4. CLASSIFICATION OF MILK AND RELATED ISSUES

The Federal milk order system should continue to contain

uniform classification provisions, but with some modification. 

The proposed modifications are consistent with the Agricultural

Marketing Agreement Act of 1937, which requires that milk must be

classified “in accordance with the form in which or the purpose

for which it is used.”

The uniform provisions contained in this final decision

provide for 4 classes of use. They are similar to the uniform

classification provisions contained in the proposed rule, but with

some modifications. In particular, cream cheese has been moved

from Class II to Class III, and the proposed fluid milk product

exclusion for products packaged in “all-metal, hermetically-sealed

containers” has been changed back to the present standard:

“formulas especially prepared for infant feeding or dietary use

(meal replacement) that are packaged in hermetically-sealed

containers.”

In addition to these changes, the proposed shrinkage

provisions have been revised to more closely resemble the

provisions that are now in the orders, and the provision for milk

that is dumped or used for animal feed has been added back to the

orders, but has been moved from Class III to a new paragraph,

§ 1000.40(e), which specifies other uses of milk that are to be

priced at the “lowest class price for the month,” be it I, II,

III, or IV. Milk that is lost in an accident, flood, or fire

(i.e., § 1000.40(c)(3) in the proposed rule published on January

30, 1998, at 63 FR 4972) has been combined with milk that is

dumped or used for animal feed in the new paragraph (e). Finally,

the classification for inventory of fluid milk products and fluid

cream products in bulk form has been moved from Class III to Class

IV. 

Changes in the proposed rule that have been carried forward

to this final decision include the reclassification of eggnog from

Class II to Class I, the formation of a new Class IV which

includes milk used to produce butter and any milk product in dried

form, and elimination of the term filled milk from the orders. 

In addition to changes in the class uses of milk, this final

decision modifies the definitions of fluid milk and commercial

food processing establishment. Also, this decision contains

modified administrative rules related to the classification of

milk. These include rules for classifying skim milk and butterfat

that is transferred or diverted between plants, general rules

pertaining to the classification of producer milk (including the

determination of shrinkage and overage), rules describing how to

allocate a handler’s receipts of skim milk and butterfat to the

handler’s utilization of such receipts, and provisions concerning

the market administrator’s reports and announcements concerning
classification. The classification and classification-related

provisions have been restructured, in part, to standardize and

simplify the regulatory program.

Further details concerning these changes are explained in the

following discussion.

4a. Fluid Milk Product (§ 1000.15).

The new orders contain a modified fluid milk product

definition in § 1000.15. The changes to the fluid milk product

definition include eliminating the term filled milk, including

eggnog in the list of specified fluid milk products, and revising

the word buttermilk to read cultured buttermilk. The revised

fluid milk product definition reads “any milk products in fluid or

frozen form containing less than 9 percent butterfat and more than

6.5% nonfat milk solids that are intended to be used as beverages. 

Such products include, but are not limited to, milk, skim milk,

lowfat milk, milk drinks, eggnog, and cultured buttermilk,

including any such beverage products that are flavored, cultured,

modified with added nonfat milk solids, sterilized, concentrated

(to not more than 50% total milk solids), or reconstituted.” 

The term “buttermilk,” as used in the fluid milk product

definition, is changed to read “cultured buttermilk.” The revised

term clearly distinguishes the “beverage” buttermilk product from

the buttermilk byproduct which is produced from a continuous

churning operation. 

The fluid milk product definition also is modified to exclude

“filled milk” and to include eggnog in its list of products. 

Although it is apparent that eggnog is a beverage milk product and

clearly meets many of the criteria for being considered a fluid

milk product, it is not now included in the list of products

identified as fluid milk products. The addition of eggnog to the

list of fluid milk products results in a change of the product’s

classification from a Class II product to a Class I product. The

elimination of the term “filled milk” from the fluid milk product

definition is discussed later. 

In the proposed rule, certain changes were proposed for

section 15(b)(1) of the fluid milk product definition. Currently,

this section exempts from the fluid milk product definition

“formulas especially prepared for infant feeding or dietary use

that are packaged in hermetically-sealed containers.” As contained

in the proposed rule, this exemption would have applied to

“formulas especially prepared for infant feeding or meal

replacement”--without regard to the type of container--and “any

products packaged in all-metal, hermetically-sealed containers.” 

These changes were not widely supported and have been dropped

because they could result in reclassifying certain fluid milk

products from Class I to Class II. The language in this final
decision is identical to Section 15(b)(1) of the present orders. 

 

4b. Fluid Cream Product (§ 1000.16).

No change has been made to the fluid cream product

definition. The current definition is uniform under all the

orders and should be used in the newly merged orders. There were

no comments supporting a change in this provision.

4c. Filled Milk.

The definition of filled milk has been eliminated from all

milk orders and the term has been removed from the fluid milk

product definition and other provisions within the orders. Filled

milk is a product that contains a combination of nonmilk fat or

oil with skim milk (whether fresh, cultured, reconstituted, or

modified by the addition of nonfat milk solids). Filled milk was

first produced and marketed in the 1960s. In 1968, the orders

were amended to provide a definition of filled milk. Currently,

there is little or no filled milk being produced under Federal

orders. The term filled milk is used 18 times in each of the milk

orders. It serves little purpose today except to complicate and

lengthen the regulatory language. For this reason, any reference

to filled milk has been removed from all orders.

The form of filled milk and purpose for which it is used are

the same as the form and purpose for which whole milk is used. 

Filled milk is marketed by handlers in the same types of packages

and in the same trade channels as whole milk, and is mainly

intended to be used as a beverage substitute for milk. Whether

made from vegetable fat and fresh or reconstituted skim milk, or

any combination thereof, the resulting product resembles whole

milk in appearance. Therefore, any filled milk produced and

marketed in the future will be classified as a Class I product

under the revised fluid milk product definition.

No letters were received commenting on this change. 

4d. Commercial Food Processing Establishment (§ 1000.19).

The definition of commercial food processing establishment

(CFPE) has been revised by removing the filled milk reference, for

the reasons previously discussed, and by removing the word “bulk”

from the definition. The removal of the word “bulk” will allow a

CFPE to receive fluid milk products and fluid cream products for

Class II use in certain sized packages as well as in bulk. 

Presently, the CFPE definition prohibits the receipt of fluid

milk products for Class II use in relatively small pre-measured

packages that might reduce the CFPE’s production costs. While

packaged fluid milk products should be permitted to be transferred

to a CFPE in any size, only those products that are shipped in

larger-than-consumer-sized packages (i.e., larger than one gallon)
should be eligible for a Class II classification. If milk is

received in gallon containers or smaller, the milk should be

priced as Class I milk since there is no way of guaranteeing that

such products will not be sold for fluid use. Permitting milk in

any sized container to be sold to a CFPE for Class II use if the

container had a special label, such as “for commercial food

processing use only,” was considered, but such a provision would

be impractical and it would be prohibitively expensive for a

handler to prepare specially labeled products for small accounts. 

The current restriction barring a CFPE from having any disposition

of fluid milk products other than those in consumer-sized packages

(one gallon or less) should be retained under the new orders.

These two restrictions are based upon practical

considerations. The integrity of the classified pricing system

would be much more difficult to maintain if the market

administrator were forced to audit every CFPE on a regular basis. 

By prohibiting the sale of fluid milk products in consumer-sized

packages to a CFPE for anything but Class I use, there would be

less need to regularly audit CFPE’s to be sure that such products

are not being sold to the public. Similarly, since packaged fluid

milk products in containers larger than one gallon are rarely, if

ever, found in retail outlets, it is unlikely that such products

will be sold for fluid use. By restricting fluid milk product

disposition by CFPE’s to packaged products not larger than one

gallon in size, there is reasonable assurance that milk priced as

Class II will not be disposed of as fluid milk sold by the glass

from a bulk dispenser.

There were no comment letters that addressed these

recommendations in response to the proposed rule. 

4e. Classes of utilization (§ 1000.40). 

Historically, the fluid or beverage uses of milk have been

classified in the highest-priced class (Class I), and soft or

spoonable products, those from which some of the moisture has been

removed, have been classified in the intermediate class of milk

(Class II). The final decision issued on February 5, 1993 (58 FR

12634) provided 3 uniform classes of milk for all orders. Classes

I and II continued the traditional classification of milk, while

the lowest-priced class (Class III) contained the hard, storable

products. In a final decision that became effective December

1993, a fourth class -- Class III-A (actually a sub-section of

Class III) -- was established for most orders for milk used to

produce nonfat dry milk. 

This final decision continues to provide a Class I

classification for milk used for fluid and beverage use, with

certain exceptions for formulas especially prepared for infant

feeding or dietary use in hermetically-sealed containers and
products with less than 6.5 percent nonfat milk solids. Soft or

spoonable products, most soft cheeses, and milk that is used in

the manufacture of other food products or sweetened condensed milk

will continue to be classified as Class II. Class III will

continue to apply to milk used in hard cheeses, cream cheese, and

other spreadable cheese, but will no longer apply to butter. 

Finally, the new Class IV applies to all skim milk and butterfat

used to produce butter or any milk product in dried form. 

Class IV will also apply to bulk milk that is in inventory at the

end of the month.

A new paragraph (e) has been added to § 1000.40 that

classifies other uses of milk that are priced at the

“lowest-priced class” for the month. 

Under the pricing formulas proposed for the new orders, it is

not certain whether the Class III price or the Class IV price will

be the lowest class price for the month. In view of this price

uncertainty, a new paragraph has been added to § 1000.40 to

guarantee that milk that is lost in an accident, dumped, or used

for livestock feed is accounted for at the month’s lowest class

price. 

 Comments filed regarding the number of classes of utilization

for the proposed merged orders varied from supporters of one

class, which would eliminate all manufacturing classes, to

supporters of 5 classes of milk. Comments concerning the addition

of an export class were also received. However, a large majority

of the comments on this issue supported 4 classes of utilization

as proposed.

4f. Class I Milk.

In this final decision, Class I milk includes all skim milk

and butterfat contained in milk products that are intended to be

consumed in fluid form as beverages, with certain exceptions. 

These exceptions include plain or sweetened evaporated or

condensed milk, milk that is used in formulas especially prepared

for infant feeding or meal replacement if such products are

packaged in hermetically-sealed containers, and any product that

contains by weight less than 6.5 percent nonfat milk solids.

Under this final decision, eggnog will join lowfat eggnog as

a Class I product. Class I products are generally classified on

the basis of their fluid form and intended use. Eggnog, a highly

seasonal product, is clearly intended to be consumed as a

beverage. Since this product is manufactured, packaged and

distributed to the consumer as a drinkable beverage, it should be

classified as a Class I product. Comments received regarding the

reclassification of eggnog were generally in support of its

reclassification into Class I, although a few handlers submitted

comments opposing this change, arguing that it would increase the
cost of eggnog and, therefore, reduce consumer demand for this

product.

Class I Used-to-Produce. In order to simplify the

accountability for milk products classified as Class I that may

contain nonmilk ingredients and/or previously processed and priced

skim milk and butterfat, the proposed rule recommended adding a

“used-to-produce” category to Class I. The proposed rule stated

that the used-to-produce accountability method would preclude the

need to develop and maintain nonstandard conversion factors and

non-milk credits (i.e., salt, flavoring, stabilizers) for milk

product accountability and would improve the accuracy of handler

reporting and minimize audit corrections without sacrificing any

statistical information, pricing considerations, or classification

criteria. 

Several comment letters were received arguing that the

proposed Class I used-to-produce category would not simplify the

accounting system but instead would complicate it. No comments

were received endorsing this proposal.

Our analysis of the proposed Class I used-to-produce category

generally supports those who argued against it. If there were no

need to follow a pool distributing plant’s route disposition to

its ultimate source to determine under which order the plant would

be regulated, it would be possible to simplify accounting by

adopting a Class I used-to-produce category. However, with the

pooling standards adopted in this final decision, the proposed

used-to-produce category would simply require dual accounting with

no offsetting benefit. Accordingly, the Class I used-to-produce

proposal has been dropped from this final decision. 

4g. Class II, III, and IV Milk.

The classification of milk used in Class II, III, and IV uses

and products is essentially the same as contained in the proposed

rule with a few exceptions.

First, cream cheese is moved from Class II to Class III,

where it has been for many years. 

Second, fluid milk products and bulk fluid cream products in

inventory at the end of the month have been moved from Class III

to Class IV.

Third, the skim milk equivalent of nonfat solids used to

modify a fluid milk product that has not been accounted for in

Class I has been moved from Class III to Class IV. 

Fourth, the proposed Class II classification for any fluid

product in an “all-metal, hermetically-sealed container” is

changed to what is now in the orders: i.e., “formulas especially

prepared for infant feeding or dietary use (meal replacement) that

are packaged in hermetically-sealed containers”.

Finally, the surplus classification for milk that is dumped
or used for animal feed is added back to the orders, but, as

described earlier, it has been placed in a new paragraph (e) of

§ 1000.40 which prices milk in the lowest-priced class for the

month. For the same reasons cited previously, milk which is lost

in a fire, flood, or accident also has been moved from Class III

to the “other uses” class. 

Under the proposed rule, the classification of cream cheese

would have been changed from Class III to Class II. The rationale

for this change was that the milk used in Class II products is

used to process or manufacture products for which handlers know a

consumer demand exists and that such products are neither as

perishable as fluid products nor perform a balancing function for

the market, as do butter, powder, and the hard cheeses.

This proposal was not well received by a large majority of

the handlers and producer organizations that commented on it. The

International Dairy Foods Association argued that the pricing of

milk used for cream cheese under California’s state order is below

the Federal order Class II or III price and moving cream cheese

from Class III to Class II would create a huge competitive

disadvantage for milk used in cream cheese under Federal milk

orders. The National Milk Producers Federation, Dairy Farmers of

America, and numerous individual handlers repeated essentially the

same argument.

Some comments addressed the classification of cottage cheese

and ricotta cheese, in addition to cream cheese. A national

manufacturer of cheese argued that milk used in cottage cheese and

ricotta cheese should be reclassified from Class II to Class III. 

The handler stated that due to falling demand for cottage cheese,

it should be placed with other cheeses in Class III. Another

cottage cheese manufacturer made the same suggestion. Several

comment letters also pointed out that ricotta cheese was priced

under California’s Class 4-b, giving California processors an

advantage over processors making ricotta from milk priced under

Federal milk orders. While these comments may have some merit, we

believe that more information is needed before these changes can

be considered.

Ending inventory of fluid milk products and fluid cream

products in bulk form should be moved to Class IV. Since the Class

IV price is expected to be the lowest class price in the long run,

it is logical to classify ending inventory in Class IV. Also,

paragraph (c)(4) of § 1000.40, should be moved from Class III to

Class IV. This paragraph prices the skim milk equivalent of

nonfat milk solids used to modify a fluid milk product. With the

inclusion of a Class IV classification for all products in dried

form, the nonfat milk solids used to modify a fluid milk product

should be priced as Class IV, together with other dried products,

rather than Class III.
Products lost by a handler in a fire, flood, or vehicular

accident and products that are dumped or used for animal feed have

been moved from Class III to a new paragraph (§ 1000.40(e)) which

would price skim milk and butterfat in such uses at the lowest

class price for the month. Under the pricing formulas proposed

for the new orders, the Class III price or Class IV price is

likely to be the lowest class price for the month, but it is

possible under some orders that the Class I or II price could be

the lowest class price for the month if component values were

increasing rapidly. In view of this price uncertainty, a new

paragraph has been added to § 1000.40 to guarantee that milk that

is lost in an accident, dumped, or used for livestock feed is

accounted for at the month’s lowest class price. 

As previously noted, formulas especially prepared for infant

feeding or dietary use (meal replacement) that are packaged in

hermetically-sealed containers should continue to be classified as

Class II products. Although the proposed rule suggested a

modification of this exemption, there was insufficient support to

move forward with this suggestion. Accordingly, no change was

made from the language that is now in the orders.

The treatment of buttermilk should remain unchanged from the

proposed rule. No comments were received in opposition to the

proposed distinction between buttermilk for drinking purposes and

buttermilk for baking purposes. As set forth in the proposed

rule, drinking buttermilk would have to be labeled as “cultured

buttermilk” while buttermilk for baking must contain food starch

in excess of 2% of the total solids in the product and the product

must be labeled to indicate the food starch content.

The proposal to account for all Class II products on a usedto-produce basis was unopposed. Accordingly, this accounting

method, which now applies to all Class II products, except for

some fluid cream products, is extended to the remaining Class II

products that are currently accounted for on a disposition basis.

As noted above, a large majority of the comment letters

supported the 4 classes of utilization as set forth in the

proposed rule, including the separate Class IV for butter and milk

products in dried form. Therefore, no change has been made to

Class IV in this final decision except for the addition of the

items already discussed. 

Several commenters reiterated requests made prior to the

proposed rule to reclassify bulk sweetened condensed milk from

Class II to Class IV. The commenters explained that sweetened

condensed milk is primarily used in commercial food processing

establishments and in the confections industry and that it is

interchangeable with powdered milk products and sugar in

ingredient markets for processed foods and candy. They argued

that manufacturers of sweetened condensed milk are currently at a
competitive disadvantage with manufacturers of nonfat dry milk 

and urged that the 2 products be classified identically. 

According to one commenter, the Galloway Company, the current

system of classification places sweetened condensed milk at a

significant disadvantage and has virtually destroyed the market

for sweetened condensed milk.

Hershey Foods Corporation filed a comment letter objecting to

the difference in classification for fresh milk used to make

chocolate compared to fresh milk used to make powder that is used

to make chocolate. Specifically, Hershey argued that the Class II

classification for fresh milk used to make chocolate, compared to

the Class IV classification for milk used to make powder that is

subsequently used in chocolate violates the Act because such milk

starts out in the same form and is used for the same purpose.

Hershey explained that whole milk, sugar, cocoa butter, and

chocolate liquor are used to make “chocolate crumb,” which is

further processed to make chocolate. According to Hershey, the

chocolate crumb has a moisture content of only 1 percent, which

means that if a manufacturer receives fresh whole milk, it must

remove 99 percent of the water from it in order for the milk to

perform its function in the chocolate. An alternative to starting

with whole milk and drying it is to purchase whole milk powder and

mix it with the sugar, cocoa butter, and chocolate liquor to make

the chocolate crumb.

Hershey argues that maintaining the current disparate

classifications for fresh milk used to make chocolate and fresh

milk that is first dried and then used to make chocolate, in

combination with the proposed 70-cent Class II differential, will

pressure manufacturers to change their manufacturing processes and

formulas, reduce the use of fresh milk and increase the use of

milk powders, reduce milk solids in product formulas, replace milk

solids with lower cost alternatives, and might even influence the

location of chocolate manufacturing plants. Hershey also notes

that the State of California does not discriminate between

manufacturers of chocolate, but instead prices all milk used to

manufacture chocolate in the same class whether the chocolate

manufacturer begins its process with fluid milk, sweetened

condensed milk, evaporated milk, nonfat dry milk, or whole milk

powder.

Galloway and Hershey conclude that there is no justification

for pricing milk used to make sweetened condensed milk or

chocolate crumb in a higher class than milk used to produce

powdered milk. However, Galloway states, if sweetened condensed

milk is kept in a class higher than powder, the differential for

that class should be no more than 30 cents per hundredweight. 

Bulk sweetened condensed milk/skim milk is used as an

intermediate product in ice cream, candy, and other manufactured
products. However, these manufactured products can also be made

from powdered milk. When powder prices are low relative to the

Class II price, there is an economic incentive for powder to be

substituted for bulk sweetened condensed milk. As a result, there

must be an economic relationship between the Class II price and

the cost of using alternative dry or concentrated products to make

Class II products. Under current pricing provisions, the Class II

price can be excessive relative to using nonfat dry milk since the

Class II price is a measure of the value of milk in cheese (the

Class III price) plus a differential.

Conceptually, we do not believe that the value of milk used

in demand-driven products like chocolate and sweetened condensed

milk that is used in food products is the same as milk that is

sometimes made into powder for lack of any other use. The major

point of the ability to substitute among forms of milk, sweetened

condensed milk, and nonfat dry milk in certain uses is that there

is a fixed relationship between the Class II and Class IV price. 

The appropriate price relationship is discussed in the Class II

pricing section of this decision.

In the proposed rule, no allowance was provided for dumped

milk or milk used for animal feed, and a Class III classification

was recommended for milk lost in a fire, flood, or accident. Many

handlers and the National Milk Producers Federation objected to

the removal of the Class III classification for milk that is

dumped or used as animal feed.

On the basis of the comments filed on this issue, a surplus

use has been established for milk that is dumped or used as animal

feed. The price applicable to such use will be the lowest class

price for the month.

4h. Shrinkage and Overage.

Shrinkage is experienced by handlers in milk processing

operations and in the receipt of farm bulk tank milk at receiving

stations and processing plants. Milk is unavoidably lost as it

remains in pipe lines, adheres to tanker walls and/or other plant

equipment, and is washed away in the cleaning operations. In

addition, unexpected losses, including spillage or leaking

packages, also contribute to shrinkage.

In the proposed rule, we proposed a pro rata assignment of

shrinkage based on a handler’s utilization. In other words, each

handler’s shrinkage would have been classified according to the

handler’s use of milk that was not lost in transit or processing. 

We believed that the adoption of such a provision would have

simplified both order language and accounting procedures, and we

thought that it would be acceptable to handlers because, although

in some cases it increased their costs slightly, the change

applied equally to everyone.
There were very few comment letters that supported the

proposal and an overwhelming number of comments urging us to keep

the current provision. Many of the opponents were high Class I

utilization handlers who complained that the proposed change would

reclassify their shrinkage from Class III to Class I, increasing

their costs for this lost milk.

It was not only handlers that disliked the proposed shrinkage

provision. Several producer organizations, including Dairy

Farmers of America and the National Milk Producers Federation,

also voiced their opposition to the proposal. Most of the comment

letters urged us to retain the key features of the present

shrinkage provision, but there were comments suggesting a simpler

provision. 

Based on the comments received, this final decision retains,

in large part, the present method of calculating shrinkage

allowances and pricing shrinkage, but with certain modifications. 

Just as in the current provisions, there are specified allowances

for shrinkage. The major difference is that shrinkage is not

automatically assigned to a specified class, as it is now, but

rather is assigned to the “lowest-priced class.” This change was

made to conform with the new 4-class pricing system and, more

importantly, to recognize that there is no fixed relationship

between class prices because of the different formulas used to

compute them. For example, because the formulas for Class III and

IV prices are not directly related, it cannot be known in advance

which class price will be lowest. Since the relationship between

class prices will vary from one month to the next, under the

provision adopted here shrinkage may be priced in Class III one

month and in Class IV the next. It is necessary to price

shrinkage in the lowest-priced class to avoid the situation where

a cheese plant, for example, would have to pay more for its

shrinkage than it would for milk used in cheese. Such would be

the case if shrinkage was always priced in Class IV and the Class

IV price exceeded the Class III price. Pricing shrinkage in the

lowest-priced class prevents this problem.

As noted, the current shrinkage allowances has been retained

in the revised provision. Thus, a pool plant operator would

receive a lowest-priced class shrinkage allowance based on 2

percent of the total quantity of milk physically received at the

plant directly from producers’ farms on the basis of farm weights

and tests, plus 1.5 percent of bulk milk received on a basis other

than farm weights and tests, and minus 1.5 percent of the quantity

of bulk milk transferred to other plants, excluding concentrated

milk transferred to another plant for an agreed-upon use other

than Class I. A cooperative association handler that delivers

milk to pool plants on a basis other than farm weights and tests

would receive a shrinkage allowance of .5 percent of the total
quantity of milk picked up at producers’ farms. Shrinkage in

excess of these allowances will be assigned in series starting

with Class I to the extent of available utilization.

The shrinkage provision adopted for the new orders contains

language to accommodate shrinkage associated with “concentrated

milk.” Prior to the 1993 classification decision, condensed milk,

which is made for use in ice cream and other manufactured

products, was not a fluid milk product. Hence, it was not

addressed by the shrinkage provision. This changed after the

decision, however, when condensed milk became a fluid milk

product. In making this change to the fluid milk product

definition, certain conforming changes that should have been made

in the shrinkage provisions were overlooked. The current

proceeding involving all Federal orders has been the first

opportunity to rectify this oversight. During the interim period,

the unique problem associated with condensed milk has been handled

administratively. Thus, the new language added to the shrinkage

provision does not represent a change from the way the rules have

been administered but merely codifies them. 

Some plants receive milk from producers, condense (i.e.,

concentrate) the milk into a product that contains not more than

50 percent total milk solids, and then transfer this product on an

agreed-upon basis to another plant for use in some product other

than a fluid milk product (e.g., ice cream). In this case, the

first plant should retain the full 2 percent shrinkage allowance

because it incurs processing shrinkage in the course of

concentrating--i.e., most likely condensing--the milk. The plant

purchasing this concentrated (i.e., condensed) milk should get no

shrinkage allowance on this milk since the designated use of this

milk is for non-fluid use. Accordingly, the value of any

shrinkage incurred in further processing this concentrated milk

would not be much less than its use value.

As noted elsewhere in this decision, a recent development in

milk processing is the use of on-farm filtering equipment (e.g.,

reverse osmosis or ultra-filtration) to concentrate milk before it

is shipped to a plant for use in a variety of milk products. 

Although this milk falls under the same broad “concentrated milk”

category as condensed milk, it is actually a very different

product which can conceivably be used for fluid use as well as in

a manufactured product such as cheese or ice cream. Thus,

language is needed in the shrinkage provision to differentiate

this type of concentrated milk from condensed milk. We have

accommodated these 2 types of concentrated milk by allowing the

shipping and receiving handlers to agree on the use of this milk. 

Accordingly, if a handler receives concentrated milk from another

plant by agreement for use in Class II, III, or IV, the receiving

handler will get no shrinkage on this milk. If no such agreement
is specified, however, the receiving handler will get the 1.5

percent shrinkage allowance, just as would be the case for

unconcentrated milk that was received from another plant.

For example, milk may be concentrated at a plant by using

reverse osmosis or ultra-filtration techniques and then be

transferred to a 2nd plant for use in a fluid milk product. In

such case, the milk will not be transferred by agreement for other

than Class I use, but instead will be allocated to use at the 2nd

plant receiving this concentrated milk. In this instance, it is

appropriate to treat this milk just like unconcentrated milk that

is received at a plant and then transferred to a 2nd plant. Thus,

the first plant will initially get a 2 percent shrinkage allowance

for the milk received from producers, but will be required to

subtract 1.5 percent from the 2 percent when the milk, even though

concentrated, is transferred to the 2nd plant. The 2nd plant will

get a shrinkage allowance based on 1.5 percent of the

reconstituted volume of the concentrated milk. In other words,

for accounting purposes the water that was initially removed from

the milk will be added back to the concentrated milk before

computing the 1.5 percent shrinkage allowance for the 2nd plant. 

In the example above, the concentrated milk will likely be

from a farm plant which concentrates its milk before shipping it

using either reverse osmosis (RO) or ultra-filtration (UF). As

explained in the uniform provision discussion in this final

decision, milk from a single farm with RO or UF equipment will be

treated as producer milk of the first pool plant receiving this

milk. However, when the milk of 2 or more producers is commingled

on a farm with RO or UF equipment, that farm will be treated as a

plant and the dairy farmer owning or leasing the farm will be the

responsible handler for all of the milk processed that month.

The shrinkage provision in this final decision differs from

the current shrinkage provisions in one other respect. At the

present time, when a manufacturing facility that has absolutely no

Class I utilization has “excess shrinkage” (i.e., shrinkage that

exceeds its 2 percent shrinkage allowance) the excess shrinkage is

assigned to Class I even though the plant has no Class I

utilization. Thus, the milk that is “lost” by the plant is

actually priced higher than the milk that is “used” by the plant. 

Under the proposed provision, such excess shrinkage would be

assigned to whatever utilization the plant has, starting with

Class I. In the case of a cheese plant that has no utilization

other than Class III, the excess shrinkage would be assigned to

Class III.

After shrinkage is assigned pursuant to § 1000.43(b) of the

proposed orders, it will be added to a handler’s reported

utilization to arrive at the “gross utilization in each class.” 

The gross utilization in each class will then be carried over to
§ 1000.44, where it will be used to allocate the handler’s

receipts to its gross utilization of such receipts.

Overage occurs when the reported utilization of producer milk

exceeds the reported quantity of producer milk received. Overage,

as well as shrinkage, can occur for a number of reasons but is

usually the result of record-keeping and measurement errors. 

As set forth in the proposed rule, overage would have been

classified by being prorated to a handler’s reported utilization. 

It then would have been subtracted from the handler’s reported

utilization to arrive at the gross utilization in each class which

would have been used to allocate a handler’s receipts in

§ 1000.44. 

No comments were received specifically focusing on the

proposed treatment of overage, undoubtedly because the proration

of overage does not have the same financial impact as the

proration of shrinkage. Nevertheless, in conjunction with the

change in the treatment of shrinkage, the treatment of overage

also should remain the same as it is now in the orders. 

Accordingly, in this final decision, overage is classified in

§ 1000.44(a)(11) by subtracting the excess pounds of skim milk and

butterfat from each class, beginning with Class IV. This

treatment is identical to the way overage is classified under the

present orders in Section 44(a)(14), except for the fact that now-

-since there is no Class IV--the allocation begins with Class III.

4i. Classification of Transfers and Diversions (§ 1000.42).

Certain changes have been made to the classification of

transfers and diversions section of the orders to simplify and

clarify order language. The changes discussed in this final

decision are virtually identical to those contained in the

proposed rule, except for minor corrections and conforming changes

necessitated by other changes in order provisions. There were

very few comments pertaining to this section of the proposed rule. 

Those that were received supported the changes proposed.

At the present time, in many orders if any milk that is

diverted from one order to another for requested Class II or III

use is assigned to Class I, the dairy farmer who shipped that milk

is defined as a producer under the order receiving the milk with

respect to that portion of the milk assigned to Class I. In other

orders under similar conditions, the dairy farmer becomes a

producer on the receiving order for all of the milk diverted even

though only a portion of the milk was classified as Class I. When

this type of adjustment is necessary, the diverting handler is

informed by the market administrator’s office that there is not

enough Class II or III use remaining in the receiving plant to

absorb all of the milk diverted. In such case, the diverting
handler may pick which load or loads of diverted milk will become

producer milk under the receiving order. 

Since the orders are not precisely clear on how inter-order

diverted milk should be handled, some modification is needed in

the order language. Under most orders, and as provided in this

final decision, milk may be diverted from one order to another for

a requested use other than Class I. However, if there is not

enough Class II, III, or IV utilization in the receiving plant to

be assigned to the diverted milk, some milk may have to be

assigned to Class I. When this happens, the practical

administrative problems involve determining which milk of which

dairy farmers and which loads of milk will be shifted as producer

milk from one order to another. 

Market administrators should be given some flexibility to

handle these administrative problems on a market-by-market and

case-by-case basis. As a practical matter, most milk diverted

between orders is diverted by cooperative associations that

reblend proceeds to their members. In most cases, it makes little

difference to a cooperative association whether a dairy farmer is

a producer on one order or another order; any differences in blend

prices between the orders will be washed out in the reblending

process. In the case of milk of nonmember producers that is

diverted between orders, however, differences could arise in a

producer’s net proceeds for the month depending upon how much milk

was pooled in each order. Therefore, these situations should be

handled in such a way as to be least disruptive to individual

dairy farmers. 

A market administrator does not know until handlers’ reports

have been received that some portion of milk reported as diverted

to another order cannot be absorbed by the amount of non-Class I

utilization in the receiving order’s plant. In such case, the

diverting handler should be given the option of designating the

entire load of diverted milk as producer milk at the plant

physically receiving the milk. Alternatively, if the diverting

handler wishes, it may designate which dairy farmers on the

diverted load of milk will be designated as producers under the

order physically receiving the milk. As a last resort, the market

administrator will prorate the portion of diverted milk among all

the dairy farmers whose milk was received from the diverting

handler on the last day of the month, then the second-to-last day,

and continuing in that fashion until the diverted milk that is in

excess of Class II, III, and IV use has been assigned as producer

milk under the receiving order. 

A conforming change that should be made in each order relates

to milk that is transferred or diverted for Class II or III use. 

Presently, milk may be transferred or diverted on a requested

Class II or III basis. However, with 4 classes of utilization in
the new orders, milk could be diverted for requested Class IV use

also. Rather than specifying “Class II, III, or IV,” however, the

orders should simply state “other than Class I” to accommodate a

system of more than 3 classes. This language is simpler, shorter,

and accomplishes the same end.

To simplify and clarify the classification of transfers and

diversions of bulk fluid milk products and bulk fluid cream

products from a pool plant to a nonpool plant, which are

classified by assigning the nonpool plant’s utilization to its

receipts, the phrase, “excluding the milk equivalent of both

nonfat milk solids and concentrated milk used in the plant during

the month,” has been added in § 1000.42(d)(2)(i). This language

will help to clarify the steps to be followed in verifying the

utilization of bulk fluid milk and cream at the nonpool plant. It

has been added to ensure administrative consistency and does not

represent a change in the application of this provision.

In § 1000.42(d)(2)(vi), the allocation process for bulk fluid

milk transferred from pool plants to nonpool plants is modified

such that any remaining unassigned receipts of bulk fluid products

be assigned, pro rata among such plants, to the extent possible

first to any remaining Class I utilization and then to all other

utilization, in sequence beginning with the lowest class at the

nonpool plant. This change returns the order language to the

assignment sequence that was adopted in the Uniform Classification

Decision of 1974. Receipts from pool plants should not be given

preference by assigning such milk to the available Class II use

before assigning receipts from dairy farmers who constitute the

regular source of milk for such nonpool plant. Generally, milk

transferred or diverted from pool plants to nonpool plants is

surplus milk and would be used in storable manufactured products,

such as nonfat dry milk and butter. By assigning transferred or

diverted milk to a nonpool plant’s Class II utilization first, the

pool plant operator is forced to account for this milk at the

Class II price, even though the nonfat dry milk or other surplus

product that was made with the milk is of a lesser value. This

process will prevent the assignment of receipts at a higher

utilization than the actual utilization.

Receipts of bulk fluid cream products at nonpool plants from

pool plants and plants regulated under other Federal orders,

similarly, will be assigned to the lowest class utilization first. 

Generally, a plant operator will use its regular source of supply

in the highest valued uses before using alternative supplies. 

Thus, if a nonpool plant receives cream from a pool plant or a

plant regulated under another Federal order, it is likely that the

regulated plants were trying to dispose of their excess cream. 

The nonpool plant receiving the cream will most likely use it for

manufacturing purposes; therefore, it should be assigned to the
lowest class first. The priority given to regular source supplies

is recognized and the provision modified to reflect this.

4j. General classification rules (§ 1000.43).

For classification purposes, the milk of a cooperative bulk

tank handler--i.e., a “9(c) handler”--that is delivered to a pool

plant will be treated as “producer milk” of the pool plant

operator. This change will shorten and simplify the allocation

section.

The computation and classification of shrinkage and overage

have been added to this section. This will eliminate Section 41,

the section previously used for this purpose. Also, the last

paragraph of Section 43 has been removed because milk for Class IV

use now would be classified in Section 44 of the orders.

No comments were received pertaining to this section.

4k. Classification of producer milk (§ 1000.44).

A handler may receive milk from a producer, a cooperative

association acting as a handler on bulk tank milk, by transfer

from another pool plant, or from “other sources” such as nonpool

plants, partially regulated plants, and plants that are regulated

under other orders. Because of this diversity in sources of

receipt, it is necessary in a milk order to go through an

allocation sequence to determine which source of milk gets

priority to a particular class of utilization and to determine how

producer milk was used. In some orders, this allocation sequence

is done on a system-wide basis; in others, it is done for each

plant receiving producer milk.

Section 44 is one of the most complicated and difficult-tounderstand sections in a milk order. Consequently, an attempt has

been made to simplify and shorten it. Part of this task was made

easier by proposed changes to other sections (e.g., elimination of

filled milk, elimination of individual handler pools, and

modification of the treatment of inter-order transfers and

diversions).

All orders are not now uniform in the classification of

producer milk. For example, some orders (e.g., Chicago Regional) 

provide for system allocation while others allocate receipts on a

plant-by-plant basis for a multiple plant handler.

Under the consolidated orders, milk will be allocated on a

plant-by-plant basis, as modified to reflect other changes

proposed herein. The system allocation method that is found in

some orders is based upon a set of marketing conditions concerning

the locations of handlers’ plants and the market’s available milk

supply in relation to those plants. These provisions were

intended to stop abuses that occurred when milk was transferred

from one market to another. Rather than permit an inter-order
transfer to be assigned at a handler’s high Class I utilization

plant, while the handler’s producer milk was assigned to lower use

value at another of its plants, the system allocation provisions

assigned the transfers on the basis of the handler’s utilization

at all plants combined. The objective was to prevent more distant

other order milk from being assigned to Class I use at the expense

of producers who were located nearer to the city markets and who

represented the normal source of supply for the markets’ fluid

milk needs.

The 11 new orders do not fit within the parameters of the

classical model where a major consumption area is surrounded by

production areas. The marketing areas proposed for the

consolidated orders span several states and have a number of major

population centers. They also have pockets of milk production

that, in a number of cases, are in higher-priced areas than some

of the fluid milk plants within the marketing area. This milk may

not be economically available to a fluid milk plant several

hundred miles away. In fact, it may be that a plant near the

periphery of a multi-state market may find its closest and

cheapest source of supply from outside the market rather than from

within the marketing area. Accordingly, the system allocation

rules are not supported by current marketing conditions. 

Therefore, all orders have been modified to allocate milk only on

a plant-by-plant basis rather than on a system basis.

Another change that has been made in the allocation section

concerns the “98/2" rule. At the present time, only 98 percent of

the packaged fluid milk products transferred between orders is

allocated to Class I; the remaining 2 percent is allocated to

Class III. This provision, originating from the June 19, 1964,

“compensatory payment” decision, was adopted to provide an

allowance for “route returns.” According to that decision, “it is

reasonable to expect some route returns will be associated with

inter-market transfers just as there are in connection with milk

locally processed in the receiving market...a small allowance of 2

percent for such returns, which must fall into surplus use, should

be included to avoid such over-assignment in Class I.” (29 FR

9120).

This final decision classifies route returns based upon the

use of such returns. If route returns are used for animal feed,

an “other use” classification is provided and such milk is priced

at the lowest class price for the month. If route returns are

used to make another product, such as cottage cheese for example,

the milk would be reclassified as Class II. This classification

not only applies to packaged products made from producer milk, but

also includes packaged products that were received from other

plants, distributed on routes, and then returned to the last plant

of receipt.
A handler transferring packaged fluid milk products to

another handler’s plant may incur some lost product en route to

the buying handler’s plant. In such case, the transferring

handler may report such product as route returns and account for

the milk used in such product at the lowest class price. 

In view of the reclassification for route returns for either

handler involved in an inter-order transfer who reports such

returns, subject to market administrator verification, it is not

necessary to classify interorder transfers of fluid milk products

at 98 percent Class I and 2 percent Class III because this rule

overcompensates handlers for route returns and unfairly reduces

income to producers. For these reasons, the “98/2" rule has been

eliminated.

In addition to the changes discussed above, Section 44 has

been shortened and simplified by removing unnecessary references

that serve to confuse the language rather than make it easier to

understand. Where possible, simpler language has been used to

replace lengthy section references.

No comments were received supporting or opposing these

recommendations.

 

4l. Conforming changes to other sections (§§ ----.14, ----.41,

and ----.60).

Paragraph (b) of the other source milk definition has been

removed to reflect the fact that all packaged fluid cream products

now would be accounted for on a used-to-produce basis. Also, as

previously noted, the simpler and shorter treatment for shrinkage

shortens the existing shrinkage provision to the point where it is

no longer necessary to keep a separate section for it. Therefore,

a separate section for shrinkage is eliminated and the revised

contents of that section are now incorporated as a new paragraph

(b) in § 1000.43. Finally, conforming changes have been made to §

----.60 (Handler's value of milk for computing the uniform price)

to reflect the elimination of filled milk from the order, and to

reflect changes in references due to other modifications such as

the changes in the treatment of shrinkage and overage.

4m. Organic milk.

During the development stage of the order reform process, a

proposal was received from Horizon Foods to exempt organic milk

from pricing and pooling under Federal milk orders. 

In 1990, Congress passed, and the President signed into law,

the Organic Food Production Act of 1990 (7 U.S.C. 6501 et seq.),

establishing the first Federal standards for organic food

products. A proposed rule was issued on December 5, 1997, and 

published in the Federal Register on December 16, 1997 (62 FR

65849), to implement the National Organic Program.
Organic dairy products can now be found in many, if not most,

major grocery chains in metropolitan areas. The retail price of

organic dairy products is well above non-organic products. In

addition to carrying organic milk, many supermarkets now also

carry organic yogurt, sour cream, butter, and other organic dairy

products. All of these products are priced well above their nonorganic counterparts. 

Processors of organic milk have asked for exemption from

Federal regulation. In a May 20, 1997, letter to the Department,

Horizon Foods argued that (1) organic milk is a different

commodity; (2) the market for organic dairy products is a niche

market; and (3) Federal order regulation of organic milk is

contrary to the intent of the Organic Foods Production Act because

it does not “facilitate interstate commerce in fresh and processed

food that is organically produced.” Horizon’s proposed solution

was to exempt organic milk from the producer milk definition if

the milk is produced on a certified organic farm and if the broker

pays the producer at least 110% of the month’s Class I price for

such milk. 

The proposal to exempt organic milk from Federal order

pricing is denied for several reasons. First, contrary to the

assertions of Horizon Foods that all organic milk is priced at

110% of the Class I price, regardless of how the milk is used,

there is evidence that some organic milk has been pooled and

priced as non-organic milk under some orders, including the

Chicago Regional and Southern Michigan orders, for example. 

Second, although the retail price of organic milk is well above

non-organic milk, we believe that organic milk competes with the

regulated market and, therefore, also must be fully regulated. 

Third, if Congress wished to exempt organic milk from Federal milk

order regulation, they could have done so either in the Organic

Foods Production Act or in the 1996 Federal Agricultural

Improvement and Reform Act; but they did not. Fourth, there is no

indication that all processors of organic milk price their

receipts the same way as Horizon Foods. Even if they did,

however, the one class/one price system currently used by Horizon

could be a temporary phenomenon due to the rapidly expanding

market for organic products. The day may come when the organic

market becomes saturated and milk in excess of fluid needs must be

disposed of at competitive prices. If and when this happens, it

is likely that some form of classified pricing will be

implemented. Finally, the Act provides for classifying and

pricing milk on the basis of its form and use. As a result,

different costs that may be associated with producing organic milk

or other types of milk are not relevant. For these reasons, it

would be inappropriate at this time to exempt organic milk from

pooling or to provide any other type of special treatment for it
under the guise of Federal order reform.

No comments were filed concerning this issue with the

exception of Horizon Foods, which continued to support its

proposal.

4n. Allocation of Location Adjustment Credits

A provision that is now common to most orders has not been

carried forward to the consolidated orders. This provision, which

allocates location adjustment credits that are applied to

transfers of bulk fluid milk products between pool plants, is

commonly found in Section 52 of most current orders (See, for

example, §§ 1001.53(h), 1007.52(b), 1030.52(c), or 1079.52(d)). 

Under most orders, intra market shipments of milk between

handlers are assigned to Class I use, unless both handlers agree

on a lower classification. Milk that is assigned to Class I use

is priced at the receiving plant subject to a location adjustment

credit that may apply if it is demonstrated that such milk is

actually needed for Class I use. If the credit is applied, the

milk is priced at the transferring plant. This assignment of

location adjustment credits is intended to prevent the use of pool

proceeds to pay the hauling cost for the transfer of bulk milk

between pool plants when the intended use of the milk is for other

than Class I use.

To carry out this concept, the provision typically assigns a

pool distributing plant’s Class I use first to its milk receipts

directly from producers, then to bulk milk received from a

cooperative bulk tank handler, then to milk received by diversion

from another pool plant, and then to packaged fluid milk products

received from other pool plants. The remaining Class I use in the

distributing plant is then assigned to bulk milk received by

transfer from other pool plants. In some orders, this remaining

Class I use is assigned pro rata to all of the pool plants from

which bulk milk was obtained. In other orders, the remaining

Class I milk is first assigned to pool plants with the same Class

I price and then, in sequence, to pool plants with progressively

lower Class I prices.

This final decision is based on the premise that Class I milk

does not have the same value at every location. For this reason,

Class I differentials have been established for each order with

location adjustments that result in establishing a unified Class I

price structure that applies to every county and city in the

contiguous 48 states. Given this approach, it is no longer

appropriate to classify a bulk movement of milk as Class I milk in

one section of the order and then in another section of the order

depart from the principle of pricing such Class I milk at the

plant where it was physically received.

In actual practice, a distributing plant does not receive a
fixed amount of milk each day of the week. Some days are heavy

bottling days when more milk is needed for Class I use. On such

days, a distributing plant may not be able to obtain enough local

milk to meet its Class I needs and may have to import plant milk

from more distant locations. At the end of the month, however,

when the allocation of location adjustment credits takes place, it

may appear that there was more than enough local milk to meet the

distributing plant’s fluid needs, even though this was not the

case when recapped on a daily basis. Nevertheless, the allocation

provision allocates location adjustment credits based on monthly

volumes of milk, not daily volumes, so the supply plant could be

in a position where it receives no Class I location adjustment

credit even though the milk was indeed shipped for Class I use.

Some of the new orders have transportation credit provisions

that provide for hauling credits on bulk milk received by transfer

from a plant regulated under another Federal order and assigned to

Class I use at the receiving plant. To arrive at the

classification of such milk, the milk is assigned to the lower of

the receiving plant’s or the receiving market’s Class I

utilization. When milk is purchased in this manner, the

transportation cost of the milk assigned to Class I is absorbed,

for the most part, by the transportation credit that is provided 
for the handler purchasing the milk without regard to whether milk

could have been purchased from a closer source of supply. 

Finally, the current application of the provision in question

can result in a situation where there is more incentive to receive

bulk milk transferred from a plant regulated under another Federal

order than from a plant regulated under the same order, whether or

not any other transportation credits are involved. Should this

occur, it can result in a transfer of Class I sales to the

transferring plant’s Federal order market.

For all of the reasons cited above, the allocation of

location adjustment credits has been removed from the orders. 

Several comment letters were received supporting this change; none

were received in opposition to it.