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Financial management key to lower price survival
We all know that crop prices are much lower than a year ago and that farmland prices are leveling off. Kevin Kane, a financial analyst for Rabobank based in St. Louis, also tracks yields on 10-year treasury notes, an indicator of interest-rate trends.
From May until September (before the government shutdown), those yields increased from 1.6% to 2.6%. “In six months, they’ve gone up 100 basis points (1%), which is a significant rise,” says Kane.
What do you do when commodity prices are less generous and any floating interest rates you may still have are risky? After a time of economic boom, old-fashioned financial analysis and specific tools like managing interest rates are back in the spotlight.
Rocking the Boat to avoid a wreck
Tim Eggers, an Extension field economist with Iowa State University, and Chris Bruynis, an Extension educator with Ohio State University, will begin a series of workshops in January and February called “Rocking the Boat.”
In Iowa, the workshops will start out with a review of measuring a farm’s current ratio and working capital, two gauges of a farm’s ability to repay debts due in the next 12 months. (Current ratio is current assets divided by current liabilities. A ratio of 3 or higher is considered healthy liquidity for grain farms.) Those 45-minute sessions are part of winter Crop Advantage meetings in Iowa and similar agronomy sessions in Ohio.
A second round of day-long meetings called “Deep Water or High Tide on the Beach” will have teams of four look at case-study farms and five-year histories showing shifts in land values, other assets, crop values, and interest rates.
Options to consider
Eggers doesn’t consider interest rates trivial. “If our clients have any notes that do not have fixed interest rates, they need to be considering why they have not fixed those,” he says.
Yet, interest is hardly the biggest cost, and Eggers will encourage “taking a very close look at cash flow, looking at family living costs and other costs of production that may have changed during this financial boom.”
Nor does he pretend to know which approach is best. The idea is to know where you’re headed.
Liquidating machinery assets might seem like a quick fix for the small number of farmers without adequate working capital.
That has tax pitfalls if you’ve used the generous Section 179 expensing in recent years.
“Trying to sell a tractor with high debt load and depreciation may turn that capital asset into a loss,” he says
Bruynis and Eggers plan longer multiday workshops called “Moving Beyond the Basics” for agricultural women. All sessions are supported by USDA’s North Central Risk Management Education Center and are likely to be available in other states. (For details, email email@example.com or firstname.lastname@example.org.)
Locking interest rates on short-term to intermediate-term debt can also be done with swaps (a form of derivative) on the London Interbank Offered Rate, says Rabobank’s Kane.
Current variable-rate operating loans are less expensive than fixed rates. Swaps can be a less costly way to protect against rising rates – but they are also limited to operations with high net worth.
“As margins tighten, interest expense is going to be a bigger component,” Kane says.
Sterling Liddell, a Rabobank analyst who tracks land prices, believes locking in land mortgage interest rates can also reduce financial risk, along with management of cash assets so there is enough working capital to avoid a crisis, or the ability to take advantage of expansion opportunities. He also suggests running stress-test cash flows with low crop prices.
That brings us back to the rules-based financial analysis Eggers will teach.
“It shows what the environment is today and how you can prepare for the environment tomorrow,” he says.