less than 4 cents nor more than 5 cents from the 
price computed pursuant to paragraph (e) of this section. The result 
shall be known as the producer price differential for the month.
    3. Section 1032.62 is amended by revising paragraphs (e) and (h) to 
read as follows:


Sec. 1032.62  Announcement of producer prices.

* * * * *
    (e) The butterfat price;
* * * * *
    (h) The statistical uniform price for milk containing 3.5 percent 
butterfat, computed by combining the Class III price and the producer 
price differential.
    4. Section 1032.71 is amended by revising paragraphs (b)(2) and (4) 
to read as follows:


Sec. 1032.71  Payments to the producer-settlement fund.

* * * * *
    (b) * * *
    (2) An amount obtained by multiplying the total pounds of protein, 
other solids, and butterfat contained in producer milk by the protein, 
other solids, and butterfat prices respectively;
* * * * *
    (4) An amount obtained by multiplying the pounds of skim milk and 
butterfat for which a value was computed pursuant to Sec. 1032.60(i) by 
the producer price differential as adjusted pursuant to Sec. 1032.75 
for the location of the plant from which received.
    5. Section 1032.73 is amended by revising paragraphs (a)(2)(ii), 
(c)(2)(v), and (c)(3)(ii) to read as follows:


Sec. 1032.73  Payments to producers and to cooperative associations.

    (a) * * *
    (2) * * *
    (ii) The pounds of butterfat received times the butterfat price for 
the month;
* * * * *
    (c) * * *
    (2) * * *
    (v) The pounds of butterfat in Class III and Class IV milk times 
the butterfat price;
* * * * *
    (3) * * *
    (ii) The pounds of butterfat received times the butterfat price for 
the month;
* * * * *

PART 1033--MILK IN THE MIDEAST MARKETING AREA

    1. In Sec. 1033.60 paragraphs (c)(3), (d)(2), and (i) are revised 
to read as follows:


Sec. 1033.60  Handler's value of milk.

* * * * *
    (c) * * *
    (3) Add an amount obtained by multiplying the pounds of butterfat 
in Class III by the butterfat price.
    (d) * * *
    (2) Add an amount obtained by multiplying the pounds of butterfat 
in Class IV by the butterfat price.
* * * * *
    (i) Multiply the difference between the Class I price applicable at 
the location of the nearest unregulated supply plants from which an 
equivalent volume was received and the Class III price by the pounds of 
skim milk and butterfat in receipts of concentrated fluid milk products 
assigned to Class I pursuant to Sec. 1000.43(d) and 
Sec. 1000.44(a)(3)(i) and the corresponding step of Sec. 1000.44(b) and 
the pounds of skim milk and butterfat subtracted from Class I pursuant 
to Sec. 1000.44(a)(8) and the corresponding step of Sec. 1000.44(b), 
excluding such skim milk and butterfat in receipts of fluid milk 
products from an unregulated supply plant to the extent that an 
equivalent amount of skim milk or butterfat disposed of to such plant 
by handlers fully regulated under any Federal milk order is classified 
and priced as Class I milk and

[[Page 54094]]

is not used as an offset for any other payment obligation under any 
order.
* * * * *
    2. Section 1033.61 is revised to read as follows:


Sec. 1033.61  Computation of producer price differential.

    For each month the market administrator shall compute a producer 
price differential per hundredweight. The report of any handler who has 
not made payments required pursuant to Sec. 1033.71 for the preceding 
month shall not be included in the computation of the producer price 
differential, and such handler's report shall not be included in the 
computation for succeeding months until the handler has made full 
payment of outstanding monthly obligations. Subject to the conditions 
of this paragraph, the market administrator shall compute the producer 
price differential in the following manner:
    (a) Combine into one total the values computed pursuant to 
Sec. 1033.60 for all handlers required to file reports prescribed in 
Sec. 1033.30;
    (b) Subtract the total values obtained by multiplying each 
handler's total pounds of protein, other solids, and butterfat 
contained in the milk for which an obligation was computed pursuant to 
Sec. 1033.60 by the protein price, the other solids price, and the 
butterfat price, respectively, and the total value of the somatic cell 
adjustment pursuant to Sec. 1033.30(a)(1) and (c)(1);
    (c) Add an amount equal to the minus location adjustments and 
subtract an amount equal to the plus location adjustments computed 
pursuant to Sec. 1033.75;
    (d) Add an amount equal to not less than one-half of the 
unobligated balance in the producer-settlement fund;
    (e) Divide the resulting amount by the sum of the following for all 
handlers included in these computations:
    (1) The total hundredweight of producer milk; and
    (2) The total hundredweight for which a value is computed pursuant 
to Sec. 1033.60(i); and
    (f) Subtract not less than 4 cents nor more than 5 cents from the 
price computed pursuant to paragraph (e) of this section. The result 
shall be known as the producer price differential for the month.
    3. Section 1033.62 is amended by revising paragraphs (e) and (h) to 
read as follows:


Sec. 1033.62  Announcement of producer prices.

* * * * *
    (e) The butterfat price;
* * * * *
    (h) The statistical uniform price for milk containing 3.5 percent 
butterfat, computed by combining the Class III price and the producer 
price differential.
    4. Section 1033.71 is amended by revising paragraphs (b)(2) and (4) 
to read as follows:


Sec. 1033.71  Payments to the producer-settlement fund.

* * * * *
    (b) * * *
    (2) An amount obtained by multiplying the total pounds of protein, 
other solids, and butterfat contained in producer milk by the protein, 
other solids, and butterfat prices, respectively;
* * * * *
    (4) An amount obtained by multiplying the pounds of skim milk and 
butterfat for which a value was computed pursuant to Sec. 1033.60(i) by 
the producer price differential as adjusted pursuant to Sec. 1033.75 
for the location of the plant from which received.
    5. Section 1033.73 is amended by revising paragraphs (a)(2)(ii) and 
(b)(3)(v) to read as follows:


Sec. 1033.73  Payments to producers and to cooperative associations.

    (a) * * *
    (2) * * *
    (ii) The pounds of butterfat received times the butterfat price for 
the month;
* * * * *
    (b) * * *
    (3) * * *
    (v) The pounds of butterfat in Class III and Class IV milk times 
the butterfat price;
* * * * *

PART 1124--MILK IN THE PACIFIC NORTHWEST MARKETING AREA

    1. In Sec. 1124.60 paragraphs (c)(3), (d)(2), and (h) are revised 
to read as follows:


Sec. 1124.60  Handler's value of milk.

* * * * *
    (c) * * *
    (3) Add an amount obtained by multiplying the pounds of butterfat 
in Class III by the butterfat price.
    (d) * * *
    (2) Add an amount obtained by multiplying the pounds of butterfat 
in Class IV by the butterfat price.
* * * * *
    (h) Multiply the difference between the Class I price applicable at 
the location of the nearest unregulated supply plants from which an 
equivalent volume was received and the Class III price by the pounds of 
skim milk and butterfat in receipts of concentrated fluid milk products 
assigned to Class I pursuant to Sec. 1000.43(d) and 
Sec. 1000.44(a)(3)(i) and the corresponding step of Sec. 1000.44(b) and 
the pounds of skim milk and butterfat subtracted from Class I pursuant 
to Sec. 1000.44(a)(8) and the corresponding step of Sec. 1000.44(b), 
excluding such skim milk and butterfat in receipts of fluid milk 
products from an unregulated supply plant to the extent that an 
equivalent amount of skim milk or butterfat disposed of to such plant 
by handlers fully regulated under any Federal milk order is classified 
and priced as Class I milk and is not used as an offset for any other 
payment obligation under any order.
* * * * *
    2. Section 1124.61 is revised to read as follows:


Sec. 1124.61  Computation of producer price differential.

    For each month the market administrator shall compute a producer 
price differential per hundredweight. The report of any handler who has 
not made payments required pursuant to Sec. 1124.71 for the preceding 
month shall not be included in the computation of the producer price 
differential, and such handler's report shall not be included in the 
computation for succeeding months until the handler has made full 
payment of outstanding monthly obligations. Subject to the conditions 
of this paragraph, the market administrator shall compute the producer 
price differential in the following manner:
    (a) Combine into one total the values computed pursuant to 
Sec. 1124.60 for all handlers required to file reports prescribed in 
Sec. 1124.30;
    (b) Subtract the total values obtained by multiplying each 
handler's total pounds of protein, other solids, and butterfat 
contained in the milk for which an obligation was computed pursuant to 
Sec. 1124.60 by the protein price, the other solids price, and the 
butterfat price, respectively;
    (c) Add an amount equal to the minus location adjustments and 
subtract an amount equal to the plus location adjustments computed 
pursuant to Sec. 1124.75;
    (d) Add an amount equal to not less than one-half of the 
unobligated balance in the producer-settlement fund;
    (e) Divide the resulting amount by the sum of the following for all 
handlers included in these computations:
    (1) The total hundredweight of producer milk; and

[[Page 54095]]

    (2) The total hundredweight for which a value is computed pursuant 
to Sec. 1124.60(h); and
    (f) Subtract not less than 4 cents nor more than 5 cents from the 
price computed pursuant to paragraph (e) of this section. The result 
shall be known as the producer price differential for the month.
    3. Section 1124.62 is amended by revising paragraphs (e) and (g) to 
read as follows:


Sec. 1124.62  Announcement of producer prices.

* * * * *
    (e) The butterfat price;
* * * * *
    (g) The statistical uniform price for milk containing 3.5 percent 
butterfat, computed by combining the Class III price and the producer 
price differential.
    4. Section 1124.71 is amended by revising paragraphs (b)(2) and (3) 
to read as follows:


Sec. 1124.71  Payments to the producer-settlement fund.

* * * * *
    (b) * * *
    (2) An amount obtained by multiplying the total pounds of protein, 
other solids, and butterfat contained in producer milk by the protein, 
other solids, and butterfat prices respectively; and
    (3) An amount obtained by multiplying the pounds of skim milk and 
butterfat for which a value was computed pursuant to Sec. 1124.60(h) by 
the producer price differential as adjusted pursuant to Sec. 1124.75 
for the location of the plant from which received.
    5. Section 1124.73 is amended by revising paragraphs (a)(2)(ii), 
(c)(2)(v), and (c)(3)(ii) to read as follows:


Sec. 1124.73  Payments to producers and to cooperative associations.

    (a) * * *
    (2) * * *
    (ii) The pounds of butterfat received times the butterfat price for 
the month;
* * * * *
    (c) * * *
    (2) * * *
    (v) The pounds of butterfat in Class III and Class IV milk times 
the butterfat price;
* * * * *
    (3) * * *
    (ii) The pounds of butterfat received times the butterfat price for 
the month;
* * * * *

PART 1126--MILK IN THE SOUTHWEST MARKETING AREA

    1. In Sec. 1126.60 paragraphs (c)(3), (d)(2), and (i) are revised 
to read as follows:


Sec. 1126.60  Handler's value of milk.

* * * * *
    (c) * * *
    (3) Add an amount obtained by multiplying the pounds of butterfat 
in Class III by the butterfat price.
    (d) * * *
    (2) Add an amount obtained by multiplying the pounds of butterfat 
in Class IV by the butterfat price.
* * * * *
    (i) Multiply the difference between the Class I price applicable at 
the location of the nearest unregulated supply plants from which an 
equivalent volume was received and the Class III price by the pounds of 
skim milk and butterfat in receipts of concentrated fluid milk products 
assigned to Class I pursuant to Sec. 1000.43(d) and 
Sec. 1000.44(a)(3)(i) and the corresponding step of Sec. 1000.44(b) and 
the pounds of skim milk and butterfat subtracted from Class I pursuant 
to Sec. 1000.44(a)(8) and the corresponding step of Sec. 1000.44(b), 
excluding such skim milk and butterfat in receipts of fluid milk 
products from an unregulated supply plant to the extent that an 
equivalent amount of skim milk or butterfat disposed of to such plant 
by handlers fully regulated under any Federal milk order is classified 
and priced as Class I milk and is not used as an offset for any other 
payment obligation under any order.
* * * * *
    2. Section 1126.61 is revised to read as follows:


Sec. 1126.61  Computation of producer price differential.

    For each month the market administrator shall compute a producer 
price differential per hundredweight. The report of any handler who has 
not made payments required pursuant to Sec. 1126.71 for the preceding 
month shall not be included in the computation of the producer price 
differential, and such handler's report shall not be included in the 
computation for succeeding months until the handler has made full 
payment of outstanding monthly obligations. Subject to the conditions 
of this paragraph, the market administrator shall compute the producer 
price differential in the following manner:
    (a) Combine into one total the values computed pursuant to 
Sec. 1126.60 for all handlers required to file reports prescribed in 
Sec. 1126.30;
    (b) Subtract the total of the values obtained by multiplying each 
handler's total pounds of protein, other solids, and butterfat 
contained in the milk for which an obligation was computed pursuant to 
Sec. 1126.60 by the protein price, other solids price, and the 
butterfat price, respectively, and the total value of the somatic cell 
adjustment pursuant to Sec. 1126.30(a)(1) and (c)(1);
    (c) Add an amount equal to the minus location adjustments and 
subtract an amount equal to the plus location adjustments computed 
pursuant to Sec. 1126.75;
    (d) Add an amount equal to not less than one-half of the 
unobligated balance in the producer-settlement fund;
    (e) Divide the resulting amount by the sum of the following for all 
handlers included in these computations:
    (1) The total hundredweight of producer milk; and
    (2) The total hundredweight for which a value is computed pursuant 
to Sec. 1126.60(i); and
    (f) Subtract not less than 4 cents nor more than 5 cents from the 
price computed pursuant to paragraph (e) of this section. The result 
shall be known as the producer price differential for the month.
    3. Section 1126.62 is amended by revising paragraphs (e) and (h) to 
read as follows:


Sec. 1126.62  Announcement of producer prices.

* * * * *
    (e) The butterfat price;
* * * * *
    (h) The statistical uniform price for milk containing 3.5 percent 
butterfat, computed by combining the Class III price and the producer 
price differential.
    4. Section 1126.71 is amended by revising paragraphs (b)(2) and (4) 
to read as follows:


Sec. 1126.71  Payments to the producer-settlement fund.

* * * * *
    (b) * * *
    (2) An amount obtained by multiplying the total pounds of protein, 
other solids, and butterfat contained in producer milk by the protein, 
other solids, and butterfat prices respectively;
* * * * *
    (4) An amount obtained by multiplying the pounds of skim milk and 
butterfat for which a value was computed pursuant to Sec. 1126.60(i) by 
the producer price differential as adjusted pursuant to Sec. 1126.75 
for the location of the plant from which received.
    5. Section 1126.73 is amended by revising paragraphs (a)(2)(ii) and 
(b)(3)(v) to read as follows:

[[Page 54096]]

Sec. 1126.73  Payments to producers and to cooperative associations.

    (a) * * *
    (2) * * *
    (ii) Multiply the pounds of butterfat received times the butterfat 
price for the month;
* * * * *
    (b) * * *
    (3) * * *
    (v) The pounds of butterfat in Class III and Class IV milk times 
the butterfat price;
* * * * *

PART 1135--MILK IN THE WESTERN MARKETING AREA

    1. In Sec. 1135.60 paragraphs (c)(3), (d)(2) and (h) are revised to 
read as follows:


Sec. 1135.60  Handler's value of milk.

* * * * *
    (c) * * *
    (3) Add an amount obtained by multiplying the pounds of butterfat 
in Class III by the butterfat price.
    (d) * * *
    (2) Add an amount obtained by multiplying the pounds of butterfat 
in Class IV by the butterfat price.
* * * * *
    (h) Multiply the difference between the Class I price applicable at 
the location of the nearest unregulated supply plants from which an 
equivalent volume was received and the Class III price by the pounds of 
skim milk and butterfat in receipts of concentrated fluid milk products 
assigned to Class I pursuant to Sec. 1000.43(d) and 
Sec. 1000.44(a)(3)(i) and the corresponding step of Sec. 1000.44(b) and 
the pounds of skim milk and butterfat subtracted from Class I pursuant 
to Sec. 1000.44(a)(8) and the corresponding step of Sec. 1000.44(b), 
excluding such skim milk and butterfat in receipts of fluid milk 
products from an unregulated supply plant to the extent that an 
equivalent amount of skim milk or butterfat disposed of to such plant 
by handlers fully regulated under any Federal milk order is classified 
and priced as Class I milk and is not used as an offset for any other 
payment obligation under any order.
* * * * *
    2. Section 1135.61 is revised to read as follows:


Sec. 1135.61  Computation of producer price differential.

    For each month the market administrator shall compute a producer 
price differential per hundredweight. The report of any handler who has 
not made payments required pursuant to Sec. 1135.71 for the preceding 
month shall not be included in the computation of the producer price 
differential, and such handler's report shall not be included in the 
computation for succeeding months until the handler has made full 
payment of outstanding monthly obligations. Subject to the conditions 
of this paragraph, the market administrator shall compute the producer 
price differential in the following manner:
    (a) Combine into one total the values computed pursuant to 
Sec. 1135.60 for all handlers required to file reports prescribed in 
Sec. 1135.30;
    (b) Subtract the total values obtained by multiplying each 
handler's total pounds of protein, other solids, and butterfat 
contained in the milk for which an obligation was computed pursuant to 
Sec. 1135.60 by the protein price, the other solids price, and the 
butterfat price, respectively;
    (c) Add an amount equal to the minus location adjustments and 
subtract an amount equal to the plus location adjustments computed 
pursuant to Sec. 1135.75;
    (d) Add an amount equal to not less than one-half of the 
unobligated balance in the producer-settlement fund;
    (e) Divide the resulting amount by the sum of the following for all 
handlers included in these computations:
    (1) The total hundredweight of producer milk; and
    (2) The total hundredweight for which a value is computed pursuant 
to Sec. 1135.60(h); and
    (f) Subtract not less than 4 cents nor more than 5 cents from the 
price computed pursuant to paragraph (e) of this section. The result 
shall be known as the producer price differential for the month.
    3. Section 1135.62 is amended by revising paragraphs (e) and (g) to 
read as follows:


Sec. 1135.62  Announcement of producer prices.

* * * * *
    (e) The butterfat price;
* * * * *
    (g) The statistical uniform price for milk containing 3.5 percent 
butterfat computed by combining the Class III price and the producer 
price differential.
* * * * *
    4. Section 1135.71 is amended by revising paragraph (b)(2) and 
removing and reserving paragraph (b)(3) to read as follows:


Sec. 1135.71  Payments to the producer-settlement fund.

* * * * *
    (b) * * *
    (2) An amount obtained by multiplying the total pounds of protein, 
other solids, and butterfat contained in producer milk by the protein, 
other solids, and butterfat prices respectively; and
    (3) [Reserved]
* * * * *
    5. Section 1135.73 is amended by revising paragraphs (a)(2)(ii) and 
(b)(3)(v) to read as follows:


Sec. 1135.73  Payments to producers and to cooperative associations.

    (2) * * *
    (ii) The pounds of butterfat received times the butterfat price for 
the month;
* * * * *
    (b) * * *
    (3) * * *
    (v) The pounds of butterfat in Class III and Class IV milk times 
the butterfat price;
* * * * *

    Dated: October 19, 2001.
Kenneth C. Clayton,
Associate Administrator, Agricultural Marketing Service.
[FR Doc. 01-26901 Filed 10-24-01; 8:45 am]
BILLING CODE 3410-02-P