General Financial Management
Assets and liabilities
Preparing a cash flow projection
When your cash flow shows a financial problem
Options to improve cash flow
If the budget is still poor
Farm Planning is a continuous process of planning implementing, monitoring and reviewing.
The important parts of farm planning include:
Effective farm planning is about helping you achieve the goals
you set for your farm overall, and this can include goals for each of the above
parts of your farm business plan. Specific goals help define where you want
to go.
Financial planning and control forms part of the overall process of farm planning.
The Statement of Assets and Liabilities enables you to calculate your net worth (the value of your assets, after subtracting your liabilities) and your equity (the percentage of your business which you own).
Assets and Liabilities drawn up for tax purposes frequently provide very little information of value for making management decisions. Tax accounts generally don't include drought reserves as an asset, unless the fodder has been purchased. Yet this important asset needs to be included when making management decisions. Consequently it is necessary to value farm assets at market value rather than at taxation values in order to draw up an accurate Statement of Assets and Liabilities.
Farm assets are influenced by farming booms and busts. During booms and busts it is wise to calculate Assets and Liabilities based on current values and also based on "long term trend" values. This enables the current very high or very low values to be seen in perspective.
The Statement of Assets and Liabilities should include both farm and non-farm Assets and Liabilities. The Statement of Assets and Liabilities can be drawn up both for individuals who partly own the farm, and for the farm as a whole.
It is important that you prepare a statement of assets and liabilities to calculate equity in your property and to prepare a cash flow projection of anticipated monthly income and expenses for at least 12 months.
As a general rule for mainstream agriculture it is desirable to have equity of at least 75%. Equities lower than 70% should be viewed with caution. A farm decision making checklist is included CLICK HERE.
Preparing a cash flow projection
A cash flow projection is prepared by estimating the value of produce to be sold and when the expenses will be incurred. A cash book of income and expenses for previous years is a valuable aid in preparing a cash flow budget.
Help in preparing a cash flow budget is available from a number of people, such as your bank manager, accountant, rural counsellor or a farm consultant. Make sure you provide realistic estimates of your financial commitments, including interest and principal. If machinery and motor vehicles are due for replacement, then be realistic in including an allowance for that as well. However, as a general rule in difficult financial times, machinery or motor vehicles should only be replaced if it is absolutely necessary.
When your cash flow shows a financial problem
If your cash flow budget shows more anticipated expenses than income, what can you do about it? Are there good reasons for this shortfall? A substantial outlay may have been budgeted for in the next 12 months for restocking. If this is the case, and income will not be back to normal in the next 12 months, you may need a longer cash flow projection. If your projections show that you expect cash flows to improve after the first year, it is in your interests to prepare a cash flow projection beyond 12 months to show your bank. You may be able to convince the bank that your risk is short term and hence have your interest margin reduced.
Buying stock versus breeding up numbers
Buying stock to replace those sold in the drought will initially reduce cash flows, but at a later stage it will improve cash flows when production from the purchases is ready for sale. A useful measure to judge whether it is worth your while purchasing stock is to look at the return on capital tied up in livestock. If, for example, you are considering breeders which will return an expected gross margin per head of $300 per year, and the purchase cost of the breeder is $700, then the return on livestock capital is 43%. This return is sufficient to pay interest on borrowings plus some principal, so unless you slip back into drought, the example used would show that in the longer term, buying cattle will produce a better cash flow than would breeding-up. However, a cash flow for each of the breeding and purchase options would be required to see how long it takes for the purchase option to get in front.
Sheep versus cattle
Return on livestock capital is generally considerably higher for sheep than for cattle, and the total cost of stocking a paddock with sheep compared with that for cattle is generally lower. If your country is suited to both sheep and cattle, and you have the facilities to handle both, sheep are likely to cost less and are likely to pay for themselves more quickly than will cattle.
Planting that extra paddock of crop
If stock numbers are low, then an option in cropping country is to plant more crop than you normally would. It is advisable to prepare a gross margin estimate for the crop you have in mind.
Compare gross margin returns for winter crops with the likely gross margin returns you would expect from a livestock-based enterprise to see which enterprise is more attractive. Cropping requires an outlay for cultivation, seed, fertiliser and chemicals. Stocking that same paddock to the recommended carrying capacity with either sheep or cattle is likely to be more expensive.
Your crop price projections should be based on outlook information or on the cash prices being presently offered for the end-of-season crop, not on present grain prices. If the next winter crop harvest is near average or better, prices for all grains will fall considerably from their present levels.
Bear in mind that if machinery capacity is being stretched, an extra paddock could mean that the timing of operations may not be optimal and yields may be down. Also, cropping the paddock this year may limit your options in a following year. Yield potential in following years may be reduced, so that a crop planted one year will boost the cash flow in that financial year, but may reduce the cash flow for the following year.
Reducing costs
Take a close look at all major cost items to see if there is scope to reduce costs in a certain area. It may be time to consider whether the leased four-wheel-drive is really necessary or whether a more modest vehicle can get you through until things pick up.
Do you have any machinery items which are not being used regularly that could be sold? Look especially at those items of machinery which are being used for work that could be done by a contractor.
It is generally not prudent to reduce costs involved in production, such as drenches or cropping fertiliser, but a very close look at your major overhead costs may well indicate some areas where you could limit expenditure.
Even though initial interest rates may be higher, consider locking into fixed interest rates so that you will know what your total interest bill will be.
Review your subscriptions, and discuss your bank fees with your bank manager to see if there is room for improvement. Check that professional fees are in line with what other people are paying, and consider paying your shire rates by instalment.
Refinancing
Your cash flow budget will indicate whether there is a need to refinance. If your overdraft does not fall to zero for any month for the next 12 months, this indicates that your hard core debt has increased and that you should consider transferring some of your overdraft into another form of financing at a lower interest rate. A budget, especially one that projects for a number of years, will give an indication of the best form of finance to aim for. You will be in a better position to know whether you require short-term or longer-term finance.
Your state of territory government may assist you to get back on your feet through interest subsidies, through re-establishment support and, if you are in an area listed as affected by drought, exceptional circumstances through drought relief payment. Details of these schemes and eligibility criteria are outlined below.
For a new loan it is worth calculating the effective interest (including costs). Annual charges and the establishment fees can add significantly to the cost of a loan.
If an existing loan has an effective interest rate (including costs) which is higher than an alternative loan, it may also be worth changing, but make sure any costs involved with early settlement of the loan are included in the calculations.
A cash flow budget is part of the information useful to your bank manager.
Other information that will assist you in putting together a business plan to provide the best case possible is covered in the section ‘What do the banks want?’. It covers some of the factors that banks use to decide your interest rate margin and the range of information useful to the banks. The list seems long, but farm businesses that have been through the process have a much clearer picture of the direction they wish to head, and consider the preparation time was time well spent.
If you cannot make the budget look reasonable with realistic projections over 2–3 years, it may be best to consider getting out. There are plenty of farmers who have made a success of life after farming, while others who have sold their farms have remained in agriculture as employees or managers, or have leased some country. For a real life story of one family leaving their farm, see the "Different Pastures" article in the Good Times Hard Times magazine.
It may be difficult to consider these options in isolation, and it is helpful to get another opinion from a rural counsellor, a drought support worker or a farm consultant.
