2011 was a good year for farm profit. Total net farm income in 2011 was over $100 billion dollars, up 31% from 2010. So what are you going to do with all of that money?
We have been asking that question of farmers who have attended our Ag Summit meetings in December and January. The question was posed as multiple choice and here are the answers:
Paying down debt 48%
Prepaying inputs 23%
Buying land 20%
Buying equipment 5%
Paying taxes 3%
Going to Vegas 1%
This was a bit of a trick question, because there was no choice about simply building working capital. The closest selection that falls in line with that suggestion would be "paying taxes", because that's what you have to do first. That didn't appear to be a very popular answer.
Building working capital is an important area of focus for us when we work with our clients. Strong working capital gives you opportunities for the future and some freedom from bankers. It's increasingly more important as the markets become more volatile. I look at it this way… when corn prices were lower, input prices were lower as were land prices. Your risk of having enough money to operate was lower. Corn prices are higher and your needs for capital are higher.
Among consumers, investment advisors will tell us to have a certain amount of cash on hand in case we would get laid off or unable to work for some reason. They typically suggest three to nine months of living expenses. People who are laid off, laid up, or cash poor are in big financial trouble. Equate that to farming. Let's say you took all of your profits from this year and paid down debt and left your cushion of cash very small.
It feels good because the debt is smaller. But you still have to feed your family and put another crop in the ground next season. Now what if something happens? What if you make a financial misstep or the machine shed burns down?
Having that cash cushion is a great strategy. We highly recommend that you have 40% working capital (cash cushion) to gross revenue, knowing that a nice cushion will help us bounce back.
Let's revert back to the original question. Is your working capital on track? If you've jumped the track now is the time to get moving in the right direction.
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