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Extension > Agricultural Business Management News > Understanding income and expenses to proactively manage finances

Thursday, June 30, 2016

Understanding income and expenses to proactively manage finances

by Betty Berning, Extension Educator

Money. For many people, it’s a topic they’d rather avoid. Often times, money is something they’d like to have more of – especially in this farm economy. Crops, dairy, and livestock operators are all in the midst of tight margins. Data from FinBin, a database of farm-level financial and operation data, support this.
For beef finishing operations in Minnesota, the average net return* per head from 2011-2015 was $82.99. The average number of cattle sold out was 223 head. In other words, the return for a farmer’s cattle feeding operation was ~$18,500/year. That’s not a bad return, particularly if there were additional sources of income such as crops, other livestock, or off-farm income. A positive return over a five-year period would make most people happy.
Digging deeper into the data, though, reveals a different story. The return per head has varied dramatically by year. (See Table 1)
In fact there have been four years with positive returns and only one negative year. Let’s dig deeper. 2015 was the negative year and it was ugly. It eroded away at a significant portion of the returns earned in the previous four years.
In fact, if we remove 2015 from the analysis in the previous paragraph, the average return per head from 2011-2014 almost doubles to $158/head or $35,200/year. 2015 was rough.
Table 1: Net return/head
mn beef team chart
In 2015, the average number of cattle sold off the farm was 228 head. Using this number and the -$289.36/head loss, we can calculate that the average FinBin beef finishing operation lost close to $66,000. To reiterate, it was a tough year. Certainly the positive returns in previous years may have helped to absorb the 2015 loss, but it is never easy to have such a large loss at once. Often times the gains from previous years have already been invested back into the operation by the time a loss year hits.
2016 is shaping up similarly, unfortunately. While feed prices remain low, USDA data indicate that finished steer prices are not close to the high prices of 2014. The most recent data (April 2016) show that finished steer prices are down from both year ago and month ago prices.
Often times it feels like there isn’t much that can be done when prices are low. To a certain extent, that is true. A farmer can’t raise prices. Prices are determined by supply and demand.
What a farmer CAN do is look at income and expenses to determine if there are operational changes that can be made. In addition, farmers CAN utilize risk management strategies to proactively manage finances.
Let’s start with income and expenses. If you haven’t already looked at your income and expenses, now is a good time to do so. Are there any expenses that you can cut? Be careful not to cut items that might also decrease your income. Look for the “nice to have” expenses – those are good ones to cut back. Ask yourself if there are there any ways to earn supplemental income.
By understanding income and expenses, you will get a better understanding of the price needed to break-even. Make it a practice to regularly examine these items. This allows you to proactively make decisions, rather than react to declining market conditions.
FinBin (www.finbin.umn.edu) is a great data resource for you to compare your income and expenses to other cattle operations in Minnesota. You might be surprised to see how your farm stacks up against others and you might get some ideas on different ways to manage your finances.
Risk management techniques can also be utilized as a proactive way to manage margins. Do you see any opportunities to contract your cattle at a higher price in the future? Consider contracting a portion of the lot at the time of purchase.
In other words, when you buy your cattle, lock in a margin (profit) on part of them. You can do this by contracting with a buyer or utilizing futures. While there may not be many opportunities available to you, try to look for them. Futures contracts are quite large, though, and are not heavily traded, so this is not an option for many beef producers.
You can also consider contracting your feed costs when you bring cattle into the lot. By locking in both a price for the cattle and the feed, you will have a very good idea of what your margin will be when the cattle leave the farm. Ideally you will be able to lock in a positive margin.
Do you have other enterprises besides cattle? Do this same analysis for those. Understand your costs and income. Identify areas to decrease costs or increase income. Look for opportunities to contract when it allows you to make a profit that works for your operation.
Finally, it’s also wise to talk to your banker if you haven’t already. Your banker will want to know what the next year looks like and try to help you make a plan so that you’re successful. Often times your banker can help you identify areas where you can improve, too. Remember the old adage – two heads are better than one. Having a conversation early allows you to stay ahead of the problem, so that your lender can help you before things get too serious. Often times debt can be restructured or payments adjusted.
Money. It can be challenging to think and talk about it, but if we can dig into how we earn and spend it, we can greatly improve our chances of success!
(*Net return consists of cattle sales, direct expenses, and overhead expenses. Operator’s salary is not deducted from net return.)

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