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Building resiliency helps weather ups, downs of markets

Agrivision: A price risk management plan contributes to long-term financial progress.

March 12, 2021

9 Min Read
Corn field
DEBT-TO-ASSET RATIO: The higher your debt-to-asset ratio, the more vulnerable you are to interest rate fluctuations. If solvency is a problem, correcting it may result in the sale of assets and repayment of debt.Farm Progress

My son and I farm 1,700 owned and rented acres in southwestern Wisconsin. We also custom-combine an additional 1,800 acres of corn, soybeans and wheat for neighboring farms. My son is 33 and started farming with me in 2008. We have seen some really great years and some really bad years. I know a lot of people are excited about higher corn and soybean prices this year, but I’m cautioning my son that this is no time to think these high prices will last more than a year, maybe two. My goal is to continue to pay down debt.

We own 900 acres of land. We owe about $2 million on land and equipment. I realize it is likely we will always have debt, but I still make it a high priority to pay down debt as much as possible. Instead of trading and getting a new combine this year, I plan to keep our 4-year-old and 7-year-old combines and wait another year before we trade the older combine. Why? Because I think we are better off trying to negotiate a good deal when prices are average instead of high, and a year from now, we will be in a better debt position if we prioritize paying down debt this year instead of replacing equipment. What are your thoughts?

Kestell: I am sure you are proud of your success in your career and partnership with your son and you should be. I am a dairy farmer and also a crop farmer. So, like you, we have weathered the ups and downs of farming over the years. One thing is for sure and that is that the ag world is more complicated every year. From our shared experience, high prices seldom last more than a few years. But at the same time, it is also true that below-breakeven prices are also short-lived. I agree with you that the time to buy is seldom in the most profitable years because there are too many dollars chasing too few goods (combines, etc.).

As you realize, debt has become a way of life and business in modern ag. Debt is not necessarily bad, but it is always there and must be planned for, budgeted for and used to make a profit over its costs. 

I think it is always a good strategy to lower debt as much as possible. It’s always advantageous to negotiate from a solid or strong financial footing and have the support and confidence of your local lender. No one knows your combines better than you and your son. Make a realistic evaluation of both combines to see if enhanced maintenance, such as replacing worn parts, chains and gears, will give you better performance next year and better trade-in value in the future.

It never hurts to get firm replacement costs on the combines. Many like-new combines will be traded in within the next year. And some of these will become available, hopefully, at reasonable prices because of excess inventory of used combines. Please look at as many options as possible, and remember that patience can be a very valuable negotiating tool. 

Miller: The perspective you outline indicates you understand the cyclical nature of commodity crop prices and returns. When prices get high, the market sends the signal to produce more to meet demand. When prices are low, the market is sending the signal to produce less. I tend to look for what is driving the markets in the direction they are taking. Is it from increased demand, like China rebuilding its swine herd? Or is it a weather event, like a drought that reduces supply in the case of higher prices? In either case, your emphasis on building resiliency into your financial position will help you weather the ups and downs of the markets. 

Keep in mind, prices tend to be below cost of production for about twice as long as they are above breakeven costs, meaning a strong balance sheet, adequate working capital and a good price risk management plan all contribute to long-term financial progress. The length of lower commodity prices means there is pent-up demand for machinery, so waiting to replace — provided your equipment is in good repair — makes financial sense. Good luck managing through an improved crop outlook this year.

Wantoch: Unless farmers are debt-free, they should be actively managing their debt and the interest expense charged. Effective managers should complete a financial analysis and review total amount of debt, interest rates and income available to service or make loan payments. A ratio analysis will assess your farm’s profitability, debt capacity and financial risk. Solvency ratios look at the amount of debt relative to net worth on a balance sheet. From the lender’s viewpoint, measures of solvency signal your ability to repay all loans if all assets are sold and your ability to continue if financial difficulties are encountered.

Debt-to-asset ratio (total debt to total assets) indicates that for every $1 of assets, you have X cents worth of debt. The higher your debt-to-asset ratio, the more vulnerable you are to interest rate fluctuations. If solvency is a problem, correcting it may result in the sale of assets and repayment of debt. These decisions should come after careful financial analysis with an ag professional who will provide you with unbiased advice.

There are many financing options available, so you and your son should consider these questions to help with your decisions: Should you choose long-term or short-term debt? Fixed or floating rates? What should be used as collateral for loans? Which loans should be paid off first? How much debt is too much?

Time to sell the cows?

My wife and I are in our early 60s. We milk 60 cows and farm 800 owned acres in southern Wisconsin. We’re wondering if now is a good time to sell our cows, or if we should wait another year or two for cow prices and milk prices to improve? We don’t have any children who want to take over the farm. Our plan is to sell the cows and then crop-farm for a few more years until we decide it’s time to retire, and then we will rent out our land. Please advise.

Kestell: I would like to congratulate you and your wife on a successful career and for your foresight to plan for the sale of your dairy cows. If NASA can plan and execute a mission to Mars, I think the planning on the end of your dairy career can also be done in a way to best benefit you. In my humble opinion, I do not believe that dairy prices for milk, dairy cows, and heifers will change much in the next few years. So, then the most important exit strategy becomes what is best for you. Are you enjoying your career? Crop prices for the near future will be higher than in the past and it will be harder to justify feeding expensive feed to dairy cows in the next couple of years.

The demand for dairy cows is dependent on several factors, most of them under your control. Buyers are looking for healthy, trouble-free cows and heifers that can return a profit for them quickly. Current production and breeding status are of utmost importance to the new owners. Physical condition is also a high priority. No one wants to buy problem cows. Older cows are great in one’s own herd but are not very marketable because of low adaptability to new management styles. 

I would make up a pro and con list, and list the reasons to keep milking a few more years and the reasons not too. List the ways selling now or later would affect your lifestyle positively or negatively. Talk to your tax adviser to see how this decision would affect your tax liabilities. If you decide to sell, give yourself the time to plan an exit that you and your wife will be satisfied with short- and long-term

Miller: Start with a visit to your tax adviser about the tax implications of selling your herd and dairy-related machinery or equipment. They can assist in managing the timing of any sales. Second, prepare a farm budget comparison of continuing in the dairy business versus converting to the cropping enterprise.  Analyze the financial costs and benefits and the non-financial factors such as time spent farming, ability to travel, satisfaction from dairy management (genetics, quality awards, etc.) and other factors. An ag Extension agent or farm technical college instructor can assist with the budgeting exercise. 

Next, have a conversation as spouses as to what goals you have and would like to accomplish. As for trying to time the cattle sale to maximize value, this is only achievable in hindsight — work on the financial plan and family goals and let that guide your decision, of course taking into account the tax implications. Good luck evaluating your next steps.

Wantoch: It sounds like you are focused on estate planning and asset preservation as compared to farm succession and asset transition. The steps/process are different for each approach, so be sure that you and your wife are on the same page before moving forward. The six basic steps to estate planning are: start the discussion; take stock of what you presently own; develop shared objectives; choose ag professionals to discuss your shared objectives; consider alternatives and implement the plan; finally, be sure to review and modify the plan as needed.

The first step — start the discussion — is often a hurdle that many farm families are not able to get over. Conversations may become heated, unpleasant and difficult, so it is easy to put them off and avoid this additional stress. I would encourage you and your wife to seek out information from ag professionals, Extension agents, financial advisers and other trusted reputable sources or attend workshops where education is provided. Even if you only glean a small amount from the meeting, the discussion may serve to initiate some action. Remember, late may be too late, so take time to start the process now.

Agrivision panel: Tom Kestell, Sheboygan County dairy farmer; Sam Miller, managing director, group head agricultural banking BMO Harris Bank; and Katie Wantoch, Dunn County Extension agricultural agent specializing in economic development. If you have questions that you would like the panel to answer, send them to: Wisconsin Agriculturist, P.O. Box 236, Brandon, WI 53919 or email them to [email protected].

Agrivision podcast series

UW-Madison Division of Extension has a new farm management podcast series based on the Wisconsin Agriculturist Agrivision column. Katie Wantoch, agriculture agent, hosts the episodes and chats with fellow Extension educators to answer questions from farmers and share their knowledge and expertise on how farmers can improve their farm management skills. Wantoch hopes farmers will find the podcast episodes informative and useful for their farm business.

View them at UW Extension.

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