POSITIONING FOR RESET

Macro Clinic Video Blog: http://agstar.com/edge/

Road Warrior of Agriculture: www.cornandsoybeandigest.com

Ag Globe Trotter: www.northwestfcs.com

Dave’s GPS & Dashboard Indicators: www.farmermac.com

Dr. David M. KohlProfessor Emeritus, Agricultural and Applied Economics

Virginia Tech, Blacksburg, VA

(540) 961-2094 (Alicia Morris) | (540) 719-0752 (Angela Meadows) | sullylab@vt.edu

January 5-6, 2016

Five Macro Factors Impacting Agriculture: Rural America’s Bottom Line emerging nations

economic slowdown biofuels, oil, & technology central banking strategy

U.S. & abroad king dollar & duration mother nature

weather- U.S. & globally

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2016 – 2020 Economic Reset 1

BRICS & KIMT’s – 53% world economic growth

growth moderating 8-5-3 Rule China does matter to fly over states 2007 to 2012 aberration in commodity prices one half of emerging nations in recession

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World Economic Outlook: Real GDP Growth 2000-2015

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emerging market and developing economies

world advanced

economies

Source: IMF World Economic Outlook (October 2015)http://www.imf.org/external/datamapper/index.php

2016 – 2020 Economic Reset 2

ethanol & biofuels oil black gold “recession effect” deflation in commodities

regulatory issues in developed countries political dysfunction technology, automation demographics

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2016 – 2020 Economic Reset 3

40% of commodity prices & asset values U.S. Central Bank reducing stimulus European Central Bank increasing stimulus

60 billion plus 21 months Japan’s stimulus China’s Central Bank stimulus stock market appreciation beneficial to fly over states/Canada/Australia,

etc.6

2016 – 2020 Economic Reset 4

weather wild card political military sanctions quality & standards risk consumers & public “Black Swans”

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Global Economics: Europe

France economy sluggish Germany- export driven Europe China connection Greece central bank stimulus extended Ukraine

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Global Economics: China

China PMI <50 exports down >10% lowered rates five times stock market up 105%, down 30 to 40% devalued currency natural resource issues shadow banking

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Global Economics: Other

Russia oil Mr. Putin

Brazil recession Infrastructure

Argentina tax political dysfunction

Brazil & China connection10

Global Economics: Japan/Asia

debt issues demographic wedge South Korea sluggish India quite strong

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U.S. Economy Watch

LEI declining PMI slowing manufacturing, building inventory housing 1.2 million business cycle expansion later innings

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Federal Reserve’sInterest Rate Barometer

Indicator Possible Change

Definite Change

Current Status

Unemployment 7.0% 6.5% 5.0%GDP Growth 2.0% 2.5% 2.1%Core Inflation 2.0% 2.5% 1.9%Headline Inflation

4.0% 5.0% 0.2%

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Watch List:• Dr. Yellen• FOMC voting• FOMC minutes

• Rail traffic• Shoe shiners• Copper prices

• Overland trucking• Baltic Sea index

Grain Industry- Reset

easy money 2007-2012 has been made top notch managers adjust high overhead/fixed cost structure classic tail effect

prices go down costs lag

cycle duration

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Grain Producers:“Houston, We Have a Problem”Super Cycle Observation Constant 2014 Dollars

Median Net Income2007-2012 $169,9682002-2006 $66,574Super Cycle 2.42 x’s greater2013-2014 $32,9442000-2001 $40,123• Lost 40% working capital in two years• Greater 60% Debt to Asset Ratios under 10% working capital• Operators under age of 30 - 24 to 15% working capital• Most leveraged farms- negative working capital• Debt coverage ratio is 45%

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Livestock Industry

strategic resource shift grain industry economic Vortex 50 to 65 year olds will not return 1953/73/78 cycle duration curve ball effect

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Roller Coaster Economics Reset

2007 to 2012 aberration for the grain industry dot com bubble of agriculture asset bubble vs. credit bubble livestock: Clayton Kersaw’s curve ball effect:

hogs beef dairy poultry

asset “fixed cost” operating cost adjustment early innings of adjustment

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Nine Innings of an Evolution of a Cycle Reset1. profits start to decline but asset appreciation continues2. new lenders enter the market place3. strong equity growth mentality creates complacency4. machinery & equipment values first to decline5. aggressive growth businesses & fraudulent activities occur6. margin negative cash flow & operating lines of credit

become an issue7. marginal assets discounted8. non-traditional & new lenders retreat9. quality assets adjust in value depending upon length of

adjustment

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Positioning for the Reset

family living cost- business & personal machinery & equipment investment crop cost $100 to $150 per acre “15% to 30%” reduction of human assets “uncle example” earns & turns – “margin/capital turnover”

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Business Equation for Success

P=O+C+L+M² P=people, profits, & plans O=overhead cost control C=costs- know thy cost L=liquidity-cash is king M²=marketing & management = margin

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Screening Guide for Negative Margins 1 Historically has the producer/entity: Yes NoBeen profitable above interest rates and rate of inflation?Shown growth of balance sheet which is earned vs. appreciated net worth?Has built and protected working capital in positive cycle?Been able to cut living expenses if needed?Been able to sell unproductive assets?Followed and executed a marketing risk management program?Have the ability to cut 10 to 30% of costs?

21Producer Version

Screening Guide for Negative Margins 2Historically has the producer/entity: Yes NoBeen able to shed unprofitable land, machinery, livestock, & human assets if necessary?Had a burn rate for working capital 2.5 years or more?Had a term debt/EBITDA ratio <5 to 1?

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Scoring Key:>8 Yes boxes checked= strong case for sustainability5-8 Yes boxes checked= modest case for sustainability<5 Yes boxes checked= very questionable for sustainability

Producer Version

The Burn Rate – Working Capital

Revenue $2,000,000 Current Assets $1,000,000Expenses 2,200,000 Current Liabilities 500,000Loss $200,000 Net Working Capital $500,000

Net Working Capital $500,000= 2.5 Years Projected Loss $200,000

Green >3.0 YearsYellow 1.0-3.0 YearsRed <1.0 Year

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The Burn Rate – Debt Service Payments

Revenue $2,000,000 Current Assets $1,000,000Expenses 1,800,000 Current Liabilities 500,000Profit $200,000 Net Working Capital $500,000Debt Service Payments = $100,000

Net Working Capital $500,000= 5.0 Years Debt Service Payments $100,000

Green >5.0 YearsYellow 2.5-5.0 Years Red <2.5 Years 24

Financial Dashboard

Key Ratio Green Yellow Red

Coverage Ratio >200% 125% to 200%

<125%

Working Capital/Revenue >33% 10% to 33% <10%Equity Percent >70% 40% to 70% <40%Term Debt/EBITDA <350% 350% to

600%>600%

ROA- Return on Assets >6% 2% to 6% <1%

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Financial Characteristics that Thrive During Tough Times

Characteristic: Yes NoWorking capital revenue above 33%Burn rate working capital to net income loss over 2.5 yearsBurn rate of working capital to annual debt service payments 3.0 years or greaterModeration in family living costsDebt coverage ratio above 125%

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The Five “P” Evaluation of Successful Business Planners(1)

Evaluation Points: RatingParadigm:Conversations center around profitability instead of production, operationsReceptive to new technology & ideasHigh priority on education & training for new ideasView people inside & outside of business as important resources

People:Employees & suppliers trust & respect themEmployees & management are given opportunity to growEmployees & suppliers enjoy working with this businessLow employee & management turnoverPlanner:Utilize a business mission statement & core valuesUse tactical plans to achieve written business goalsUse record systems (financial, production) to monitor & evaluate performanceCould leave their business for a week/month & things would run smoothly

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Rate the following statements regarding business planners.1-Strongly Disagree, 2- Disagree, 3-Neither Agree or Disagree, 4-Agree, 5- Strongly Agree

____________________

____________________

__________ __________

The Five “P” Evaluation of Successful Business Planners(2)

Evaluation Points: RatingProblem Solver:Identify problems in the business before they are obviousSeldom have the same problem reoccur in their businessSolicit input from ag & non-ag sources when looking for solutions Take responsibility for their decisions

Proactive:Can make a decision & accept consequencesProductive & gets things doneComplete tasks - multitaskersComplete tasks on scheduleScoring: Total Score90-100 High Potential for Success80-90 Above Average Potential for Success70-80 Needs Management Assistance for Success<70 Probably will be around until the money runs out

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Rate the following statements regarding business planners.1-Strongly Disagree, 2- Disagree, 3-Neither Agree or Disagree, 4-Agree, 5- Strongly Agree

____________________

____________________

_____

Source: Adapted & Revised from Southeastern Agricultural Lenders School

Problems You Want Your Business to Have (1) You pay income taxes. You can leave your business for a month & the

business runs smoothly. Your lender seeks you for business. People want to work for your business. Your business has idle cash and liquid financial

assets. You can fire your customers/suppliers. You leave money on the table in some deals.

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Problems You Want Your Business to Have (2) You surround yourself with people smarter than

you. You spend time networking and seeking

education. You could send your son/daughter/assistant

away for two years. You appear to be dissatisfied, not happy with

status quo. You occasionally fail.

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Ten Best Management Practices of Young Producers modesty in family living invest in productive assets

personal/business independent vs. interdependent lifelong learners strong group of peers good set of mentors profit plan 60-30-10 get better before getting bigger balance between head/heart (numbers vs. passion) strong relationship with lender

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