Higher revenues and higher costs mean farmers must have more working capital, says farm business consultant Allen Lash. In years past, the owner of AgriSolutions recommended his clients maintain $100/acre working capital and most lenders would require $70/acre. With higher commodity prices, at the minimum both numbers have doubled, and he would feel more comfortable if the number were nearly tripled.
Most lenders would like 15% of revenue potential, he says. With corn at $2.50/bu. bankers would typically require around $70/acre working capital with an average of 180 bu./acre for corn. Now with prices more than $5.00/bu., working capital requirements also are rising.
"With 180 bushel corn times $5.00/bu. you have $900 potential, and 15% of that means you have moved working capital from $70 up to $135. You may have walked along your entire life and the lender not saying anything to you with 1,500 acres and $100,000 working capital. Your lender was always happy. Well, now they're not happy with that.
"Now they want $200,000 working capital. To the farmer nothing changed but it did because you're generating more gross revenue, costs are higher and the lender wants the same protection.”
Cushion a crash. Lash uses the pork market crash of 1998, when live hog prices dipped to $8/cwt., as an example of why working capital is so important. The recent political debate about food prices could be a reason for concern. "There is a possibility crop operations could experience a similar situation. Pork producers who went through 1998 almost couldn't have enough working capital. I don't mean to imply that I think it will be immediate, I just can't imagine the government is going to let us go too far on corn prices. What will the implications be and how bad will it be?”
He says farmers need to take advantage of the prices they are receiving today for their commodities and this a perfect time to increase working capital to maintain a cushion if prices do crash. He does not suggest making capital improvements until working capital is in the $175-$200/acre range.
If producers want to make capital improvements, he says they must be in a position to pay cash or at least ensure they can make payments from margins in the future.
"If they buy it and don't pay cash for 100% of it, the amount of debt that comes due in subsequent years can erode working capital if they can't pay the debt down out of profit. Don't buy fixed assets until you set aside your money for taxes first and working capital next, no matter what the temptation.”