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Caution sign with words Higher Interest Rates JimVallee/ThinkstockPhotos

The cost of borrowed money is becoming an issue

Interest rate on an operating loan is creeping towards 5%, and that’s tightening working capital.

New Year’s resolutions come and go, but one certainty about this time of year is the year-end financial statement. Even though life is busy, I always make time to complete accurate financial statements.

Years ago, my parents used to complete one at operating note renewal time. Now we have several years of detailed year-end records in which we can benchmark results, see what went well, and see any financial holes in the business.

The balance sheet tells a different story each year. If I read in between the lines, I can see years of good crop prices and lower short term payables, or problems like low hay production or cattle death losses. Other than the usual stories, this year I see a silent killer that affects the balance sheet as a whole: interest costs.

How things have changed

Looking back to 2013 when I started farming, I could have made lots of mistakes and still turned a profit. I marketed grain any time of the year, spent extra on unnecessary inputs, and still had the opportunity to prepay inputs for the following year. It didn’t matter if I spent extra dollars, because it cost practically zero to borrow those dollars.

Interest cost was a non-issue when I started farming. Now interest rates on operating money is creeping towards 5%, and that’s tightening working capital. Why does this matter? As a younger farmer, I don’t know how high interest can go, and I also don’t know how to manage it.

The obviously solution is to not borrow money. Some farmers operate this way, and I see the benefits as interest goes up. My dad expanded through the years using operating notes, and always had confidence in what he calls “manageable debt.”  He says manageable debt can be a tool to use other peoples’ money to make money.

How does a young farmer manage higher interest costs? As partners with my parents, I own half of our operating entity but also incur half of the debt. I’ve had a goal of paying off equipment. We traded for several pieces of equipment five years ago and this year made the final payments. New equipment loans are three percentage points higher than that time, and we’ve resolved to not buy anything new unless necessary.

It’s easier said than done, but my other goal is to simply use less money to do business. This means negotiating better prices and changing vendors. The less money we need to operate, the less interest we will pay. It’s a simple concept, but probably the best way to manage higher interest rates – for now, anyway.

The opinions of the author are not necessarily those of Farm Futures or Farm Progress.

TAGS: Farm Life
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