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Renting Farmland

Are You Renting Farmland?

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An online article published by Country Guide about land rent contained some points that many of us have pondered. Much of the article centered on a lack of useful data on rented land, such as recent crop rotation & yield, pest pressure and pest management, soil type, residual fertility, or recent rental rates.

While this poses a challenge to those who insist on making the most informed decision possible, recent history indicates that the appetite for more land to increase a farm’s size and scale has grossly overshadowed rational analysis when making a decision whether or not to rent a piece of land. The article quoted a 2012 survey that was funded by the Saskatchewan Ministry of Agriculture which tabulated approximately 2,000 cash and share rent agreements. The article reads, “The company hired to do the survey found an astonishing range of rental rates, ranging from an almost unbelievable low of $6.25 an acre to a high of $140.60 an acre.” It’s probably fair to say that $6.25/ac isn’t “almost unbelievable,” but straight up unbelievable. My vote is that some wise-guy wanted to skew the data and provided a false figure. It’s the high figure, the astronomical $140.60/ac, that is the head-scratcher. I have lost count of the number of pencils I have used to try to pencil out a profit at that rental rate. It requires the perfect storm of yield and price to marginally make it work. The guys paying this kind of rate must have some sort of magic pencil I have yet to find.

Here’s where it really gets good. Another excerpt in this CG article reads, “In the short term, taking on more land that won’t necessarily pay for itself might still be a winner in the farmer’s eyes in that light, especially if it allows them to spread fixed costs and labour costs over a larger land base.”

So let me take a shot at paraphrasing:
“Our fixed costs are really high, so in order to justify the bad decisions we made when we took on too much debt and allowed other fixed costs to rapidly increase, we will make another bad decision by overpaying for land that won’t make us any money so that it makes our fixed costs look better by spreading them out over more acres.”

What?

OK, that was wordy, let me shorten it:
“We’ve got all this equipment so we need to run it over more acres to justify having it.”

Still too long and soft? Alright, one more try:
“Pride is more important that profit.”

Eww, ouch! That stings!

But if the thinking is that we must take on more land in order to justify high fixed costs (usually for shiny new equipment) then it is clear that the pride of possessing such equipment and the pride of farming “x” number of acres is more important that being profitable!

Here are my 3 “Growing Farm Profits” Tips for renting land:

  1. Know your costs.
    By knowing your costs, you can easily determine what is or is not a reasonable rent to pay and still remain profitable. Without knowing your costs, you’re shooting from the hip…in the dark.
  2. Invest in assets in the correct order.
    Taking on more equipment than you need, then frantically trying to “spread it out” over more acres to justify the decision is backwards. It’s like buying a seeding outfit before buying a tractor: you might end up paying more for the tractor you need, or buying more tractor than what is required because of a lack of available selection. Secure your horsepower first, then find the drill to pair to it.
    Secure your land base first, then invest in the iron to work it.
  3. Nurture your landlord relationship.
    Let them know how your year was. Explain your farming practices. Help them understand how profitable their land really is. This goes a long way to establishing goodwill at renewal time.

Direct Questions

How much at risk is your working capital if your fixed costs are too high?

What steps are you taking to ensure your investment in rented land accentuates your profitability and not diminish it?

Is the goal to be the biggest or the most profitable?

From the Home Quarter

“Better is better before bigger is better” is a phrase that I hang my hat on quite regularly. While I cannot take credit for coming up with that one, it is so remarkably accurate in its simplicity.

If we can all acknowledge that threats to working capital should be our greatest concern in the short-to-medium term, then we must also acknowledge that adding unprofitable land in an effort to justify fixed costs will only accelerate the bleed of precious working capital.

farming should be like baseball

Farm Management Could Take a Lesson From Baseball

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If you love statistics, then you probably love baseball. Where else can you know with certainty that your starting pitcher has a propensity to throw more fast-balls than breaking pitches to left-handed batters at home during afternoon games in June under sunny skies with a slight north-west wind? While this is a bit of a tongue-in-cheek poke at the nauseating volume of stats that originate from the game of baseball, such statistics and the subsequent use of those statistics have real world applications.

I’m sure many of you have seen the movie Moneyball. (I’m sure most of you have because I watch VERY few movies, and even I’VE seen it.) As the story unfolded, there many beautiful examples of how the management team of the Oakland Athletics baseball club used statistics to improve their team. In this specific scene (I can’t recall who the player was) Assistant GM Peter Brand (played by Jonah Hill) explicitly instructs the player to “take the first pitch” during every at bat.  The reason was because through the use of statistics, and tracking the data, management knew that this player got on base more often when he took the first pitch. In the movie, it worked, and this player’s on-base-percentage increased almost immediately.

What would have happened had this team’s management not had, or used, such important information? The player may have been released, sent down to the minors, or traded to another team, the manager (bench boss) may have been fired.  Spread those “uninformed decisions” across the entire roster, and failure is sure to proliferate.

Livestock and dairy farms have been heading down the road to improved data management for years already. Average daily gain is not a new concept in beef operations. Robotics in dairy parlors bring a whole new level of data management. In conversation with a farm family that is investigating the benefits of robotics in a dairy parlor, I’ve learned that through RFID technology and a robot milker, they will be able to record and monitor milk volumes and milking frequency (a cow can come to the robot for milking whenever she chooses.) The management team can then compare results across the herd to determine which cow(s) is producing more or less than others cows under similar conditions. Informed decisions can then be made.

Grain farms having been catching up in recent years. With field mapping technology we can create yield maps; overlay that with crop inputs applied and we can tell which areas of each field are more profitable than others.

But that is way ahead of where most of the industry is generally at. By and large, many farm operations still don’t know the true profitability of a specific crop on their whole farm, let alone any given field.

The progression of profitability management, which requires stringent data management, begins at the crop level, advances to the field level, and reaches the pinnacle at the acre level.

Imagine:

  • determining which crops to exclude or include in your rotation by clearly understanding which crop makes you money and which one doesn’t;
  • deciding which fields to seed to which crop, or even which fields to renew with the landlord or which to relinquish based on profitability by field;
  • controlling your investment in crop inputs by acre to maximize your profit potential of the field, the crop, and your whole farm.

None of this is new. All the farm shows and farm publications dedicate significant space to all the tools and techniques available in the marketplace to facilitate such gathering of useful information. Equipment manufacturers and data management companies have invested enormous volumes of time and capital into creating tools and platforms to collect and manage your data. But like any tool, its value is only apparent when it is used to its full potential.

Almost all of the farms I speak with achieve greater clarity in the profitability of each crop in their rotation. I have a 13,000ac client that has taken several major steps toward measuring profitability by field. They have found that the extra work required to COLLECT this information is minimal. The extra work required to MANAGE this information is greatly offset by the benefit of clearly understanding that some of their rented land is just not profitable under any crop. Do you suppose they are looking forward to relinquishing some $90/ac rented land that just isn’t profitable enough to pay that high rent?

Direct Questions

Which of the crops in your rotation are profitable? Which are not? How profitable are they? Do they meet your expectations for return on investment?

Collecting the data is easy; managing the data takes some effort. What effort are you prepared to invest to make the most informed decisions possible?

How are you fully utilizing the tools available to you? If you’re not, why would you have them?

From the Home Quarter

Baseball collects gargantuan volumes of data on players, plays, games, and seasons. Much of it seems useless to laypeople like us, but to those who make their living in “the grand old game,” the data is what they live and breathe by. Agriculture should be no different. We should be creating consecutive series’ of data on our fertility, seed, chemicals, equipment, human resources, etc, for each year we operate, for each field we sow, for each person in our employ. Management cannot make informed decisions without adequate and accurate information. Now, with all the tools, techniques, and support readily available to help farmers collect adequate and accurate information, the last piece that may be missing is, “What to do with all that data?” While it can be boring to analyze data and create projections, I can assure everyone that the most profitable farmers I know all share one common habit: they spend time on their numbers, they know their numbers, and they make informed decisions based on those numbers.

You collect the information. I can help you use it. I’ll make tractor calls (as opposed to house calls) during seeding…as long as you have a buddy seat. Call or email to set up a time.

4 R's of Fertility

Easy, Efficient, Effective, or Expensive?

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Let’s get it right out of the way first: I am not an agronomist.

I do, however, have a solid base of understanding relating to agronomy. With tongue in cheek I like to say, “I know enough to be dangerous.” Nonetheless, I took great pride in the significant attention to detail I employed while being in charge of seeding when still part of the farm. I carefully measured TKW (thousand kernel weight) and calculated seed rates accordingly. I was diligent about what fertilizer, and volume of fertilizer went into the seed row (we only had a single shoot drill.) I always slowed down to 4mph or less when seeding canola and ensured to reduce the wind speed to the lowest possible rate to minimize the risk of canola seed coat damage.

I always had a long season in spring from having to cover the whole farm twice: once with a fertilizer blend to be banded, (all of the N and whatever PKS that couldn’t go in the seed row) usually at least 2″ deep; the second pass was with seed and an appropriate PKS blend that could be be in the seed row. It’s just what I did to respect what I’d learned about the importance of fertilizer rate and placement. It took more time in applying, hauling home, storing, etc. It created operational challenges during application (it seems there were never enough trucks and augers available.) It took more time to set the drill for the correct application rate. All of that didn’t matter to me because I only had once chance to get the crop in the ground and fertilizer properly applied (at least at that time, the equipment we had made it so that all fert was applied in spring) and I wasn’t going to leave anything to chance that I could easily control.

The key point in fertilizer management is “The 4 R’s.” Right source, right rate, right place, and right time of fertilizer application make for the best use of your investment. So why over the last number of years have we seen such a boom in spreading fertilizer on top of the soil?

This article was recently published by FCC. There is no ambiguity as to the best and most effective way to apply phosphorus. I’ll ask again, “What’s with the shortcuts?”

I know the answer: time. There isn’t time to incorporate adequate volumes of fertilizer into the soil. We can use a spinner that has a 100′ spread at 10mph (or more;) this permits more fertilizer to be applied in a shorter amount of time, and it permits fewer stops to fill the drill during seeding…all of it saving precious time. I get it.

But where is the trade off? Have The 4 R’s of Fertility been tossed aside completely? Where is the balance?

Casting aside the proven science of the 4 R’s in order to save time by broadcasting is easy and efficient, but is it effective? I suppose that depends on what effectiveness you are trying to accomplish. I’m suggesting effectiveness of the fertilizer you’ve paid dearly for.

Direct Questions

When making important management decisions like fertility, what methods are you employing to determine your best strategy?

Where is your balance between ease, efficiency, effectiveness, and expense when making critical management decisions?

How has your Unit Cost of Production projection changed if you decide to accept only 80-90% effectiveness from your fertility program?

From the Home Quarter

What is easy might seem efficient, we might believe it is effective, but it is most likely expensive. Historically, decisions were made with the goal of minimizing expense with little else given to consider ease, efficiency, or effectiveness. Management decisions that do not provide adequate emphasis on effectiveness will likely see higher expenses. Your focus with your agronomy must be to produce at the lowest Unit Cost of Production possible on your farm. Choosing a fertilizer application method that places more emphasis on that which is easy versus that which is most effective is likely to create a situation that is expensive. Management decisions that focus heavily on one aspect to the detriment of the others rarely achieve results that meet or exceed expectations.

Introducing the Growing Farm Profits 4E Management System™. Details to follow.

bin row

Crop Price Rallies (will be) Few, (and) Short

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That is the headline in the recent edition of The Western Producer. Penned by Sean Pratt and primarily sharing the views of Mike Jubinville, the article contains the usual verbiage found in most articles that get classified under “commodity outlook.” Here are some of the biggest points made by Jubinville in the article:

  • The commodity super cycle is over.
  • We’re into a new era of a sluggish, more sideways rangy kind of market.
  • Canola is not overvalued and Jubinville feels that $10 is the new canola floor.
  • Wheat should bring $6-$7/bu this year.
  • $10 for new crop yellow peas is a money making price.

This last point gets me. If I had a dollar for every article that claimed a “money making price” on a commodity in such general terms, I’d be making more money! In all the thousands of farm financial statements I’ve reviewed over the years, I can say unequivocally that there are no two farms the same.

In saying that, it is abundantly clear that what is a profitable price on one farm may not be a profitable price on another. And just because $10 yellows may have been profitable last year does not for one second mean that $10 yellows will be profitable this year. Why? It depends entirely on the choices you have made in changes to your business, as well as on the differences in a little thing called YIELD.

Yield can make a once profitable price look very inadequate very fast. In fact, a 15% decrease in yield, from an expected 45 bu/ac to 38.25bu/ac, requires a 17.65% increase in price, from $10/bu to $11.76/bu to equate to the same gross revenue per acre. This factor is not linear: an 18% decline in yield requires a 21.95% bump in price to meet revenue expectations. Alternatively, an 18% bump in yield requires a price that is 15.25% lower than expected to meet the same revenue objectives.

The point is if yield is down, achieving the objective price may not be profitable. Or at the very least, it would be LESS profitable. But the bigger issue is this: How can it be stated what is or is not profitable without intimate knowledge of a farm’s costs?

If the farm’s costs and actual yield create a Unit Cost of Production of $10.20/bu, I’m sorry Mr. Jubinville, that “money-making” $10/bu price you mentioned is not profitable!

Direct Questions

How are you determining what is an appropriate and profitable selling price for your production?

What are you doing to ensure you are including ALL costs incurred to operate your farm?

If you find that your projected Unit Cost of Production is not profitable, what measures are you taking?

From the Home Quarter

Far too often, we can get caught up in making critical business decisions based on what we “think” is appropriate, on a hunch, or on pure emotion. Using Unit Cost of Production calculations to validate your farm’s profitability is an incredibly empowering exercise. I’ve been in a meeting with a client and witnessed the entire crop plan change during the meeting based on Unit Cost of Production information.

What is not measured cannot be managed, and measuring your profit is pretty darn important.

 

farmer tailgate computer

Farm Profitability Indexing

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Farm Profitability Indexing

Late in 2015, I picked up on some interesting farm financial info during a presentation I attended as a part of CAFA. This information represents farms from a geographically vast cross section and revealed some interesting trends:

1. Gross Revenue per Acre has Trended Up

Gross Revenue bar chart

With 2007 being the base year with a value of 100, and also being the first year of the bull run in commodity prices, we can clearly see that while gross revenues are trending up, there is still great volatility in gross farm receipts. True, weather anomalies had a significant effect, but that’s farming, isn’t it?

2. Investment in Crop Inputs per Acre has Trended Up

Inputs bar chart

While gross revenue has seen volatility, and for three years including 2009-2011 gross revenue was at or near 2007 revenue levels, investment in inputs has only once seen a reduction year over year. In 2013, investment in inputs was 77.5% higher per acre than it was in 2007.

3. Gross Margin per Acre has Trended Up

Gross Margin bar chart

While gross margin is trending up, there was a significant decline in 2009 from the previous year that extended right through 2011. Even by 2012, gross margin had not returned to 2008 levels.

4. Operating and Fixed Costs per Acre are Trending Up

Oper and Fixed Costs bar chart

This figure would represent operating costs such as fuel, labor, and equipment costs, as well as fixed costs such as interest, land, and building costs.  Notice the steady increase that has never went down year over year, even through the low margin years of 2009-2011 operating & fixed costs continued to rise.

5. Net Income per Acre has Rebounded from Significant Reductions

Net Income bar chart

Net Income represents what is left over after operating your business, that profit which remains to cover administrative costs, make principal loan payments, and cover that other insignificant cash requirement: living costs (that was sarcasm if you couldn’t tell.)

In this illustration, we have calculated Net Income simply as Gross Margin LESS Operating & Fixed costs. Here we see that the low margin years of 2009-2011 actually extend right to 2012 with net income still below that of our base year 2007. This is the residual effect of increasing costs during a period of low margins (2009-2011) by continuing to have a negative effect on what would otherwise be a successful year in 2012.

Everything Dips but Expenses

This chart illustrates a dangerous trend: even when income goes down, operating & fixed expenses are allowed to continue to rise.

farm profitability line chart

By the end of 2011, net income had dropped to less than 30% of 2007 levels, yet operating and fixed costs were over 145% of 2007 levels. It took 2013 bringing about the largest crop in maybe forever to elevate net income back to 2007 levels.

Direct Questions

If Net Income represents the funds you have generated to cover living costs and make loan payments, how well does your worst net income from the last 10 years cover your living and loan payments in 2016?

What does the trend of your gross income, input costs, operating costs, and net income look like since 2007? Is it similar to what’s been presented here? What changes have you made to your operation based on your own information?

Gross margin should ideally be in lock step with operating and fixed costs. If you aren’t increasing your gross margin, why are you increasing your costs?

From the Home Quarter

This is a very telling experiment, but it is not the rule on all farms. The information presented here is an average across a list that spans all regions of the prairies, but heavily weighted on Saskatchewan. The experiment gets more interesting when you apply it to your own business. To lean on the 5% Rule first promoted by Danny Klinefelter, if in 2013 you could have been 5% better than the average in gross revenue, input costs, and operating & fixed costs as presented here, your net income would be 44% better than information presented, and index to 152.14% of the 2007 base year.

How does that sound?

 

growing lentils to increase gross margin

Gross Margin or Operating & Fixed Costs – What Comes First?

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The question may seem redundant or nonsensical, 6 of one and a half-dozen of the other…

Do you build your crop plan in an effort to generate sufficient gross margin to cover operating and fixed expenses, or do you budget your operating and fixed expenses to fit within your typical gross margin?

For most high cost operations I speak with, they know their costs are high and then find themselves working hard to generate adequate gross margin to cover their costs and , hopefully, leave a profit at the end.

The challenge that many high cost operators are facing is the run up of their expenses during the recent string of bullish years (land, buildings, equipment, pickups, etc.) and are now trying to manage those residual expenses during a period of tighter margins. They are focusing heavily on one of two areas:

  1. Seek out every opportunity possible to increase yields and to expose marketing opportunities, or
  2. Cut expenses to a level more in line with their farm’s historical gross margins.

It seems that the most common strategy that would fall under Point 1 above is to bring lentils into the crop rotation for 2016. The high prices are just too tantalizing to bear for most high cost producers. We will see lentils being grown in non-lentil growing areas in an effort to boost gross margin. I spoke with a young seed grower this month who told me he received a call this winter from north-east of Prince Albert looking for lentil seed. Good luck with that.

I learned of another operation, in an area that is typical for lentil failures, that dabbled in lentils in 2015. While this region can typically produce 30-50 bushel pea yields, this farm enjoyed a solid 5 bu/ac lentil yield. What is the opportunity cost of using land for a 5 bu lentil crop that could have produced a 30 bu, or even 50 bu, pea crop? Chasing rainbows? I’d say so.

A number of my clients are focusing on Point 2 above, and have been quite successful in reducing the one cost that is most controllable, yet has gotten quite high over the last few years: they are selling equipment to reduce their overall equipment cost. Whether it be liquidating the extravagant tillage tool that is only needed once in a while, moving out that sprayer that is too big for the farm size, or not acquiring that “nice to have” tractor, these farms are working to bring, and keep, their costs more in line with their expected gross margin.

Moe Russell has been quoted in these articles before, and he is on record saying, “Over the long term, the price of agricultural commodities will level out at the cost of production of the highest cost producer.” Essentially, if you’re a “highest cost producer,” over the long term you’re looking at a break even.

Direct Questions

What strategies have you employed to manage costs in the wake of tightening gross margins?

Do you budget your expenses to a level your gross margin will cover, or do you try to achieve gross margin to cover existing expenses?

From the Home Quarter

One of these approaches is top-down, the other is bottom-up. If you caught my presentation at Sask Young Ag Entrepreneur’s Annual Conference earlier in January, then you’ll have already heard my explanation of why top-down is better.

Top-down is managing your farm by budgeting your operating and fixed expenses to fall in line with your typical and expected gross margin. You have likely enjoyed a regular profit.

Bottom-up is reacting to a long line of expenses that were incurred during a short period of high profitability by trying to create a gross margin that is not very likely.

The view from the top is better.

analyzing finances at the bin

Using Your Financial Information

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Last week, we described how compiling your financial information will be beneficial to you in being able to analyze your previous year’s results so as to equip yourself in making informed decisions in the current, and future, years. This week, we discuss how to use that info.

Critical Balance Sheet Metrics

  1. Your Current Assets should be greater than your Current Liabilities by an amount that at least matches your cost to put in next year’s crop.
    Ideally, the difference between current assets and current liabilities should at minimum match your entire costs to run your farm for one year.
  2. You want your Total Liabilities to be no more than your 125% of your equity after net worth adjustments have been made.
  3. ROE is an acronym for Return On Equity. It is your net income divided by your net equity. Are you happy with the returns you’ve earned in each of the last 5 years?

Critical Income Statement Metrics

  1. First and foremost, is your Income Statement accrued? You can tell if you find an adjustment, up or down, to your income that would be labelled “inventory adjustment.” If your income statement is not accrued, call me for a quick description on how to do it yourself. It’s easy.
    Accruing your income statement is the only way to truly measure your profitability from the crop produced in a specific year.
  2. Did you have a profit? EBITDA (Earnings Before Interest Taxes Depreciation & Amortization) is a very important figure to know. It represents your profitability from operations; it shows you can generate profits. The calculation is Net Income + Interest Paid + Taxes Paid + Depreciation Expensed.
  3. Now that you’ve got EBITDA calculated, divide it by the following figures: Current Portion of Long Term Debt (found on balance sheet) + ALL interest paid (found on income statement) + ALL lease payments made (found on income statement). This is an important indicator for your lenders. This figure indicates to them your capacity to meet your financing obligations.

Critical Cash Flow Statement Metrics

  1. Cash Flow from Operations divided by Gross Sales indicates how many dollars in cash your business generates from every dollar in sales. The higher the figure, the better.
  2. Cash Flow from Operations divided by your “Property, Plant & Equipment” indicates how well your business uses its hard assets to generate cash.
  3. Cash from Financing divided by Cash from Operations indicates how dependent your business is on financing. The higher the figure, the more dependent on external money.

Solvency Calculations

Liquidity Calculations
Liabilities / net worth current assets / current liabilities
EBITDA / loan payments, interest & leases current assets – current liabilities

 

Direct Questions

Does the thought of doing such calculations overwhelm you, scare you, or just plain bore you? If the urgency of knowing these numbers doesn’t strike urgency into you, are you willing to ask for help?

How would you describe the benefit to your decision making if these figures were readily available?

From the Home Quarter

The comment has been made time and time again: “It’s easy to make money in the good times.” With tighter margins of late, more attention than ever before is being paid to management and finances. These calculations above are only a few of the measurements that you can take to gauge your financial strength or weakness.

And if you need a hand figuring out what to do next, contact me any time.

grain2

Innovation in Agriculture

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Innovation
Noun | in·no·va·tion | \ˌi-nə-ˈvā-shən\
: a new idea, device, or method
: the act or process of introducing new ideas, devices, or methods
(Source: http://www.merriam-webster.com/dictionary/innovation)

No one could ever decry the innovation of Canadian agriculture. Often looked favorably upon for
consistently being on the leading edge, Canadian farmers are typically the envy of other nations’
producers for our advanced processes and our willingness to constantly strive for something better.
Innovation takes many forms. It need not be monumental. It does not require a farm to re-identify itself.
While significant innovations like direct seeding and minimum tillage required major capital
investments, many others do not. If you’re like virtually every farm, there is innovation all around you…if
you take the time to look.

Consider the changes you’ve made to your farm since you began farming. Again, not just the big obvious
changes, but the little things too. The little things often make the biggest difference, and yet they are so
easy to overlook. Just think about the positive effect of doing your own grain moisture tests on farm.
I was having a conversation with a client recently about the impact of grain sampling and how the
grading at delivery points can sometimes be a bone of contention. He described in detail how and why
he samples every load as it is being augered from the bin onto the truck. This is an innovation he has
employed to ensure he has taken appropriate measures to protect himself during a dispute. It has paid
off several times in the past, and will likely be of continued value in the future.

An interesting conversation, to which I was privy, among a group of very progressive farmers was about
how each of them managed the challenge of “feeding their help” during harvest. Crews that number
well into the teens require more than a cooler full of sandwiches and donuts. One innovation that I
thought was most creative was the customization of an old Class C motorhome into a quasi food-truck.
While we automatically focus on operations when considering our success with innovation, we cannot
ignore the management side of business. A common issue among my clients this fall is land rent
renewals. Many of them are seeking better ways to access their rented land without taking on so much
risk with these high cost all cash arrangements. As with land prices, rents have also increased
substantially over the last several years (thank you Captain Obvious for contributing to this week’s
article.) Farmers, generally, are becoming less comfortable with the $70-$100+/ac they’ve added to
their LBF (Land, Buildings, Finance) costs for land rent over the years and are now recognizing that they
often can’t make money on that rented land. Unless you’re running a charity, one that benefits your
landlords, “re-think profit” becomes an innovation all on its own.

Innovation is refining your record keeping, automating your payroll services, or focusing on improving
your working capital. While innovation also includes variable rate, advanced water management, or
specialized grain monitoring systems, it need not always be BIG and OBVIOUS. I think the best
innovation for every farm is to examine how it views profit, growth, and wealth.

Direct Questions

How do you view profit, growth, and wealth? I define each as,

Wealth: – discretionary time.

Profit: – that what is required to fuel “wealth.”

Growth: – not necessarily “expansion.” Growth is innovation at any and all levels.
(Remember “always grow; grow all ways!”)

How can you bring about innovation in your management arsenal?

How does innovation make its way into your business? Do you invite it in, or does it have to force its way
in?

From the Home Quarter

I am a firm believer that change will continue to be rapid and drastic in the future. In terms of record
keeping and data management, it will one day be mandatory, so why not get on board before you’re
forced? Regarding my client’s issue on his grain sampling, I believe that future farmers will be forced to
manage their inventory similar to that of a food processor today. And if you have not heard the term
“social license” yet, then let this be the first. A farmer’s social license to farm could face scrutiny like
we’ve never seen before. All of this will require significant innovation. But, don’t fret over the big issues
yet. Start small with manageable innovations today.

Our proprietary Farm Profit Improvement Program™ includes analysis and advice on negotiating land
rental agreements. Please call or email for further details.

information

Managed Risk – Part 4: Liquidity

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We’ve all heard the saying “Cash is King.” In my opinion, “cash isn’t king, it’s the
ACE!” Whatever metaphor you prefer, the point is that cash levels and cash flow are both critically
important to your business. So, let’s get right to four points that affect your liquidity:

1. Your view of cash.
When I was still farming, I asked dad when he wanted to receive his rent payment, now (at the
time it was late November) or after January 1. He replied, “Well, I wouldn’t mind seeing a bump
in my bank account now, but I’ll wait until January for income tax purposes. Why?” When I
admitted that at that time we had no cash and would be dipping into our operating line of
credit, he said, “I thought you said your farm was profitable.” Our farm was profitable. He
couldn’t wrap his head around the fact that a profitable farm might not have cash always at the
ready, especially a small farm still in its youth. He equated profit with cash in the bank. After
arguing the point for 5 minutes, he just shook his head saying, “I guess that why I’m not farming
any more, I just can’t take that much risk.”

What he was getting at with his final comment was how we very quickly allocated our cash that
year. With harvest sales, we cleared up all accounts payable, pre-bought some fertilizer, and
paid down our supplier credit. The bins were still full, and with more grain sales scheduled for
the weeks and months ahead, our working capital was strong.

What is the difference between cash on hand and working capital? (HINT: if your answer is
“nothing,” then think again, a little deeper this time.)

2. Your use of cash.
Over the last few years, how many new pickup trucks were paid for out of working cash or put
on the operating line of credit? This is one example of a poor use of cash. A business that is flush
with cash can be a dangerous thing in the wrong hands, but don’t fret because the laundry list of
vendors all clamoring for your money will offer plenty of opportunity for you to part with it.
Do you justify some of these types of expenditures as part of a “tax plan?”

3. Your timing of cash.
One of the major challenges for manufacturing companies is the “cash conversion cycle.” This is
the time it takes to convert raw materials into cash. This cycle happens frequently in a
manufacturing firms operating period, often several times each month or quarter (depending on
what they are manufacturing.) Your challenge in the business of farming is that you only get one
cash conversion cycle per year. You invest in inputs early, manage through a long production
cycle, only getting one chance at producing the crop that will be sold for cash, and eventually
selling it sometimes as late as half way through your next production cycle. It is this long cash
conversion cycle that makes cash management vitally important on your farm.

How long is your farm’s cash conversion cycle? (HINT: it is measured in days.)

4. Managing your liquidity.
Working capital is a component of your liquidity. Measured as the difference between current
assets and current liabilities, your level of working capital is a direct indication of your business’
ability to fund its current operations. This, or course, is critically important to your lenders.
The desire to utilize easy credit and therefore finance everything from combine belts to
hydraulic oil may sound like a simple way to keep the wheels turning. If your farm is without
cash due to poor crops/pricing/etc. from the previous year, then available credit is a lifesaver to
help you keep operating. Just remember, such a scenario is a short term solution, and by no
means can it be considered a long term strategy. Sooner or later, your creditors will tire of
holding all the risk of funding your operations. Your working capital must be built and
maintained.

How much working capital is appropriate for your farm? (HINT: it’s probably more than you
think.)

Direct Questions

How do you view cash? Does it only have value when allocated (spent,) or is it an essential asset on the
balance sheet?

If you believe cash in the bank is an indication of profitability, can you not save your way to increased
profit?

How would you describe the financing cost to your business relative to the long cash conversion cycle
and the cost of credit?

From the Home Quarter

I had heard a seasoned old banker years ago say how “farmers don’t like to have money in the bank,
because as soon as it gets there, they spend it!” When there is cash in the bank, we feel profitable, and
often the decision is to allocate that cash to another asset. Will that other asset help repay liabilities?
For as long as I can recall, this industry has always dubbed itself “asset rich & cash poor;” the push
among players has been to build equity. And while the chase for equity is noble, equity does not pay the
bills, nor does it make loan payments, nor does it meet payroll. Cash does.

We must make cash management an utmost priority. If we are relying on financing for most/all of our
daily operations (operating credit,) what will happen if/when a lender does not renew those lines of
credit? Do you recall the ruckus out of the US each time they need to “raise the debt ceiling?”
Potentially, all government operations would get shut down. Same goes for your farm. If you have no
cash, and your credit lines get called, what are your options? I can tell you, they aren’t pretty.

It does not matter whether you believe “Cash is King,” or “Cash is the Ace.” If you have neither, you
might be forced to fold.

farm

Managed Risk Part 1: Harvest Sales

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In an email last week, a farmer friend and former colleague of mine admitted to having 100% of his 2015 crop sold before harvest. It is the first time this has ever happened on his farm. From my years working in ag finance and farm management consulting, I can confidently say that virtually all farms are not 100% sold on new crop in advance of harvest.

As with anything, there are benefits and drawbacks to being 100% sold early in the crop season. It’s easy to identify the drawbacks: production risk (broken into yield risk and quality risk), opportunity risk (if the market appreciates after you’re sold), etc. etc. We’re not going to dwell on these because it’s safe to say almost every farmer has already spent more than enough time hashing and rehashing all the reasons why they shouldn’t sell too early. There are far more drawbacks that have been touted over the years (real, perceived, or otherwise) than I care to scribe. You’ll notice I didn’t put weather risk on the list; it is because we cannot influence or control weather. Why stress over that which you cannot control?

How about some of the benefits:

  • Reduced delivery risk
  • Eliminated market risk
  • Reduced storage risk
  • Controlled cash flow risk

When admitting his crop was 100% sold already, my friend and I didn’t get into the details of what was in place so that he felt comfortable making such a decision. He did acknowledge that prior to harvest the prices were too good to pass up. While price is an important factor, price alone is not sufficient to pull this trigger. Here’s more on what you need if you want to be a more aggressive price maker, instead of a passive price taker.

  1. Excellent relationship with your buyers.
    When it comes to dealing with quality and grading, delivery times, or anything in between, a solid relationship with the buyer of your grain is crucial. Try using a sense of entitlement when next dealing with your buyers and see how far you get. This one is obvious; we won’t dedicate any more space describing what you already know.
  2. Know your costs, especially Unit Cost of Production. As one of my favorite young farmers likes to say, “You can’t go broke by selling for a profit.” Such true words require that you know what it cost to produce a bushel or a tonne so that the price you accept is actually profitable. This isn’t an easy task before harvest, but those farms that have elevated management functions can clearly illustrate UnitCOP with allowances for deviation in expected yield or quality. Refer back to point #1 when dealing with those deviations.
  3. Abundant Working Capital.
    Any drawback, real or perceived, to selling most of your crop ahead of harvest is mitigated by having abundant working capital.
    The biggest selling benefit from having abundant working capital is being able to sell when you WANT to instead of when you HAVE to. The ability to sell on your own timeline affords you the opportunity to deliver in your preferred month, and to seek out your preferred price. Abundant working capital also alleviates the fear of costs incurred from not meeting contract requirements when aggressively forward selling. The hesitation felt from the potential of having to “buy out” a contract if specs aren’t met can be eliminated if working capital is abundant.

It is not unreasonable to see more reluctance this year among durum growers to forward price as aggressively as in the past. The fusarium fiasco of 2014 hurt numerous farms financially and created an air of hesitation. But if working capital was a non-issue on every farm, durum growers would not be shy to forward price after the 2014 experience. While none want to set themselves up for unnecessary cost incurrence, the ability to handle the potential cost alleviates the concern of incurring it.

Direct Questions

How would you rate your relationship with your grain buyers? What can be done to improve it?
How would you describe your knowledge of your Unit Cost of Production, and net profit margin?
What is your current level of working capital and what does it need to be to provide you with full confidence to aggressively forward price?

From the Home Quarter

Please let it be clear that this message is not encouraging everyone to sell 100% of new crop production ahead of harvest. Such a strategy takes on risks that not every farm can mitigate. But if you are desirous in forward pricing more new crop than you have in past years, then let this message offer you some tips on what you need to have in place to make that happen.
You may have noticed that working capital is a central theme to many messages delivered here weekly. If you are able to focus on only one priority, let it be working capital.
Our proprietary Farm Profit Improvement Program™ begins with working capital evaluations and True Cost of Production analysis. Please call or email to learn how this process can bring value to your farm.