In the last Road Warrior article, our discussion centered on working capital declines and repayment capacity. While not dire, financial weaknesses are being exposed, particularly for the average and below average producers. Return on assets (ROA) is the oxygen of the business. When examining the 2023 data summaries from the FINBIN database, the ROA has dropped significantly for all farms, which can hinder long term sustainability.

As a facilitator for the U.S. Farm Financial Standards Task Force a number of decades ago, we developed numerous ratios to measure financial efficiency of the business. One of my favorites is the operating expense to revenue ratio, excluding interest and depreciation expenses. The margin is EBITDA*. This ratio is often used in business and financial assessments and, to some extent, valuations of the business from an earnings generation standpoint.

Margin compression

Analysis of the 2023 FINBIN data finds that margin compression is very apparent. The average operating expense ratio was 82 percent, which is similar to the financial trend analysis from 2013 to 2019 when the ratio was in the mid-80s. This is coming off three pandemic years when the ratio averaged 68 percent. This represents a 14 percent decline in margin in just one year.

Moving to the bottom 20 percent of producers, as measured by financial profitability, finds that the operating expense ratio is almost 100 percent. This indicates that these businesses cannot cover interest expenses, depreciation, or family living costs. This segment must resort to off farm income, postponing capital expenditures, and temporary fixes such as refinancing losses over a period of time.

Margin squeeze

The top 20 percent of producers showed a margin squeeze of more than 10 percent with the average being 73 percent. Again, the data points to the economic times of 2013 to 2019, also known as the financial “grinder” years.

What covered producers during the previous period of 2013 to 2019 was that farmland values were appreciating by more than 10 percent, fueled by unprecedented zero-bound interest rates. Next, working capital and liquidity reserves bolstered equity and refinancing based on collateral financing. Others were very diligent regarding cost efficiency, capital expenditures, and family living costs and withdrawals.

Bottom line

In many of the agricultural banking schools this year, these data findings are leading to some deep discussions. What is ahead of us is the need for proactive strategies and actions to maintain customer and portfolio viability. The bottom line is an intense focus on the financials will be a high priority action.