Controlling Cash Burn
by Steve Allard, Chief Credit Officer
Given crop prices and production costs projected by the USDA for 2016, it appears many corn, soybean and wheat farmers will be operating at a cash flow deficit, or what is called cash burn. Because we’re coming off several prosperous years, cash burn rates haven’t been top of mind in quite some time. However, understanding cash burn or cash build rate is important, it indicates if you’ll enter the coming year in a position of strength or a position of challenge.
In our work with customers, we’ve identified areas where they can minimize the impact of cash burn. By understanding fixed costs, outlining an approach to liquidity, and utilizing financial tools to better manage risk, you can put yourself in a position to reduce the impact of low grain prices in the coming year.
Control fixed costs
Fixed costs can include land, buildings, equipment, employees, family living expenses and taxes. These costs must be paid whether you put in a crop or not. After looking at thousands of customers’ financial data here at Farm Credit Mid-America, we see a lot of variance in farmers’ fixed costs. And it is a determining factor in whether the farming operation is in a cash burn or cash build mode. In fact, fixed costs are typically the one variable that separates high-cost and low-cost producers. Recent actions taken by customers to manage fixed costs include:
- Terminating leases on marginal-producing rental acres
- Renegotiating rental rates with landlords
- Critically analyzing any opportunities to buy additional land
- Forgoing equipment purchases that can be delayed
- Selling underutilized or non-critical assets
In recent profitable years, many farmers paid cash for capital assets including equipment and real estate. Or they made very large down payments and/or financed the balance on shorter than normal loan repayment terms. Those decisions appeared wise at the time but may now place additional strains on cash flow and liquidity.
Loan refinancing can have a direct, immediate and positive impact on your cash burn/cash build rate. Although a five to ten year loan may have looked like a good way to finance a real estate purchase when grain prices were much higher, now those large loan payments in a low grain price environment can create a real challenge for cash flow.
We’re encouraging farmers to talk with us to make sure their loan structure and terms are right for today’s environment and their situation. Stretching loan terms out from five or ten years to a more typical 20-year amortization reduces the annual cash flow requirement to service the debt.
Line up financing now
One crucial tool for providing liquidity is an operating line of credit. We’ve seen less demand for operating lines in recent years due to historically high net farm incomes reducing farmers’ need for a line of credit. But that has also changed. And as soon as harvest wraps up, it’s important to begin thinking about securing an operating line of credit for 2016. The earlier those discussions start with your lender the better, as the additional time will help you and your lender better understand your needs in 2016 and beyond.
Farm Credit is committed to being a reliable source of credit for customers in any economy. We advise you to always make borrowing and buying decisions based not only on opportunities but also business need.
Read more on trends affecting ag finance.