CONTENTS

A Bigger Bang for the Milk Advertising Buck?

Evaluating Returns to the Cotton Checkoff Program

Editor's Notes

Manager's Viewpoint

Director’s Corner

Next Meeting

NEC-63 Fall 1997 October 6-7, 1997 Washington, DC A Symposium to Examine the Effectiveness of Different Nutrition Education Programs

Evaluating Returns to the Cotton Checkoff Program

by John P. NIchols, Oral Capps, Jr., George C. Davis, and David A. Bessler *

Over the past 30 years, Congress has enacted legislation authorizing 16 freestanding research and promotion programs for agricultural commodities. The cotton checkoff, established in 1966, was the first of these. An analysis we recently completed at Texas A&M University has concluded that this program, over the period 1986 through 1995, was successful in increasing domestic consumption of cotton and farm-level demand. In addition, since 1991, the return on investment under the current program, measured at the mill level, was greater than $7 for each dollar of assessment. Measured at the producer level, net returns for the current program were estimated to be $3.2 to $3.5 per dollar invested.

Cotton Checkoff Background
The Cotton Research and Promotion Act was initiated to provide for the development of an industry-wide research and promotion effort. In 1990, Congress amended the Act to eliminate producer refunds and to add a new levy on imports. The 1990 legislation also called for a review by the Secretary of Agriculture to assess the effects of these changes and to determine the need for a continuance referendum every five years. The research described in this article was undertaken in 1996 to provide an economic analysis of the cotton checkoff program with the inclusion of imports subsequent to the 1990 legislation. This analysis, plus USDA’s assessment of program implementation and industry support, provided the basis for the Secretary’s review.

The checkoff program is financed through an assessment of $1 per bale plus 0.5 percent of the value of the cotton. Over the period of this analysis (1986-1995), total funding grew from $18.5 million in 1986 to $55.1 million in 1995. Funds from the checkoff program are collected and administered by the Cotton Board, located in Memphis, Tennessee. All research and promotion activities funded by the checkoff are managed by Cotton, Incorporated (CI) which is under contract with the Cotton Board. CI is headquartered in New York with its research division based in Raleigh, North Carolina.

Research Objectives
Texas A&M undertook the evaluation project in late 1995 with an agreement to examine two related questions: (1) what are the effects of textile research and promotion activities on domestic consumption of cotton and farm-level demand? and (2) what is the rate of return associated with the cotton checkoff program? The analysis was designed to examine separately, to the extent possible, the periods before and after the 1990 amendments took effect.

Cotton Use Trends
Monthly data for research and promotion expenditures were only available back to 1986 so this analysis is based on observations from January 1986 through July 1995. This period provides sufficient observations and covers both sides of the program change, allowing for a sufficiently large sample to carry out the econometric analysis. Also by starting in 1986, the confounding effects of a major change in the 1985 Farm Bill, which altered price support programs, could be avoided. Thus, the ten-year interval used for the analysis constitutes a relatively homogeneous period in terms of farm program shifts.

In the analysis, domestic consumption is the sum of U.S. mill consumption of cotton plus net imports of raw fiber-equivalent cotton textile products (yarn, thread, and fabric; apparel; and home furnishings). Industrial uses for cotton fiber were not included. Farm-level demand for cotton is defined as the sum of U.S. mill consumption plus U.S. exports of raw cotton. These data were all obtained from USDA publications. A more detailed discussion of data sources and trends, as well as additional tables, are available in the full technical report cited at the end of this article.

Research and Promotion Activities
Marketing activities account for the largest expenditures in the CI budget. In all years analyzed, domestic marketing accounted for over 50 percent of expenditures. Other important expenditure categories include international marketing (11 percent in 1995), textile research and development (20 percent), agricultural research (10 percent), and administration (4 percent). Our analysis incorporated the two primary demand-enhancing activities: promotion (U.S. and international) and textile research and development (fiber processing, textile research and implementation, fiber quality). Agricultural or agronomic research was not included.

Promotion activities include media advertising, public relations, and marketing research. These are targeted to consumers of apparel and home fabrics, as well as the fashion and retail industries. International marketing includes a wide array of information, technical, and promotional services.

Textile research and development includes both quality of fiber and processing technology. These activities include substantial expenditures on technical services and the transfer of research findings to mills and textile manufacturers.

Evaluation Approach
Our primary research problem was to determine whether the textile research and promotion expenditures of CI (representing about 86 percent of total expenditures) affected domestic consumption and if so, by how much. This study was unique in that two different, independent modeling approaches (the structural/econometric method and the time-series method) were used to estimate this basic relationship. In each case, statistical models were developed to estimate critical relationships.

The structural/econometric model approach is based on a description of the relationships among all key variables consistent with economic theory about the behavior of firms and markets involved. The time-series model approach does not attempt to impose this structural framework and relies only on a few key statistical restrictions to determine the existence of relationships among variables. Results are based on the same data set, yet were generated from two distinctly different modeling approaches. This dual track effort serves as a check on the “robustness,” or strength, of the results.

The first step of analysis was to identify the factors influencing domestic consumption of cotton at mill-level, farm-level, and imports. Promotion and research expenditures were the primary explanatory variables but many others must be accounted for to minimize the confounding of effects. In general, these include domestic prices of cotton and other major fibers, world cotton prices, government support programs, domestic and rest-of-world stocks, population, inflation, income, and prices of other inputs used in the production of textile products at the mill level. Also, methods were employed to identify and measure the lags in time between research and promotion expenditures and the associated change in demand.

Rate of return estimates were calculated as the ratio of cumulative net returns over cumulative assessments. The net return is the measure of economic gain at a specified level of the marketing channel resulting from combined textile research and promotion activities. The denominator of the ratio is cumulative assessments paid over the relevant time period.

As another check on our analysis, a system of external reviews was incorporated into the project design. Three experienced analysts visited Texas A&M and reviewed our progress during the later stages of model development and initial estimation. These reviews resulted in renovations including better incorporation of international cotton market effects and an improvement in the method of calculating net returns on investment (ROI).

Impacts
Promotion and textile research and development expenditures had a positive impact on domestic cotton demand. To translate into industry terms, for example, a 10 percent increase in promotion expenditures, on average, gave rise to a nearly 2 million pound increase in domestic consumption per month, after a delay of eight months.

Textile research expenditures, interestingly, had a larger effect; a 10 percent increase, on average, translated into a 4 million pound per month increase in domestic consumption, after a delay of nine months. The textile research and development activities of CI include extensive technology transfer and technical servicing in mills. It is apparent that this set of activities paid off in terms of getting rapid adoption of new processing and fiber quality technology.

The U.S. textile industry is characterized by lags between orders and deliveries. Forward contracting is prevalent in this industry. Often distributors and retailers contract for cotton fiber 12 or more months prior to delivery. The impacts of lags on imports are similar to those on domestic consumption. After a delay of 12 months, a 10 percent increase in promotion expenditures translated into a nearly 4 million pound per month increase in farm-level demand. A 10 percent increase in textile research expenditures gave rise to a 6.4 million pound per month increase in farm-level demand after a delay of 14 months.

Return on Investment
These estimates were calculated separately for the period prior to August 1991, when the amended checkoff went into effect, and the period following that time. The ROI calculations could not be started until January 1988 because of the lag procedure incorporated in the model. ROI estimates were calculated at the mill level, at the producer level, and for importers as well.

Econometric/structural and time-series results were very close for each time period and market level estimated. At the mill level, the net return for the current program was in the range of $7.12 to $8.14 per dollar of investment. At the producer level, the net return for the current program was $3.23 to $3.49, and for importers the net return was slightly higher at $3.63 to $4.33.

Several interesting points were revealed by the analysis. First, producer-level ROI was substantial, but lower than when measured at the mill level. This finding may be explained in two ways. First, under the price support programs prior to 1996, a shift in demand may not have translated to a very significant increase in price because of the nature of the target price program. Also, farm-level demand includes exported cotton, the price of which is not as likely to have responded as much in world markets.

It is useful to note the major differences in ROI before and after the checkoff was amended. The greater ROI obtained under the current program may suggest that economies of scale exist in checkoff-funded market development activities. After 1991, a critical threshold was reached which allowed for increases in net returns.

Conclusions
The basic story here is consistent and clear. The cotton checkoff has significantly increased domestic cotton consumption, farm-level demand, and imports. Both textile research and development and promotion activities have contributed to these observed increases. These results, in the form of promotion and research elasticities, are similar to those reported in other research studies.

This demand effect has translated into a net return at the mill level of greater than $7 per dollar of assessment, and $3 to $4 of net return at the producer and importer level. The rate of return estimates were also within the range established by studies done for other commodities. Looked at another way, producers and importers made a 300 to 400 percent ROI because of checkoff assessments.

In addition, the methodological approach of using two separate estimation procedures provided evidence that the results were not just an artifact of the methods used. This robustness should provide additional comfort to producers, importers, and policy-makers that the cotton checkoff is meeting its intended objectives.

References
Capps, Jr., O., D.A. Bessler, G.C. Davis, and J.P. Nichols. “Economic Evaluation of the Cotton Checkoff Program,” Department Technical Report 97-2, Department of Agricultural Economics, Texas A&M University, College Station, Texas, 1997.

[ top ]

* Oral Capps, Jr., David A. Bessler, George C. Davis, and John P. Nichols are professors, assistant professor, and professor, respectively, in the Department of Agricultural Economics, Texas A&M University.