There may have been a time when farmers had the luxury to wait until after harvest and the winter months set in to start thinking about the next year. Unfortunately, that time has long past.
Obviously, producers planning on planting wheat or canola in Tennessee have already made a conscious effort in planning. Still, I have picked up from lenders that some producers have gotten lax the last few years on providing up-to-date financial information to their lenders in preparation for the next year. Higher prices and above-average yields have caused some level of complacency. I don’t think that will be the case this year and as we go into 2016.
While harvest is the priority this time of the year, producers should be prepared to update their financial plan as soon as applicable. Many lenders will be anxious to see the results of the 2015 year.
Why should producers plan? Farm financial plans are useful for many purposes. The main reason is probably to secure financing for the production year and or equipment/land purchases. However, the most important reason is to evaluate the overall health of the farm business and determine the direction the business is going along with making management decisions. It also helps determine what crops will be planted and livestock raised.
A good farm financial plan should answer three questions: Where am I? Where am I going? How do I get there? It is in essence a map for the farm business. In agriculture, as in most businesses, the owner/operator should develop a proactive plan for the business operation.
Certainly there are elements in any operation that must be reactive that requires rolling with the punches as situations arise that were not planned for. Drought, excessive rain, flooding, and weed problems are just a few situations that can cause reactive management. However, good planning may be able to account for some of these situations and minimize the financial impact.
Where are your assets and liabilities?
Let’s address the first question of ‘Where am I?” This is probably one of the first questions a lender asks about an operation. It is a question that involves knowing your financial position. It can be answered by developing or updating a detailed Balance Sheet also known as a “Net Worth” or “Financial Statement.” This statement lists assets, or what you own, and liabilities, or what you owe. The difference is the producer’s Net Worth or Equity.
Assets are broken into Current – items that are liquid and can soon be turned into cash. This also includes the investment into any growing crops, prepaid expenses, accounts receivables, crops in storage or government loan, and marketable livestock. Intermediate assets are those that have a useful life of 7 – 10 years. These are things like machinery & equipment, titled vehicles and breeding livestock. Long term assets are assets that will be around for a while – such as land.
Liabilities can also be broken into Current – money owed that will be paid within the year – accounts payable, production loans, and generally accrued interest on loans, and the principal payments on loans due. Intermediate liabilities are loans that will usually be paid back within 7-10 years and are secured by an intermediate asset. Long term liabilities are those that are due within a longer time period and are secured by a long term asset.
This is the basic data that is needed for the farm business Balance Sheet. Since nonfarm assets and liabilities have a strong influence on the overall health of the farm business it is advisable that information be listed in a non-farm section if not included as a part of the farm.
In recent years, many balance sheets have also included a deferred liability section. Deferred liabilities are liabilities that would be incurred if an asset is sold. This would take into account any capital gains taxes, recapture of depreciation values and commissions or selling costs if assets were liquidated. This section is important if a producer is thinking about liquidating a portion or all of the farm business.
The difference in the assets and liabilities is the producers Net Worth. One ratio that I look at closely is the Debt-Asset ratio. It compares what is owed to what is owned. A desirable debt to asset ratio is less than 50 percent. Higher than that indicates that the producer is more leveraged and could be more vulnerable to a shortfall in income.
Balance sheets are an important tool in farm financial planning. Examined every year, they can help determine the financial position as well as the direction of the farm operation. For more information on farm financial planning, contact your County Extension office.