It is no secret that crop prices this season are lower and production costs higher. For those who are old enough to remember the 1980s or who have studied that time in U.S. agricultural history, the question may be: Will we see a repeat? No one knows the answer, but there are some fundamental management thoughts to consider as we begin 2015.
Cost of Production
Farm managers will want to project their 2015 production costs and cash flow within a few months. However, now is the time to determine 2014 actual production costs, so take the time to retrieve and review them. Do not just rely on your recollection of what you were thinking last winter; review your computer files or paper documents. What turned out different during 2014 than you expected nine months ago? Which costs were higher or lower? What commodities generated more or less revenue than projected? Can you identify why actual costs and revenues were different than expected? Can some of the divergences be attributed to differences among projected and actual quantity of inputs and yields?
As commodity prices decline, will some production costs also decline? Will rental rates decline, for example? It always seems that costs go up faster than they come down, if they come down at all. Rental rates that increased inordinately in the past few years may feel some downward pressure, while rental rates that increased more moderately are likely to remain near current levels.
Will interest rates rise? Another unknown answer. How would higher interest rates (that is, your cost of capital, especially borrowed capital) impact your costs, earnings, cash flow and asset values? Have you had an opportunity to analyze the impact of a change in interest rates? Do you need to make an extra effort to maintain an effective business relationship with your lender? Have you taken the time for a thorough conversation with your lender?
A comprehensive review and understanding of what happened in 2014 should assist farm managers in preparing financial projections for 2015.
For the past several years, producers have had an opportunity to reward themselves for years of hard work, but now may be the time to review and possibly adjust family living expenditures. Perhaps we need to shift back from "what we reasonably want" to "what we need." Earnings and cash flow for 2014 and 2015 should be considered in developing a reasonable expectation for family living.
How are current prices and costs impacting your 2014 and 2015 cost of production, earnings and cash flow? An accurate cost-of-production projection should underpin your marketing plans. Do you, as the manager, know what price you need to receive to pay costs, including a family living allowance?
Do crop producers need to refine their marketing strategies? Marketing is expected to be more challenging in the future than it has been the past few years. Do we need to “dust off” and apply some of those past marketing tools? Most likely, yes. One may ask if producers should consider selling portions of the 2015 crop preproduction.
Now is the time to consider how the current financial situation in agriculture is impacting the value of assets, such as equipment and land. Are the market values of equipment currently declining more rapidly than your depreciation calculation? Is market pressure likely to moderate land values in the next two years? How are declining asset values impacting your business risk- bearing capacity as revealed on your balance sheet?
This also may be the time to do the obvious, such as adjust plans for equipment, building and land investments.
But as my colleagues remind us, agriculture is a global industry. When global carryover stocks are low, a production problem anywhere in the world during the winter could raise 2015 commodity prices quickly. It is just as important at this time to consider the volatility in agriculture as it is to focus on recent declines in crop commodity prices. Do you know what you will do with your earnings if crop commodity prices rebound? Will you pay debt, invest in farm assets that positively impact your bottom line, consider nonfarm investments or investigate alternative uses for your capital? These questions are appropriate for livestock producers at this time because they are on track for some extraordinarily strong profits.
This discussion does not address production practices and technologies, crop insurance, farm program participation or detailed marketing plans. However, those decisions are all based on information derived from the fundamental business management tools of enterprise analysis, income and cash flow statements, and balance sheets. Regardless of your personal or business situation, those basic management tools provide the foundation for your business decisions. Visit with a ProAg agent to refresh your understanding and application of these management tools if necessary.
Production agriculture will remain a rewarding and exciting career, but we cannot lose sight of the importance of using fundamental management tools.
Source: David Saxowsky, North Dakota State University Extension