Inside the Banker’s Mind
Mar 05, 2012
Efficient management is key to surviving the dairy business.
By Rabobank N.A.
Amid fluctuating inputs costs and the roller coaster ride that milk prices have ridden in the last few years, there’s no telling what a dairy’s financial portfolio might look like from one year to the next.
In a post-2009-dairy-crisis world, some banks -- at least the ones still lending to the dairy business -- are beginning to look at the big picture of overall business management as an indicator of whether the operation is a survivor for the long haul. The picture is different for each operation seeking financing, but before a dairyman makes the phone call to his beloved banker, he/she should take steps to prepare for a smooth review process.
CPA-Prepared, Accrual-Basis Financial Statements
Yes, certified public accountants don’t normally come cheap, but paying their fees and taking their advice could mean the difference between keeping the lights on or off at the milking parlor. Accrual-basis financial statements prepared by a CPA provide banks with the best snapshot of profit and loss for a given fiscal year. Because tax returns can include deferred income and prepaid expenses, banks are interested in seeing the actual numbers of how the business performed each fiscal year.
Using Financial Statements as a Business Tool
Often dairy operations rush to get their financial statements together for the proverbial trip to the bank or a visit from their banker. However, if dairymen are taking the effort and time for the statements to be prepared, they should use them as an ongoing tool to manage their business. At a minimum, operations should review their financials on a semi-annual basis to make sure they’re on track and see where adjustments need to be made. Bankers want to know that dairymen are in tune with these statements and understand how the business is performing at any given time. Simply stating that the feed bill is higher than the milk check or vice versa just isn’t enough.
Monthly Borrowing Base Reports
Input costs such as feed and fuel can change dramatically within a month’s time, and that’s where dairies get in trouble. Dairymen need to know their feed costs, even going so far as to split out grain versus roughage. By running a once-a-month borrowing base report, commonly known as an inventory report, dairymen can get a better handle on feed and herd costs and compare them against their debt. Again, such reporting isn’t only for a lender to review—a monthly inventory snapshot allows a producer to make adjustments quickly, instead of finding him or herself in trouble at a quarterly, semi-annual or annual check-in point.
Understand Your Breakeven Costs
Calculating a dairy’s breakeven costs is relatively simple, but how a dairyman uses that information is what matters. To determine breakeven, producers need to determine their cost of production, debt cost (including the new debt they want to take on) and cost of living (be practical here, especially with the cost of dependents). From those costs, understand that a banker wants to know a worst-case scenario—e.g., if milk prices drop, how long can a producer keep up with those costs. If a producer can only stay afloat for six months, he or she is at higher risk than someone who’s hedged to be able to last three years.
With turbulent feed costs, bankers want to know that an operation can sustain itself in a scenario when the gap widens between feed costs and milk prices. Producers who grow their own feed and find other ways to vertically integrate themselves generally find themselves in better favor with bankers. By identifying vertical integration points, such as raising their own calves and trucking their own milk (as just two examples), dairymen can again reduce the costs of production and have more margin to service their debts.
Today’s banker wants to be with a customer for the long term but needs reassurance that an operation has a plan for generational shifts. Whether from voluntary retirement or the sudden passing of a family member, producers need to have a plan on paper to make sure that potential problems, such as estate taxes and family antics, won’t affect the dairy’s ability to service its debt obligations.
Rabobank, N.A. is a California community bank and a leading provider of agricultural financing and full-service banking products to California consumers, businesses and the agriculture industry. To learn more visit: www.rabobankamerica.com