Rising inflation, interest rate increases, a conflict in Europe, supply chain disruptions, and shifting consumer preferences are creating an environment of unexpected consequences. Managing a farm or ranch business in an economic environment with extreme volatility can be challenging, but also opportunistic.
At a recent agricultural conference, Dr. Steve Isaacs, Extension professor of agricultural economics at the University of Kentucky, summarized the business environment well when he said, “One does not live solely off the gross revenue or expense side of the equation. It is all about net margin.” Let’s examine both sides of the equation and provide some insights in placing the margin odds in your favor.
From businesses to households, the question on many people’s minds is where is inflation headed? While the Federal Reserve is raising interest rates to temper inflation, the duration may be impacted by a convergence of events out of the central bank’s control.
At the top of mind is the conflict in Europe, creating havoc on inputs such as fuel, fertilizer and anything related to the energy complex. With a considerable amount of potash produced in Russia and nitrogen and phosphorus produced in China, both the cost and availability of each remains in question this year and well into next year.
Food inflation, particularly as it relates to the wheat sector, is becoming an issue. Russia and Ukraine produce between 25 and 30 percent of the world’s wheat exports. Fifty countries, many of which are emerging nations, are dependent on these two countries for more than 30 percent of their wheat imports. Typically, Egypt and Turkey import over 60 percent of their wheat from Russia and Ukraine. The Russo-Ukrainian War is a major disruption of food security in regions of the world where social stability is very fragile. The silver lining of this conflict is that it heightens the importance of a stable source of food, fiber and fuel. Of course, extreme weather, the recent COVID-19 outbreak in China, the movement toward de-globalization, and trade disrupters all build a case for extended inflation.
Commodity prices are at record levels due to the aforementioned factors. However, one must be cognizant of net margin. What are producers doing to manage inflation? A set of surveys from a recent conference provided a checklist to score your business strategies compared to your peers.
• Many producers are more diligent about completing cash flows and enterprise budgets for each commodity. The strongest managers are being more intentional about understanding operations from the beginning of the year to the end to improve net margin returns. For example, instead of compiling annual financial statements, the best managers are using the income statement as a living document that is monitored and analyzed in the decision-making process throughout the year. The projected cash flow and income statements compared to actual results can be useful in formulating both purchasing and selling decisions and overall break-even analysis.
• More attention is being focused on cropping rotations, agronomy practices and soil testing.
• Producers are carefully scrutinizing capital purchases such as equipment and facilities to prioritize needs versus wants.
• Producers are stepping up their marketing and risk management strategies to achieve profits and margins while staying as cost efficient and effective as possible. Other practices being implemented are the careful examination of the working capital position and quickness to cash by marketing crops and livestock against offsetting expense obligations at inflated levels.
• Some producers have increased operating lines of credit after analysis of financial spreadsheets with sensitivity testing to develop the outcome guardrails for strategic thinking.
When all is said and done, financial and economic cycles are a reality of life. This period is very reminiscent of the late 1970s. Old-time management habits with new twists, regardless of the level and duration of inflation, need to be considered.
Make sure you have an accurate financial record-keeping system. This is critical! Ownership of the finances and monitoring key performance indicators to measure business trends and conduct peer analysis can keep you ahead of the curve.
Being receptive to advice that you can customize to your situation through a team of advisors is a high priority. Utilize innovative practices when profitable and use technology to improve effective and efficient practices.
Weather management is a new term being coined by leading producers. Eric Snodgrass, also known as “Eric the Weatherman,” provides regional and global weather insight on Northwest Farm Credit Services’ website to aid your margin management decisions.
Good communication skills are very important in managing the unexpected. Do not shut down. Be a good listener and focus your energy and efforts on the controllable variables and manage around the uncontrollable ones. A combination of these strategies will help you manage through the unexpected this year and for many years to come.
Dr. David Kohl is an academic hall-of-famer in the College of Agriculture and Life Sciences at Virginia Tech in Blacksburg, Va. Dr. Kohl is a sought-after educator of lenders, producers and stakeholders with his keen insight into the agriculture industry gained through extensive travel, research and involvement in ag businesses. This content provided by Northwest Farm Credit Services.