Annual investment allowance

    Cash is King - Budgeting and Cashflow

     

    There is an old joke about a farmer who won the lottery. When asked what he was going to do with the money he replied, “I guess I shall just go on farming until the money is all gone”.

    We all agree the  weather has been exceptional recently. Usually after a year such as 2012 there is a collective sigh of relief and renewed optimism at the start of the new year. Unfortunately, so far 2013 is no better than 2012, with many crops looking poor, forage short, bedding expensive and feed costs high.  

    While the fall in arable prices might yet reverse this will require a change in global weather; it is after all under three years ago when wheat prices fell below £100/t. Dairy prices, while improved, vary enormously between contracts – but perhaps the fall in grain prices will lower the cost of concentrates.

    Farmers are often reluctant to produce trading and cashflow budgets because there are many variables outside of their control that can radically change the forecast.  However, these influences do need to be understood and taken into account.  Nearly every arable farmer will already be aware that the overdraft in 12 months’ time will probably be higher than now.  It looks likely that harvest 2013 output will be lower than last year and the saving in fertiliser expenditure in 2013 (because of the additional spring cropping) will probably not occur next year.  Within the next month silage will be cut and maize emerged making it increasingly clear how much supplementary feed will be needed and its impact on cashflow.

    Sidestep a potential loss
    At best, a cashflow budget (showing the cash demand for the business) and trading budget (estimating the profit) based on the best estimate of future prices, physical outputs and costs can allow alternative action to be taken to avoid a potential loss and hence conserve capital.  Sometimes between the preparation of the budgets and outcome a miracle can happen. It is not usually worth the risk however, since in the long term the average situation tends to prevail and if the business needs unusually favourable conditions to survive it is probable that things will just get worse without restructuring.

    Plan for cash

    More generally, the financial budgets provide the opportunity to source borrowing at more favourable rates than can be achieved at the last minute.   But be aware that a finance arrangement on a machinery purchase might be a neat way of avoiding an overdraft limit but could be a very expensive source of finance.

    Review the business

    Preparation also provides a good opportunity to look at each element of the business in a methodical way to assess whether cost can be reduced or even whether there is a better way of managing the business.  Thus, input costs can be compared with those achieved by the local buying group (and if you can’t beat them join them) and all those sundry issues such as insurance, telephones, electricity and even professional fees can be reviewed, or timetabled for a review.

    Benchmarking

    Benchmarking can be worthwhile but the comparison itself is far less important than the exercise of making the comparison.  An Australian paper showed that benchmarking against random numbers was every bit as effective as benchmarking against real data – but benchmarking is a major industry in Australia and understanding what can really be achieved is valuable.  We probably have a lot to learn bearing in mind you can make a return on investment producing only 1.4t/ha of wheat without subsidy over there. 

    It is clear to most arable farmers that the optimum investment in labour and machinery has changed since 2006 given the much higher return from maximising (optimising) output.

    Objectives

    It is extremely rare for a farming business’ objectives to be all financial.  However, non-financial objectives are often only possible if sufficient cash is generated to allow the non-financial objectives to be achieved.  It is worth taking the time to ask the questions “what are my objectives?” and “where do I want to be in three years?”

    Line in the sand

    For a while income can be maintained by spending the reserve to replace machinery although eventually a crunch point occurs.

    It is also easy to accept a loss in the hope that next year will be better.  This is particularly easy to do where no one is asking questions of the business about the consumption of capital.   If things are tight, write down the overdraft or loss at which point you commit yourself to a change in policy, however difficult that may be.

    And finally...

    It is often the most entrepreneurial and impressive businesses that are forced to take major action first since they are likely to be making more use of the capital available and thus exposed to more risk.   Fortunately there are always new ways of doing things.