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ELK PROFITS Part III
Insuring Elk / Wisdom or Waste?
by Rich Forrest, Mountain Velvet, Ltd.
Secretary/Treasurer, Colorado Elk & Game Breeders Association COPYRIGHT 1996
nsurance, that stuff we all know about, purchase a lot of, but rarely ever give much thought to. We all have it in our lives, in one form or another. Life insurance, car insurance, health insurance, ad infinitum. It’s all around us, some kinds are required by law, some kinds are really a good idea, but still other kinds can be really bad deals. To complicate matters, a plethora of aggressive agents always want to sell us more! But why? What is its purpose? What’s it really worth?
Each of us has our own reasons for insurance, some logical, some not. If you have ever insured anything ... your house, your car, your life, have you ever read the policy. I bet not. Neither have I. We just assume it’s a good idea, because the agent said so, or because Daddy had it, or maybe just because the guy down the street talks about it, whatever the reason?
Well, I’ve got insurance, several kinds, but not a lot when compared to some people. Cumulatively, all my insurance is a large enough expenditure every year to make my toes curl.
When I learned about insuring elk, I was intrigued. Hmmmm, elk life insurance, what will Lloyd’s think of next? It seems two kinds of elk policies are available from this creative financial industry: 1) full mortality and, 2) named perils. The first covers most forms of death (except old age and TB), the second only specific accidental occurrences, specifically cited in the policy. This could include, for example, deaths due to flood, lightning, tornado or whatever. Full coverage is more expensive at about 5.75% of insured animal value as a yearly premium, while named perils, being more restrictive in nature is but 2% annually. A comprehensive review of these insurance policies is certainly beyond this article and more so beyond my knowledge. However, one can easily contact your own local agent for the details
An Insurance Case History.
After a brief review of what my agent had told me, and believing it was a good idea for certain circumstances, I have insured some animals, but not others.
In my experiences to date (over a 4- year period), only a handful of my animals have died. It so happens that only my non-insured animals died. So this is obviously one of Murphy’s laws. “Only uninsured animals die.” Despite this seemingly unwritten law, I was still curious to figure out whether animal insurance was really worth the money.
Well, to answer this question, I turned back to the four bred cows elaborated in “Elk Profits - A 45-Month Case History”. In that article we learned that a resourceful elk rancher, even with poor luck, can collect a rate of return equal to about the mid-20% range compounded annually. In my mind, this was a dandy rate of return, particularly considering the accidental death of one original cow by lightning and a smattering of other offspring deaths.
To properly evaluate the usefulness of insurance, I only looked at the full mortality-type plan. Under a full mortality plan, two test insurance scenarios were analyzed: A) full mortality coverage on the original four cows only and, B) full coverage on all cows and offspring when available. The specific perils-type of policies were ignored due to their limited applicability to the elk industry as a whole (albeit very useful to someone living in a tornado belt or perhaps on a flood plain).
Under test scenario “A” the original four mother cows were insured for full mortality at their original purchase price of $6,200 apiece. For the financial calculations, the annual insurance cost was assessed at a uniform 5.75% of the purchase price, and was payable yearly upon the anniversary of the cow purchase. For our $6,200 cows this works out to be $365.50 per year per animal, or a little less than $4.00 per day for all four purchased cows. Hence, the total annual cost was $1,426. See Table 1.
Over the 45-month life of the study, some $3,417 was paid out as premiums. Some of these payments, early in the project life, caused a greater negative cash flow which in turn required that additional funds to be added to the venture. This resulted in the greatest cash exposure of some $26,508 in the second quarter of the first year, with a nearly as great $26,295 at the end of the 1st quarter of the second year. This is about $1500 more funds that had to be spend above and beyond the original animal purchase price.
The good news (or I should say “bad news”) was that during the 3rd quarter of the 2nd year, one of the original mother cows (#F1, one of my best cows) was actually badly injured by lightning. Under a vet’s care she lingered for a while and later died of injury-related complications. This would have made her eligible of insurance compensation.
The death benefits which would have become due were: 1) the original value of the animal, $6,200, and 2) a refund of any unearned insurance premiums which had been prepaid prior to her death, or about $175. A total payment of $6,375 would have been due from the insurance company. What had been a loss in the original scenario of “Elk Profits - A 45-Month Case History” was now mitigated by the benefits received.
From a rancher’s perspective total positive cashflow was boosted from $23,149 up to some $26,107, a $2,958 increase, due to the benefits from insurance. The total received from insurance exceeded the total paid for premiums by $2,958 over the 45-month period of study.
In terms of the annual rate of return on our investment, how much did the insurance help? Quite a bit! The extra $2958 improved the rancher’s return from the original 24.3% compounded rate to 26.6%, a useful 2.3% increase, better than passbook savings!
Under test scenario “B” all animals were covered by insurance. The assumption was made that all weaned calves after three months of age would be fully insured at the industry rate of 10% of their value for the first year. Calf values were arbitrarily assigned to be $3,800 for a heifer calf and $1,500 for a bull calf. Once an animal was over about 15 months of age (at the end of September) the 5.75% rate would apply to a value of $6,200 for a cow and $3,000 for a bull. See Table 2.
Under B, the greatest cash exposure reached $27,055 at the end of the 1st quarter of the 2nd year. The good news is that once of proper age, all animals were covered. And guess what, more animals did die. Besides #F1 as described above, offspring cow #F4a died of mysterious reasons, as did calf #M4b. Unfortunately, #M4b was too young to be covered but #F4a was covered.
Benefit payments for #F1 and #F4a would total $12,915, as opposed to a total premium cost of $7,531. This is a whopping $5,384 in extra benefit payments over and above the cost of premiums. Seems like a good deal, eh! The rate of return was likewise boosted from the original 24.3% to 26.8% a nice 2.5% actual rate increase. This equates to over a 10% increase in total return (2.5% divided by 24.3%= 10.3%).
Animal mortality was very high in both scenarios. In test A, one original animal died during 11 adult animal years of care, a 8.33% average annual mortality rate. The B scenario was even worst with 2 animal deaths in about 16 adult animal years of care for an 11.25% average annual mortality rate. I guess new ranchers have a lot to learn.
Surprisingly, both the A & B scenarios had similar rate increases. Both return rate increases, each equal to about 10%, are significant enough to suggest that if you are thinking of insuring any animals on the farm, then maybe you ought to think about insuring them all. But we will examine this philosophy next.
One important observation from these two detailed test scenarios is that the total rate of return of a group of animals (even a group as small as just the four original cows) is not very dependent upon the death of an individual animal part-way through the venture. An early death (the first few months) could hurt financially, but not much hurt is present after two full years of breeding.
Essentially, as per the case history, insurance can protect some of your possible gain, but it will not enhance it. Insurance does not grow new animals, just replaces them. Insurance is a tool. Insurance can protect against losing your original investment, or can protect against losing a profit, but it will never make a profit on its own. For a small rancher, however, this can be very important. Fortunately, as a herd grows, insurance becomes less financially necessary, particularly as one has multiple offspring from your original animals. Insurance is definitely not cost effective for the loss of just a single individual animal insured here or there.
What Is Insurance?
To look at insurance in its most basic form, it is in reality, a form of gambling. When you “buy” insurance you are effectively betting that you will lose an animal and be reimbursed a sum greater than or equal to your cost of insurance.
Meanwhile, the insurance company that takes your bet (sells you the insurance) does so for its percentage fee. They have weighed the risk that you will lose an animal, compared it with their compiled statistics and then made an educated guess to underwrite your policy (cover it). They are betting that you won’t lose an animal, or not lose one very often, so they can keep a portion of the fee. The more the better.
By taking enough of these “bets” all around the country, they will likely make their profit. Conversely, if the insurance company has made a profit, then somewhere out there the ranchers as a group must have paid it. The question is: How much do you want to pay?
Some Facts on Elk Mortality.
Basic research on elk and red deer suggest that adult annual herd mortality for a properly-cared-for and healthy herd of elk or deer will not vary much from year to year. For cows (only) age 2 to 11 years, the average mortality rate will range from about 1.5% to 2.5% annually and rarely exceed 3.5%. A higher loss rate would likely indicate the need for a thorough review of a ranch’s animal management techniques and procedures.
A detailed Scottish study by Blaxter, Kay and Sharman(1) (1431 red deer hind-years) found a herd mortality average of 2.2% but with a mean mortality average of 1.56% (when weighed by the average monthly age of the cows). They noted that cows from age 15 months to age 27 months had mortality rates much higher at 3.1%, while older animals, to age 11 had lesser rates, sometimes significantly less than 1% annually. An earlier study by Blaxter, Boyne and Hamilton(2) had a similar 1.86% average mean mortality rate.
Obviously, once past age 11, sooner rather than later, a higher rate would again be present as old age sets in. This certainly suggests that rotating animals out of the herd prior to age 11 years is probably not justified when based on expected herd mortality alone. Also, one must be aware that an insurance company will likely balk at insuring animals over 10 years of age, perhaps over age 8. Lastly, remember, all these statistics apply only to cows, bulls were not included in these studies.
From these statistics you now know why the insurance industry can charge 5.75%, pay for a vet exam and an agent’s commission and still make a profit. We all seek to make a profit!
For the record, these studies also reviewed calf mortality. An 11.9% calf loss rate was found from birth through weaning. While from weaning to 15 months of age mortality averaged 7.6%. However, when winter shelter was provided to the young yearling animals, the rate dropped to 4.6% annually. Since these findings were on captive herds that were only loosely managed for maximum animal survival, the insurance industry’s 10% weaned calf premium rate probably reflects these facts to profitable advantage.
Cost of Insurance
Under scenario B we had a total premium cost over 45 months (basically 4 years) of some $7,500. That’s a lot of money, enough to buy another bred cow (in Colorado anyway). And that sum was only from the four original cows and their offspring!
What happens if you have 50 cows? Would you really want to spend $17,825 (50 x $6,200 x 5.75%) to insure then all in the first year, and who knows what in future years with their offspring. I think not!
This is where the theory of “self insurance” kicks in. At some point in your herd development, 1) you have enough assets to sustain the loss of an animal without serious financial setback; and 2) the cost of insurance exceeds the value of the benefits received. At this point you can make your insurance bet not with a company, but with yourself.
If it would cost $17,825 to insure them all, then you can easily see that this tidy sum could perhaps buy about 2.9 cows per year at $6,200 each. Would you expect to lose upwards of 3 cows per year from your herd? That’s a 6% annual mortality rate .... not good if you expect to see high profits in the elk business.
Chart 1 portrays the cost of insurance graphically. It uses our research standard of an annual 2.2% mortality on cows aged 2 years to 11 years and a 5.75% annual premium rate. Assuming you only have cows of this age, then the column graph shows that with about a 46-cow herd, a single annual death will be a 100% chance of probability. A 50% chance of one death annually is likely for 23 animals and so on down.
Now note that the line of triangles, above the columns, has the cost of insuring all the animals as a percentage of death benefit likely to be received. For example on 46 cows, the cost of insurance will be about 280% of the expected annual death benefit payable from the insurance. This graphically illustrates that the more animals you insure, the more costly and less beneficial it will become for you to insure. Basically, self insurance becomes more advantageous and more rewarding as you grow. With a large herd, losing one or two animals a year may actually be cheaper than insuring them all!
The third (squares) line portrays the escalating relative cost of insurance for a smaller and smaller herd based upon the assumption of one eventual animal death at the 2.2% average mortality rate. With 46 animals you will likely experience one animal death each year and receive one death benefit each year, i.e. 100%. With 20 animals you will pay about 225% for the value (100%) likely to be received by one eventual death. While with 10 animals, over an even longer period of time, the odds are that you will pay in premiums some 455% of the benefit received before one animal dies and you finally collect a single death benefit (100%). Insurance can get expensive.
Do I need Insurance?
So how does all this apply to my herd? When should I insure? Perhaps I should not insure at all and be self insured? Each rancher will have his own dilemma to solve.
For the best answer, one must know how high a mortality risk is in your herd? This would be your own personal herd mortality rate, not the book averages. To find this out, you must have some records handy. First, for each year of the last several years divide your herd into three populations of animals; 1) calves prior to weaning, 2) animals from weaning to age 15 months, and 3) those animals 15 months and older. Next, determine how many of each age group died in one particular year. Divide the number of dead animals by the total number of animals in that age group, then multiply by 100, for example:
RATE % = Dead Animals divided by Total Animals times 100.
This is your percent mortality rate for that age group during that particular year.
Now, once you have all the years done for each age group, average each age group over the number of years for which you have records. For example on yearlings (age 3 months to 15 months): 4.6% + 5.3% + 8.4% +3.6% divided by 4 years = 5.47%. This is the average mortality rate for your yearlings over the 4 year period. If this average percent is over the industry premium rate of 10% of yearlings, or 5.75% for adults, then I suggest you best get your animals insured immediately. I should have for my original animals.
In fact, if any of your mortality rates at all approach the industry premium rate percentage, then perhaps insuring your animals and taking a very comprehensive animal husbandry course is probably a good idea.
Most likely your rate is one half or less than the industry premium rate. That’s good, you probably don’t need insurance. The lesser your rate is when compared to the insurance premium rate, the less likely you need insurance. However under some circumstances insurance may still be necessary.
If one finances animals, the bank just might require full mortality insurance for protection of their collateral. With a small herd you can’t complain much there.
Some might also suggest that very high priced animals, or animals placed at high risk (example: animals transported cross-country) should be insured. This might actually be true for the high risk group. Stress does kill, and capture myopathy can be a real killer syndrome. Perhaps at a kill rate higher than the cost of premiums! How likely are you to lose some? Only you can determine that by your methods and procedures.
On those high priced animals, it is safe to assume that price generally has very little to do with animal mortality. One could even argue that if you have paid a high price for an animal, then it is probably of better genetic stock and is very healthy, otherwise you presumably would not have purchased it, and hence it is less likely to need insurance. Besides, on really high priced animals (+$25,000) the insurance company generally won’t take the bet.
But, on the other hand, if your pocket book is too slim to take a hit from a high cost animal loss, then animal insurance is simply a good way to relieve that possible worry and guard your wallet.
Since the insurance premiums are based upon a percentage of the animals price, the cost of an animal or group of animals should have little bearing on whether to insure or not. Mortality is a game of percentages, not price tags. The number of animals you have and how you take care of them is the primary concern.
Your personal herd mortality rate combined with the number of animals in your herd will tell you whether insurance is a good idea or not.
Using the example mentioned above, we had 50 cows over 15 months of age in the herd and we have a mortality rate of 6% annually. A quick calculation shows that 6% of 50 (0.06 x 50) is 3 animals that will die each year. If each animal costs $6,200, then $18,600 is lost each year. Since the premium for 50 equally valued cows was $17,825, we can obviously see that insurance will payoff for anything over the 5.75% mortality rate on adult cows. For any larger sized herd, this is almost a no-brainer. Likely you will not want any insurance, unless you are very sloppy with your herd management.
But, on a smaller herd, like our test scenarios A and B, the decision sometimes becomes more difficult, particularly when one is faced with divergent animal values. With a smaller herd, each individual animal makes up a greater percentage of your herd assets. One cow is one fourth of a four cow herd but only one twentieth of a 20-cow herd. Losing one out of twenty is only 5%, but one out of four is 25%! Ouch!!! No one wants to lose a quarter of their investment in one stroke of bad luck. Chart 2 suggests that the small rancher at least consider insurance when the herd is smaller than about 18 animals
At what point does insurance make some sense? Up to now we have been talking about group averages and “average” years. Unfortunately all years are not average. They can vary considerably. As in the Scottish study with from 9 to 200 total animals, in some years no animals died, in other years up to 5 or 6 died. The annual mortality rate literally ranged from 0% to 11% depending upon herd size and conditions. ( My rate exceeded 11% in scenario B.) Remember the researched herd average was 2.2%, but the average is in reality made up of successive annual mortality rates ranging from 0% to 11%.
What happens in the worst case of up to an 11% death rate. Our test cases indicate that insurance is perhaps justified. If this was against only say 10 animals, we’d lose one animal each year or more. Ouch! Again, this would hurt the breeding program if it struck early in the life of the operation. Our cumulative rate of return is materially reduced by the loss of the dead cow’s actual value and its future earning ability.
If we expected about a +24%, 4-year compounded rate of return and then we lost one cow out of 10 cows, or about 1/10 of our herd, then our average rate of return drops to about 20.5% compounded annually. A 10% herd loss is a more significant 15% hit to our earnings power. A bit more than expected, and due solely to the value of future offspring.
With each additional cow death, our rate of return is reduced more and more steeply. By the time five cows had died, we’d never even be able to make our original investment money back in four years despite the remaining five cows producing at that projected +24% rate annually. Having insurance would have allowed us to buy new cows and hence preserved the original expected +24% rate of return for the full life of the venture.
The best time to buy insurance is when circumstances are such that: 1) the animal health is below average; 2) the herd is perhaps of poor genetic disposition; 3) when the animals are exposed to high risk,i.e. new environment, transport, severe weather, etc.; 4) when the animals are subject to less than standard industry treatment (such as at the hands of a new rancher’s less than adaquate techniques); or 5) as your particular financial risk dictates.
A new elk rancher should strongly consider the use of relatively expensive insurance in his first few startup years. Not only is one’s initial investment still at risk, but one’s own elk husbandry technique may have something to be desired and certainly one’s learning curve is still quite steep. This combination may lead to a higher than normal mortality rate (like mine!).
As experience and herd growth continue, risk will diminish. Once a low mortality rate is statistically established for your herd, insurance should be reserved only for use on high risk situations.
(1) Farming the Red Deer, Blaxter,Kay & Sharman, 1988, Dept. of Ag & Fisheries for Scotand. Pgs. 26-30.
(2) Reproduction in Farmed Red Deer, Blaxter, Boyne & Hamilton, 1981, J. Ag Science, Camb v.96, Pgs. 115-128.