dr. david m. kohl professor emeritus agricultural and applied economics virginia tech blacksburg, va...

Dr. David M. KohlProfessor Emeritus

Agricultural and Applied EconomicsVirginia Tech

Blacksburg, VA 24060(540) 961-2094 (Alicia Morris)

(540) 719-0752 (Angela Meadows)e-mail: [email protected]

Weekly Website Columns: Ag Globe Trotter: www.farm-credit.com

Road Warrior of Agriculture: www.cornandsoybeandigest.com

Viability of Dairy Industry in Northeast“Keys”

Macro PA

natural resources plus

location to markets plus

conservative mode & mentality plus

infrastructure plus

possibility to diversify modest size plus

Is Your Business “Farmcreditable / Bankable/ or FSAable?”

Do you know your cost of production? Do you conduct enterprise analysis? Do you complete and utilize accrual adjusted income

statements? Do you have accurate up to date balance sheets? Do you utilize key financial ratios in your business

planning? Do you have a three prong risk management program?

(revenue, inputs, & interest rates) Do you conduct sensitivity analysis on cash flows? Do you communicate if you have problem? Do you meet key metrics, ratios, & credit scores? Do you utilize a business plan?

New Economic Realities- Financial Metrics

Measure Code

Red

Code

Yellow

Code

Green

Working

Capital/Exp. Or Rev.

<15% 15-33% >33%

Debt/Asset Ratio

>60% 40-60% <40%

Credit Score <650 650-700 700+

Op. Exp. Revenue

(Excluding Depr. & Int.)

>80% 70-80% <70%

Coverage Ratio <125% 125- 200% >200%

Equity Position - Percent Equity

(Total Farm Equity / Total Farm Assets)

Red (0-4) under 40 percent

Yellow (5-8) 40 to 70 percent

Green (9-10) over 70 percent

Liquidity

(Net Working Capital / Total Expenses)




Please rate one to ten (one being weak, ten being strong)

Current Assets minus Current Liabilities divided by Total Farm Expenses

$200,000 - $100,000 = $100,000$100,000 / $400,000 = 25%

Total Farm Assets minus Total Farm Liabilities equals Net Worth or Equity

$500,000 - $200,000 = $300,000$300,000 / $500,000 = 60%

0 - negative1 - 1 to 10%2 - 11 to 20%3 - 21 to 30%4 - 31 to 39%5 - 40 to 49%6 - 50 to 59%7 - 60 to 69%8 - 70 to 79%9 - 80 to 89%10 - 90 to 100%

0 - negative1 - 1%2 - 2 to 3%3 - 4 to 6%4 - 7 to 9%5 - 10%6 - 11 to 14%7 - 15 to 20%8 - 21 to 25%9 - 26 to 50%10 - > 50%

1


Profitability - Return On Assets

((Net Income + Interest - Management Fee) / Total Farm Assets)Owned Leased

Red (0-4) under 4 percent under 6 percent

Yellow (5-8) 4 to 7 percent 6 to 10 percent

Green (9-10) over 7 percent over 10 percent

Capital Turnover

(Revenue/Total Assets)




Margin Management

Net Profit/Gross Revenue




Owned Land$ 50,000 (net income)

+ 20,000 (interest paid) 70,000

- 40,000 (family$ 30,000 withdrawals

or mgt fee)$30,000

$500,000 assets = 6%

Leased0 - 1% or neg1 - 2%2 - 3%3 - 4%4 - 5%5 - 6%6 - 7%7 - 8%8 - 9 - 10%9 - >10%10 - > 12%

Owned0 - neg1 - 0%2 - 1%3 - 2%4 - 3%5 - 4%6 - 5%7 - 6%8 - 7%9 - 8%10 - > 8%

0 - negative1 - 1 to 4%2 - 5 to 9%3 - 10 to 14%4 - 15 to 19%5 - 20 to 24%6 - 25 to 29%7 - 30 to 34%8 - 35 to 40%9 - 41 to 50%10 - > 50%

Ideal capital turnover varies by enterprise

Gross Revenue divided by Total Assets equals Capital Turnover$450,000$500,000 = 90%

0 - negative1 - 1 to 2%2 - 3 to 4%3 - 5 to 6%4 - 7 to 8%5 - 9 to 10%6 - 11 to 12%7 - 13 to 14%8 - 15 to 16%9 - 17 to 19%10 - > 19%

Net Prof it Margin times Asset Turnover equals ROA6.7% * 90% = 6%

$ 50,000 (net income) + 20,000 (interest paid)

70,000- 40,000 (family withdrawal)$ 30,000 (operating prof it

margin) $30,000

$450,000 revenue = 6.7%

2

Repayment Capacity & Coverage Margin

Red (0-4)

Yellow (5-8)

Green (9-10)

Operating Expense/Revenue

Operating Expenses (excluding interest & depreciation) / Gross Revenue

Red (0-4)

Yellow (5-8)

Green (9-10)

0 - < 100%1 - 100 to 109%2 - 110 to 114%3 - 115 to 119%4 - 120 to 124%5 - 125 to 134%6 - 135 to 149%7 - 150 to 174%8 - 175 to 199%9 - 200 to 249%10 - > 250%

Repayment Capacity$ 50,000 (net income) + 20,000 (non-farm rev.)

70,000+ 30,000 (dep & int.)

100,000- 40,000 (family withdrawals)$ 60,000 (capacity available) - 40,000 (int & prin. pmt.)$20,000 (coverage margin)

Use 3-year average for less variation.

Coverage: $60,000Ratio $40,000 =150%

Capacity Available divided by Interest & Principal Payment equals Coverage Ratio

0 - >90%1 - 89%2 - 85 to 88%3 - 81 to 84%4 - 80%5 - 77 to 79%6 - 73 to 76%7 - 71 to 73%8 - 70%9 - 65 to 69%10 - < 65%

Operating Expense: $370,000Gross Revenue: $450,000 =82%


3

Signs of a Dairy Business in Difficulty

account payables / supplier credits > 10% of revenue constant refinancing of operating loans not covering variable cost of production- more than six

months not covering total cost of production- more than eighteen

months annual loss of earned net worth more than 10% of total

net worth operating expense to revenue ratio (excluding interest

and depreciation) over 85% interest paid revenue ratio over 15% of revenue percent equity under 30% credit scores under 650 have more than five different sources of credit on

balance sheet

Financial Profits Diagnosis Worksheet

Problem Symptoms Causes

Solution/ Treatment

Low Profit Margin Low ROA Poor buyingPoor marketingPoor efficiencyPoor strategyPoor executionMurphy’s Law

Business planRisk mgmt. planMarketing planPurchasing planKnow your costs

Low ROA Refinancing operating debtIncreasing payables

Lack of planningLack of executionGrowthHigh mgmt. fee

Reduce overheadIncrease margin thru efficiency or growth

Poor credit score Rejected creditHigher insurance rates

Not paying bills on timeToo much debt

Budget family & home expensesSeek counsel in improving the credit report

Slow capital turnover Below average to industry peersLow Profits

High asset valuesLow revenue

Sell fixed assetsSell unneeded or unproductive assetsSell leased fixed assetsMachinery & equipment budgets per unit

Low liquidity Poor working capital to revenuePoor current ratio

Using short term funds/profits to fund long term assetsPoor debt structure

Build an annual working capital reserve marginRefinancePay income taxes & deferred taxes

High financial leverage Missed paymentsRejected creditPersonal stressHigh levels of debt compared to peers

Rapid aggressive growthBeginning producersMurphy’s Law

Slower growthAllocate profitsReduce liabilities rather than increase assetsCapital stock infusion

Management Diagnosis Worksheet

Problem Symptoms Causes

Solution/ Treatment

Management & Labor Poor communicationsLabor turnoverUnproductive laborHigh labor costOver scheduled

Poor schedulingLack of planningDoing vs. managing

Job responsibilitiesDelegationTrainingDISC personality profileSalary / perksMeetingsHire facilitator

Long term transition planning

No estate planNo willsNo mgt. transitions Failure to train next

generationPoor profitsLast minute corrections

Time managementLack size and scope of businessPhilosophy of generationsThunder stage comfort

3-year rule (away from business)Hire for your weaknesses6 year ruleHire facilitatorBusiness planExit plan

Environmental , Technology & Sustainability

Non complianceLoss of efficiency & sustainabilityMiss match of resources to mode of operationsChallenges with public

Lack of understanding of rulesLack of understanding of technology or sustainabilityIndependent vs. interdependentLack of understanding of consumer and public

2 -6 hours of training per weekRecords & documentationWaste & nutrient management planTime allocation

Marketing Risk Management

Home run hitterFailure to hit tops & bottoms of the marketFailed beforeToo complex

Lack of timeLack of understandingFailure to know costsNo strategyNo time table for execution

Know costPlanStrategyExecutionRisk mitigationAdvisor

Turnaround Strategies

divide cost of production variable fixed total cost

earned net worth vs. appreciated net worth strategy monthly & quarterly variance analysis

actual projected year over year macro / micro

quick victories to build upon meeting management

partners, spouses, lenders agendas minutes

assignments and to do lists focus on larger costs SWOT analysis prioritization of goals business planning, execution, and monitoring

dr. david m. kohl professor emeritus agricultural and applied economics virginia tech blacksburg, va...

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