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					Farm Management
     Chapter 18
Farm Business Analysis
                       Table 18-1
            Returns to Management per Farm
                by Level of Gross Sales


                       Returns to Management per Farm ($)
 Gross sales ($)        Low Third   Middle Third   High Third

 40,000 to 100,000       -$56,883     -$20,868       $ 829
 100,000 to 250,000      - 69,091     - 22,425      13,305
 Over 250,000            - 80,473     - 5,331       83,542




           Source: Iowa Farm Business Association


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                  Types of Analysis
1.    Profitability
2.    Farm Size
3.    Efficiency
4.    Financial
5.    Enterprise




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        Standards of Comparison

      Once a measure has been calculated,
      the problem becomes one of evaluating
      the result. Is the value good, bad, or
      average? Compared with what? Can
      it be improved?




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            Three Basic Standards
• Budgets: measures are compared against
  budgeted goals or objectives identified
  during planning
• Comparative farms: measures are
  compared against actual results from
  similar farms
• Historical trends: the manager looks for
  improvement over time
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                 Diagnosing a
             Farm Business Problem

         A complete whole-farm business
         analysis can be carried out using
         a systematic procedure to identify
         the source of the problem.




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                          Figure 18-1
                  Procedures for diagnosing
                   a farm business problem




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          Measures of Profitability
•   Net farm income
•   Return to labor and management
•   Return to management
•   Rate of return on farm assets
•   Rate of return on farm equity
•   Operating profit margin ratio


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                            Table 18-2
                    Measures of Farm Profitability

                                     Average of
                                     comparison
                  Item                 group      Our farm       Comments

  1. Net farm income                  $ 35,123    $ 10,203   Much lower
  2. Return to labor and mgmt         $ -1,477    $ -6,133   Lower
  3. Return to management             $-21,477    $-26,533   Lower
  4. Rate of return on farm assets      3.1%       2.9%      About the same
  5. Rate of return on farm equity      0.4%       -4.7%     Lower, probably due
                                                             to high leverage
  6. Operating profit margin ratio      9.2%       12.3%     Higher


Source: Illinois Farm Business Farm Management Association

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                      Figure 18-2
         How is the total revenue pie divided?




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                  General Comments
     Two cautions regarding returns to labor,
     management, assets and equity:

     1)The estimation of opportunity costs
     used in calculating returns is somewhat
     arbitrary.

     2) The returns are average returns to
     factors, not the marginal returns.
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                  Measures of Size
•   Quantity of sales
•   Total or gross revenue
•   Value of farm production
•   Total farm assets
•   Total acres farmed
•   Livestock numbers
•   Total labor used

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                               Table 18-3
                          Measures of Farm Size


                                Average of
                                comparison
               Item               group        Our farm     Comments

  1. Gross revenue               $288,504      $213,538     Lower
  2. Value of farm production    $216,055      $148,197     Much lower
  3. Total farm assets           $823,832      $738,631     Smaller
  4. Total acres farmed          414 acres    295 acres     Smaller
  5. Number of cows milked       89 cows       52 cows      Smaller
  6. Total labor                1.8 persons   1.0 persons   Smaller




Source: Illinois Farm Business Farm Management Association
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        Value of Farm Production
       •   Total (gross) revenue
       •   minus livestock purchases
       •   minus feed purchases
       •   equals value of farm production

   Value of farm production is a convenient
   way to compare the size of different
   types of farms.
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                  Efficiency Measures

                           production
         Efficiency =
                          resources used




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                  Economic Efficiency
• Asset turnover ratio:
   gross revenue÷market value of total farm assets
• Operating expense ratio:
   total operating expenses÷gross revenue
• Depreciation expense ratio:
   total depreciation expense÷gross revenue
• Interest expense ratio:
   total farm interest expense÷gross revenue

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Economic Efficiency (continued)
• Net farm income from operations ratio:
    net farm income÷gross revenue
•   Livestock production per $100 feed fed
•   Feed cost per 100 pounds of gain
•   Crop value per acre
•   Gross revenue per person
•   Machinery cost per crop acre

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                       Table 18-4
             Measures of Economic Efficiency
                                            Average of
                                            comparison
                        Item                  group      Our farm   Comments

         Capital Efficiency
         1. Asset turnover ratio               .30         .20      Lower
         2. Operating expense ratio            .62         .59      About the same
         3. Depreciation ratio                 .13         .15      Slightly higher
         4. Interest expense ratio             .10         .19      Much higher
         5. Net farm income from               .15         .07      Lower
            operations ratio

         Livestock Efficiency
         6. Production per $100 of feed        $183       $141      Much lower
         7. Feed cost per 100 lb milk         $7.39       $9.33     Higher

         Land Efficiency
         8. Crop value per acre                $294       $324      Higher

         Labor Efficiency
         9. Gross revenue per person         $120,030    $117,616   About the same

         Machinery Efficiency
         10. Machinery cost per crop acre      $68         $55      Lower

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                  Physical Efficiency
      Poor economic efficiency can result
      from poor physical efficiency. Physical
      efficiency measures bushels harvested
      per acre, pigs weaned per sow, and
      pounds of milk sold per cow.




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                         Table 18-5
                Measures of physical efficiency



                                      Average of
                                      comparison
            Item                        group      Our farm    Comments

1. Corn yield per acre                  135 bu      156 bu     Higher
2. Milk production per cow per year    18,191 lb   18,660 lb   About the same




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                  Financial Measures
• Solvency: debt/asset ratio, change in
  equity
• Liquidity: current ratio, working capital
• Measures of repayment capacity: term
  debt and capital lease coverage ratio,
  capital replacement and term debt
  repayment margin


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                    Term Debt and
            Capital Lease Coverage Ratio

    This ratio is computed by dividing the
    cash available for term debt payments
    for the last year by the total term debt
    payments due next year. The ratio should
    be greater than 1.

    “Term debt” refers to liabilities with
    scheduled, amortized payments.
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             Capital Replacement and
           Term Debt Repayment Margin

    This measure is calculated by taking
    the difference between cash available
    and total term debt payments due.




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                  Cash Available
• net farm income from operations
• plus total nonfarm income
• plus depreciation expense
• plus interest paid on term debt and capital
  leases
• minus withdrawals for family living and
  personal income taxes

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                        Table 18-6
             Measuring the Financial Condition
                     of the Business

                                  Average of
                                  comparison
                Item                group      Our farm   Comments

 1. Net Worth                      $601,688    $299,853   About half
 2. Debt/asset ratio                 .28         .59      Much higher
 3. Current ratio                    1.46        1.54     Slightly higher
 4. Working capital                $157,311    $21,722    Much lower
 5. Term debt and captial lease
    coverage ratio                   1.54        1.16     Much lower




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                  Enterprise Analysis
•   Crop enterprise analysis
•   Livestock enterprise analysis
•   Internal transactions
•   Verifying inventories




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                 Table 18-7
Example of an Enterprise Analysis for Peanuts
                                                      Percent to
                                         Farm total    peanuts     Peanuts total    Per acre
         Peanut production (125 acres)                                387,650 lb.      3,101 lb.
         Income:
           Sales of peanuts                $119,643       100%       $119,643         $957.14
           USDA payments                     $2,500       100%         2,500           20.00
         Total income                                                $122,143         $977.14
         Variable costs:
          Seed                               $9,782       100%          $9,782         $78.26
          Fertilizer                          2,418       100%          2,418          19.34
          Lime                                4,800        40%          1,920          15.36
          Pesticides                         23,654       100%         23,654         189.23
          Fuel, lubrication                   9,680        35%          3,388          27.10
          Machinery repairs                  13,264        35%          4,642          37.14
          Hauling and drying                  8,170       100%          8,170          65.36
          Insurance, miscellaneous            7,806        35%          2,732          21.86
          Labor                              20,000        35%          7,000          56.00
          Interest on variable costs          5,471        35%          1,915          15.32
         Fixed costs:
          Machinery ownership               $49,100        35%        $17,185         $137.48
          Land rent                          15,000        40%         6,000           48.00
          Farm overhead                     11,560         35%         4,046           32.37
         Total costs                                                  $92,852         $742.82
         Profit                                                       $29,291         $234.32
         Average income per pound                                                       $0.32
         Average cost per pound                                                         $0.24
         Average profit per pound                                                       $0.08

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                          Table 18-8
                  Income Statement Example
                  with Enterprise Accounting
                                                      Whole farm    Crops      Cattle    Machinery   Overhead

                  Income
                  Cash crop sales                      $42,644     $42,644
                  Cash livestock sales                 72,271                 72,271
                  Government payments                    2,100      2,100
                  Miscellaneous income                   3,369                                        3,369
                  Home consumption                        427                  427
                  Livestock inventory change            (2,870)               (2,870)
                  Crop inventory change                13,835      13,835
                    Total revenue                      131,776     58,579     69,828        0         3,369
                  Expenses
                  Crop inputs                          16,971      16,971
                  Machine hire                          4,693                             4,693
                  Fuel, lubrication                     4,356                             4,356
                  Machinery repairs                     3,780                             3,780
                  Building repairs                      3,224       1,156      2,068
                  Purchased feed                        6,031                  6,031
                  Insurance, property taxes             3,462                                         3,462
                  Utilities                             2,056       456        1,600
                  Interest paid                        19,433      15,000      3,000                  1,433
                  Livestock health, supplies            1,228                  1,228
                  Miscellaneous                         4,021                                         4,021
                  Depreciation                         19,058       1,688      3,351      12,944      1,075
                    Total Expenses                     $88,313     $35,271    $17,278    $25,773     $9,991
                    Net farm income                    $43,463     $23,308    $52,550    ($25,773)   ($6,622)
                  Internal transactions
                  Raised crops fed                        0         39,500    (39,500)
                  Manure credit                           0         (4,500)     4,500
                  Machine work (allocated by hours)       0        (23,773)    (2,000)    25,773
                  Allocation of net overhead
                  (proportional to gross revenue)         0        (2,357)    (4,265)                 6,622

farm management     Net farm income by enterprise      $43,463     $32,178    $11,285       $0         $0       28
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                          Table 18-9
                  Verifying Crop Inventories
      Sources            Quantity Value per cwt.   Value ($)
      Beginning            (cwt.)
                           3,100          $2.85      $8,835
      inventory
      Purchased             None
      Produced            11,200                    $34,813 *
      Total               14,300                    $43,648
      Uses               Quantity Value per cwt.   Value ($)
      Ending inventory     (cwt.)
                           5,300          $3.10     $16,430
      Sold                 1,470          $3.25      $4,778
      Used for seed         none
      Used for feed        7,480          $3.00     $22,440
      Spoilage, other         50          $0.00
      losses
      Total               14,300                    $43,648


   *Equal to total value of crop increase ($43,648 - $8,835)
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                       Table 18-10
         Verifying Livestock Inventories (cattle)
           Sources               Head Weight (cwt.)    Value per cwt.   Value ($)
           Beginning inventory    315         1,890              $80    $151,200
           Purchased              265        1,908               $75    $143,100
           Produced               175        2,843 *                    $194,398 **
           Reclassified in          0             0                             0
           Total                  755        6,641                      $488,698
           Uses                  Head       Weight     Value per cwt.   Value ($)
           Ending inventory       296        1,702               $84    $142,968
           Sold                   415        4,648               $70    $325,360
           Death loss              11           xxx                           xxx
           Reclassified out        30          255               $70     $17,850
           Home used                3           36               $70      $2,520
           Total                  755        6,641                      $488,698


*Equal to total hundredweight of gain produced (6,641 – 1,890 – 1,908)
**Equal to total value of livestock increase ($488,698 - $151,200 - $143,100)

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  chapter 18
    Farm Business Analysis and Accounting

  Most farm accounting programs calculate
  many of the measures and ratios used
  for farm business analysis. Most also
  have the ability to perform basic enterprise
  analysis.




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                  Summary
      A whole-farm business analysis is
      like a complete medical examination.
      It should be conducted periodically
      to check for symptoms that indicate
      the business is not functioning as it
      should.



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