Proper financial statements pay off
By Denise Bedell
It might seem daunting to prepare and update financial statements on a regular basis, but there are tools available so the process isn’t such a burden.
Often, most of the data gathering is already done in dealing with lenders and preparing taxes. Bob Craven, director of the Center for Farm Financial Management at the University of Minnesota, notes that now, more than ever, farming must be viewed not just as a way of life but also as a business. "There is too much money involved and the risks are too high to treat it any other way," he says.
Although commodity prices are high, eventually they will come down. Producers can use their financial statements to determine the risk associated with a decline in profitability and decide how to spend money today to reduce that risk in the longer term.
"There is a predictive quality to financial statement information," says William Alan Miller, a farm business management specialist at Purdue University. "It provides a pretty good indicator of what will happen unless you make changes."
Financial analysis is an important tool when planning capital expenditures and making operational decisions. It can help you see what you need to change in your business to be as competitive as possible.
"Our opportunities are guided by how we perform financially," Miller says. "If we are not where we want to be, how do we get there?"
The following are tips to better use your financial statements.
Use Balance Sheet for Snapshot
Think of your balance sheet as a snapshot of assets, liabilities and the net worth of your business at a specific point in time. It can be used to monitor working capital, structure and change in net worth from year to year. As a rule, producers should aim to prepare their balance sheet on the last day of the fiscal year, every year. It should include current, intermediate and long-term assets and liabilities so it gives an accurate picture of the net worth of your business.
Analyze Costs per Unit
You can use your income statement to calculate costs per unit of production and per enterprise. "You have some opportunities now to contract a portion of your 2012 crop to at least cover costs," says Hal Pepper of the Center for Profitable Agriculture at the University of Tennessee. "But the only way to know what those costs are is to do a careful allocation of your costs by enterprise, and in order to do that you need an income statement."
Same Day Each Year
In order to make accurate comparisons year-to-year and produce the financial ratios recommended by the Farm Financial Standards Council (available at www.TopProducer-Online.com/farm_ratios
), it is essential to regularly produce financial statements—whether that’s once a year or several times throughout the year—and on the same day or days each year, or as close as possible. The better the data, the easier and more accurate the comparison with previous statements will be and the more useful the information will be for planning.
Time for Reflection
The goal of any farm operation is to have the business be an engine of prosperity. Simply preparing your financial statements each year and taking a look at how things have progressed since the last time they were prepared can be valuable in determining whether that goal is being reached. In a time of higher commodity prices, producers need to be making substantial financial progress.
"This year stacks up to be a good profit year," says William Alan Miller, a farm business management specialist at Purdue University. "If we are not making hay while the sun shines, we need to rethink what we are doing."
Good financial statements are essential to formulating that evaluation and to make the profitable years see you through the bad ones.
You can use your income statement to help you summarize operational results for a specific time period—for example, the fiscal year. Your statement should include income and expenses during that period and indicate the net farm income for the same time frame.
Often, just the total amount in one of these columns can be quite useful in generating other measurements of farm efficiency, says Hal Pepper, a financial analysis specialist for the Center for Profitable Agriculture at the University of Tennessee.
"What are your expenses? What is your gross value of production? Those numbers can come from your income statement," Pepper notes. "We can look at the dollar value of what is being produced on the farm and divide it by the quantity of labor hours used in order to develop a measure of overall efficiency."
Efficiency can also be evaluated per laborer, per manager, per crop or in many other ways to determine the areas where the production process can be improved.
Another document, your cash flow statement, provides a summary of the uses and sources of cash during a specific period of time—for example, quarterly or yearly. The cash flow information that is already available can be used to ensure that liquidity needs are met and also for budgeting and forecasting purposes, Pepper says.