By Dr. David Kohl
Economic cycles are a fact of life when managing an agricultural business. Since the beginning of the 21st century, the agriculture industry has experienced the difficulties of economic cycles. The commodity super cycle from 2007 to 2012, spurred on by growth of China, brought record prices, land appreciation, and growth in agricultural businesses. This was followed by a defensive domain cycle from 2013 to 2020 where profits were low, but low interest rates resulted in farm and ranch land appreciation. The COVID-19 pandemic resulted in a mini-super cycle where prices were initially above costs and low interest rates brought in record profits. To compound this, lush government payments during that period boosted profits and cash flow coffers for many farmers and ranchers and increased land values.
The economic cycle that is now emerging, and could be prolonged, is one of higher expenses as a result of stubborn inflation and higher interest rates that will outlast prices. This will result in thin margins of error for both financial and business decision-making. A slowdown in the global economy and the possibility of a U.S. recession combined with geopolitical actions has resulted in an increase in economic volatility. One may expect land values and cash rents to level off, or decline in some areas, as buyer numbers become thin and the possibility of more land coming into the marketplace impacts the supply and demand balance.
“Future Proofing” Your Business
While one cannot guarantee business success in the future, there are things you can do to greatly increase the odds in your favor. The following are just a few strategies and actions that some producers have used to position for profits and cash flow in an economic environment with razor thin margins and extreme economic volatility.
A critical action is to develop a written plan with strategies and actions that can be tested throughout the year. Planning and strategizing are important, but the execution and monitoring of the plan are steps that many managers overlook. A good start would be to develop a projected cash flow statement at least on a quarterly basis. The cash flow statement is 80 percent of a business plan, which is prepared by less than 50 percent of farmers. Remember, the business plan is not only used to obtain financing from a lender, but it is useful in making business decisions throughout the year. If you are unsure of prices, costs, and interest rates, a good financial spreadsheet with different scenarios can provide the yard markers and boundaries on the playing field of financial outcomes.
Recently, a producer in his mid-40s indicated that he uses his cash flow budgets to develop breakeven guidance when making marketing decisions. He further stated that he is “boring” when it comes to crop and livestock marketing. He seeks base hits and mini victories compared to hitting the proverbial homerun. The results of his cash flow and marketing strategy are proof of his success. He has earned a positive net worth change on his balance sheet 20 out of his 22 years in business.
Building adequate working capital and quickness to cash are other strategies to utilize in light of increased economic volatility both in prices and costs. One must think about the quality and the timing of the sale of current assets to meet current obligations, which usually are due within one year. Do you have a marketing plan for the grain in the bin or the livestock in the barn or pasture? Are the crops growing in the field covered by crop insurance and at what level? The same can be said for livestock. How much cash is available as a stopgap if cash flow is negative or if there is an opportunity to purchase inputs or capital assets at a discount? Interestingly enough, the aforementioned producer attempts to maintain working capital greater than 50 percent of expenses. Currently, working capital is at 84 percent of total expenses and cash comprises at least 10 to 20 percent of expenses.
When you are “future proofing” a business, sometimes you need assistant coaches and an advisory team up in the sky box to provide input. Whether it is a livestock or crop consultant, your agricultural lender, other specialists, or even your peers, an advisory team can offer advice, confirm thoughts, and provide another view concerning outlook, strategies, and actions. However, the key is relationships. The following is some time-tested wisdom for success in business and life.
- You are no better than the people you know, associate, and interact with.
- Your net worth, financially and in terms of quality of life, is equal to your network of people.
The downside of the economic cycle requires management intensity, financial discipline, and association with good people. However, one can be profitable both in business and life through focus and persistence. If you feel alone following the strategies, remember there are no traffic jams in the extra mile!
Dr. David Kohl energizes agricultural lenders, producers, and business professionals with his keen insight into the agricultural industry through extensive travel, research, and networking around the globe. He is a Professor Emeritus of Agricultural Finance and Small Business Management and Entrepreneurship at Virginia Tech, Blacksburg, VA. Dr. Kohl has traveled over 10 million miles in his career and conducted over 7,000 workshops and seminars for a variety of agricultural audiences. Additionally, Dr. Kohl’s personal involvement with agriculture provides a unique perspective into the future trends of the agricultural industry and economy.
