4/17/2015
Overview
Farm Financial Analysis
Iowa State University Dairy Herd
Evaluation Class
Kristen Schulte, Farm and Ag
Business Management Specialist,
ISU Extension and Outreach
kschulte@iastate.edu
Vocabulary
• Vocabulary Section #1 and #2 – General
Terms
• Do your best to match the terms and
definitions!
• Statement Review
• Financial Ratios
• Key Ratios and Benchmarks
– Overview
– Examples
• Whole Picture
Vocabulary Debrief
• What terms did you mismatch
• What terms were easy
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4/17/2015
Cy Dairy
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Dave and Mary Miller
Farm/Pasture 240 acres
Milk 160 cows
19,000+ RHA
Financial Statements
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Balance Sheet
Income Statement
Statement of Owners Equity
Cash Flow Statement
Statement of Cash Flows OR Cash Flow
Budget
• Cy Dairy Financial Statements (excel)
Consolidated Statements
• Farm, Personal, Consolidated
• Things to watch for
– Defining personal and business assets and
liabilities
– Contributions to farm from non-farm
– Non-farm income
– Withdrawals/family living
– Credit cards (number and debt)
– Savings and investments
Source: Consolidated Financial Statements, Oklahoma State
University
Balance Sheet
• Also called the Net Worth Statement
• Consists of
– Assets = Liabilities + Owner Equity
– Owner Equity = Assets - Liabilities
• Snapshot
• Must be timed consistently
• Cost and market values
• Deferred tax liabilities
• Equity changes from profit and inflation
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4/17/2015
Balance Sheet
• Current/Intermediate/Long Term
• Current/Non-Current or Fixed
• Asset Valuation
Balance Sheet - Assets
• Items that are owned and have value.
• Divided into two or three categories
– Current Assets – assets that will likely be
converted to cash within a year.
– Intermediate Assets – assets with a longer life
than one year but less than 10 years
– Long Term Assets – assets with a long useful life,
typically longer than 10 years
– Non-Current Assets – assets with a longer life
than one year
– Market - current market value
– Cost – remaining value of investment (net
book value)
Source: Your Net Worth Statement, AgDM File C3-20
Source: Your Net Worth Statement, AgDM File C3-20
Balance Sheet – Net Worth
Balance Sheet - Liabilities
• Liabilities are financial obligations of the business
• Can be divided into current, intermediate and longterm liabilities (some group intermediate and longterm together)
– Current – accounts, taxes, principal payments, and
interest due within the current year (next 12 months)
– Intermediate – length of loan is typically 1-10 years
– Long-term – length of loan is greater than 10 years
– Non-Current Liabilities – liabilities with a longer life
than one year
Source: Your Net Worth Statement, AgDM File C3-20
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= Total Assets – Total Liabilities
Current value of investment in operation
Cost vs. Market
Farm vs. Personal
Source: Your Net Worth Statement, AgDM File C3-20
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4/17/2015
Balance Sheet Considerations
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Financial Statements Defined
• Income Statement
Balance Sheet timing
Inventory (count) assets
Accounts receivable
Breeding livestock
Leased machinery
Matching asset and liabilities
Land values
– Tracks income and expenses
– measures Net Income
– Period of time
– Used to evaluate profitability of business
– Accountant or financial analysis
– Schedule F
Source: Farm Financial Statements, AgDM file c3-56
Chris Bruynis, OSU Extension
Income Statement
Income Statement - Revenue
• A necessary financial form to clearly
measure profit or net income
Farm Revenue (income)
- Farm Expenses (costs)
= Net Farm Income from Operations
+ Non-farm Income
= Total Net Farm Income (before taxes)
- Taxes Paid and Accrued
= Net Income
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4/17/2015
Income Statement - Expense
Depreciation
• Tax Depreciation (tax preparers)
• Market-Based (lenders)
• Book Depreciation (producers)
• What should you use?
The Income Statement
Adjustments to Farm Income
• Cash versus accrual basis accounting
• Not all income is accounted for by cash sales
– Accrual adjusted income statement combines the cash
basis farm records with the inventory changes from the
balance sheet
• Problems with cash accounting
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Selling down inventory
Living off depreciation
Selling capital assets
Increasing accounts payable
Refinancing operating losses
– Changes in current inventories
– Changes in valuation of current inventories
– Accounts receivable
• Changes in market valuation of land, building,
machinery and equipment are not included in the
income statement unless they are actually sold.
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4/17/2015
Cash vs. Accrual
Adjustments to Farm Expenses
• Items paid in the current year that will be used
in the subsequent year.
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Feed and supply inventories
Prepaid expenses
Investments in growing crops
Accrued interest
Taxes due
Accounts payable
Depreciation (can use tax figure or more realistic
number if using rapid depreciation practices for tax
management)
Source: Cash versus Accrual Accounting, Texas A&M
Extension
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Financial Statement
Relationships
Uses of family farm income,
consumption, or equity investment
• Family Living
• Retirement
• Health Insurance
Balance Sheet Activity
• Activity – Cy Dairy 2015 Balance Sheet
• Complete Ending Balance Sheet
– Enter missing asset and liability entries in
Ending Schedules Tab
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4/17/2015
Financial Measures
Financial Performance
Measures for Iowa Farms
(AgDM file C3-55)
Legal 21 Financial Measures
-> 7 key ratios!
Liquidity
• Current Ratio
• Working Capital
• Working Capital: Revenue*
Solvency
• Debt: Asset*
• Equity/Asset
• Debt/Equity
Profitability
• Rate of Return on Assets*
• Rate of Return on Farm Equity
• Operating Profit Margin
• Net Farm Income
• EBITDA
Financial Efficiency
• Asset Turnover Ratio
• Operating Expense Ratio*
• Depreciation Expense Ratio
• Interest Expense Ratio
• Net Farm Income from
Operations Ratio
Repayment Capacity
• Capital Debt Replacement
Capacity
• Capital Debt Repayment
Margin
• Replacement Margin
• Term Debt & Lease Coverage
Ratio*
• Capital Replacement and Term
Debt Repayment Margin
What do all the numbers mean?
Financial Analysis
• Use statement calculations to analyze financial
position of operation.
• 7 areas of credit analysis in Agriculture:
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Liquidity
Solvency
Profitability
Repayment Capacity
Financial Efficiency
Sensitivity
Collateral Position
Liquidity
• Ability to generate sufficient cash flow to meet short run
obligations without interrupting normal farm operations
• Impacted by inventory carrying type, time of year, or
operating cycle (need to measure over periods within
year)
• Ratios:
– Current Ratio
• Ability of firm to pay current debts with current assets
– Working Capital
• Financial flexibility of firm to operate
– Working Capital: Total Revenue
• Amount of working capital contributed from total revenue
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4/17/2015
Current Ratio
Current Ratio
• Measures ability of operation to pay off all current
liabilities if current assets were liquidated
• Calculation:
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠
= 𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
• Benchmark
• Example
Vulnerable
1.1
1.7
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Impact lending requirements
Trend over time
Liquidation
Efficiency
Investment
Valuation of assets
Strong
Working Capital
Working Capital: Revenue
 Measures operating capital available in short term
against size of business
• Calculation:
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=
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐴𝑠𝑠𝑒𝑡𝑠 −𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
𝐺𝑟𝑜𝑠𝑠 𝑅𝑒𝑣𝑒𝑛𝑢𝑒
• Benchmark
Vulnerable
10%
25%
Strong
• Trend analysis
• Impact of
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Capital purchases
Prepaid
Borrowing funds
Paying off debt
Profitability
• Example
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4/17/2015
Working Capital
• Impact lending requirements
• Borrower wants versus lender needs
• Ways to look at WC
– Number
– Dollars per acre/head
– Percentage of Gross Revenue
– Percentage of input costs
Source: Financial Performance Measures for Iowa Farms,
AgDM File C3-55; Iowa Farm Business Association
Solvency
• Measures financial leverage in business
• Ability to pay off all debts if operation were
liquidated
• Uses balance sheet only
• Ratios
– Debt – to – Asset
– Equity/Asset
– Debt/Equity (leverage ratio)
• Debt/Asset + Equity/Asset = 100%
Debt:Asset
• Measures financial risk and borrowing capacity
• Measures bank’s share of the business
• Calculation:
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=
𝑇𝑜𝑡𝑎𝑙 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠
• Benchmark
Vulnerable
60%
30%
Strong
• Example
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4/17/2015
Profitability
• Profit is needed to meet financial obligations, service
debt, fund family living, and build equity and growth
• Uses Net Farm Income from Operations – includes
accrual adjustments, depreciation, and interest
• Ratios:
– Return on Assets (ROA)/Rate of Return on Assets (rROA)
Rate of Return on Assets
• Rate earned on all investments in the farm
• Calculation:
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𝑁𝑒𝑡 𝐹𝑎𝑟𝑚 𝐼𝑛𝑐𝑜𝑚𝑒+𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 −𝑙𝑎𝑏𝑜𝑟 & 𝑚𝑎𝑛𝑎𝑔𝑒𝑚𝑒𝑛𝑡
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐹𝑎𝑟𝑚 𝐴𝑠𝑠𝑒𝑡𝑠
• Benchmark
• Measures profitability and labor efficiency; interest rate on all
money invested in farm operation
Vulnerable
Strong
– Rate of Return on Equity (ROE)
4%
8%
• Measures profitability using equity and borrowed capital; rate of
return earned on equity in farm operation
– Operating Profit Margin
• Measures amount of operation efficiency relative to output
Repayment Capacity
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Identify debt repayment problems
Earnings ratios and measures
Use with statement of cash flows
Ratios:
– Term Debt and Lease Coverage Ratio
• Assess ability to repay loans and repayment risk the lender
undergoes to extend credit
• Example
Term Debt & Lease Coverage
• Measures ability of operation to pay all intermediate
and long-term debt payments
• Calculation:
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=
𝑁𝑒𝑡 𝐹𝑎𝑟𝑚 𝐼𝑛𝑐𝑜𝑚𝑒 𝑓𝑟𝑜𝑚 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑜𝑛𝑠+𝑑𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛
+𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡+𝑎𝑐𝑐𝑟𝑢𝑒𝑑 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡+𝑁𝑒𝑡 𝑛𝑜𝑛−𝑓𝑎𝑟𝑚 𝐼𝑛𝑐𝑜𝑚𝑒
−𝑓𝑎𝑚𝑖𝑙𝑦 𝑙𝑖𝑣𝑖𝑛𝑔−𝑖𝑛𝑐𝑜𝑚𝑒 𝑡𝑎𝑥𝑒𝑠
𝑆𝑐ℎ𝑒𝑑𝑢𝑙𝑒 𝑃𝑟𝑖𝑛𝑐𝑖𝑝𝑎𝑙 & 𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑜𝑛 𝑇𝑒𝑟𝑚 𝐿𝑜𝑎𝑛𝑠
• Benchmark
Vulnerable
1.20
1.50
Strong
– Capital Replacement and Term Debt
• Amount available after all current principal and interest is
paid
• Example
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4/17/2015
Financial Efficiency
• Measures efficiency of expenditures and assets to revenue
• Ratios:
– Asset Turnover Ratio
• Capital and management performance; number of years business
earnings = asset value; number of years to recover asset value
– Operating Expense Ratio
• Measures efficiency of operations part of operation (excludes debt)
– Depreciation Expense Ratio
• Determines level of depreciation in business
– Interest Expense Ratio
Operating Expense Ratio
• Displays portion of farm income used to pay operating
expenses
• Calculation:
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=
𝑇𝑜𝑡𝑎𝑙 𝐹𝑎𝑟𝑚 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑛𝑔 𝐸𝑥𝑝𝑒𝑛𝑠𝑒𝑠 𝑙𝑒𝑠𝑠 𝑖𝑛𝑡𝑒𝑟𝑒𝑠𝑡 −𝑑𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛
𝐺𝑟𝑜𝑠𝑠 𝐹𝑎𝑟𝑚 𝐼𝑛𝑐𝑜𝑚𝑒
• Benchmark
Vulnerable
80%
60%
Strong
• Measures interest obligation to revenue
– Net Farm Income from Operations Ratio
• Measures ability to retain earnings in operation
*Operating Expense + Depreciation Expense + Interest Expense +
Net Farm Income from Operations Ratios = 100%
Net Farm Income Ratio
 Measures profit against farm income
 Measures amount left over after all expenses for
labor, management, and investment (retained
earnings)
 Calculation:

=
𝑁𝑒𝑡 𝐹𝑎𝑟𝑚 𝐼𝑛𝑐𝑜𝑚𝑒 𝑓𝑟𝑜𝑚 𝑂𝑝𝑒𝑟𝑎𝑡𝑖𝑜𝑛𝑠
𝐺𝑟𝑜𝑠𝑠 𝐹𝑎𝑟𝑚 𝐼𝑛𝑐𝑜𝑚𝑒
 Benchmark
Vulnerable
 Example
10%
20%
Strong
• Example
Financial Statement Trends
• One year generally does not tell the whole
story!
• Financial analysis should be compared or
benchmarked to
– Similar businesses/farms
– Industry standards
– Past analysis for financial performance trends
Chris Bruynis, OSU Extension
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4/17/2015
Benchmarking
• How are we doing?
– Are we owning more of the business each year
– Is our capacity to repay debt getting better
– Are our competitors doing better or worse than
we are?
– Can we afford to expand the business?
• Comparison
– Industry/Farm Association
– Your Farm Trends
Benchmarking
• What to use?
• Pick a limited number of benchmarks
– Help measure your success toward goals
– Measure efficiency of operation
– Measure financial position
Benchmarking
• Financial Statement Related
– Legal 21 Ratios
• Other
– Production
– Cost of Production
– Machinery cost per acre
– Investment per acre
• Other non-financial statement measures?
Financial Benchmarks
Iowa Farm Costs and
Returns
(AgDM File C1-10)
• Track same measures over time
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4/17/2015
Additional Financials
• Debt per Cow
$3,500-5,000 per cow
*if expanding <$6,500 per cow
• Cost of Production
• Feed Cost Per Cow or cwt. Milk
• Income Over Feed Cost
Profitability vs. Cash Flow
• Measures true profit of
operation
• Financial analysis
which includes cash,
unpaid expenses
(depreciation and
labor), and opportunity
cost (investment)
• Expense assets over
life
• Measures ability of
operation to generate
cash and pay cash
expenses
• Adjusts profit for noncash items
– Unpaid labor
• Expense assets as paid
Additional Benchmarks
MEASURE
Principal and Interest
Payments
FARM
GOAL
$
/cow
<$500/cow
% of Gross Revenue <15% of GR
Debt per Cow
$
/cow
<$3,500*
Investment per Cow
$
~$7,000*
Machinery and Investment $
/cow
~750/cow
(DIRTI)
Feed Cost (purchased feed $
+ crop expense + rent +
machinery cost)
Feed: Gross Revenue
(using same value as
above)
Crop Expenses (seed,
fertilizer, chemicals): Gross
Revenue
Cost of Production –
$
operating expense less
interest and extra feed
$
Principal and Interest
$
Depreciation
/cwt.
~7.00*
%
20-45%
%
<8%
/cwt.
COP < Milk Price
/cwt.
/cwt
Cash Flow Budget
• Estimate of all cash receipts and
expenditures
• Project source and timing of funds
• Identify any cash deficit period(s)
• Help to determine need for an operating
loan & amount
• Identify period(s) of cash surplus
Source: Understanding Cash Flow, Analysis AgDM File
C3-14
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4/17/2015
Cash Flow - Main Uses
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Clear statement of cash flows
Identify top five cash outflows
Estimation of operating loan needs
Schedule of loan and or insurance payments
Capital purchase planning
Communicate farming plan and credit needs
with lender
Improving Cash Flow
• Adjust the term loan payments
• Adjust your crop marketing plan
• Change time of year for crop input
purchases.
• Analyze top 5 expenses
• Increase inflows of cash
Cash Flow Statement
• Monthly or Quarterly
• Projections and Actual
• Can you meet financial obligations in
a timely fashion?
• What is generating income?
Twelve Steps to Cash Flow
Budgeting
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Plan
Inventory
Requirements
Sales
Income
Expenses
Capital Purchases
Debt Repayment
Nonfarm expenditures
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4/17/2015
Cash Flow Activity
• Cash Flow Activity Cy Dairy Cash Flow
Budget
Variables in Agriculture
• Price
• Land Values
• Interest Rates
• Use input sheet to complete projected
cash flow for 2015
Variable - Price
Variable - Price
• Corn Price
– 2015 FSA inventory price = $3.70
– 2013 calendar year average = $6.23
• Soybean Price
– 2015 FSA inventory price = $9
– 2014 calendar year average = $12.47
• Impact on statements and ratios?
Source: Ag Cycles, A Crop Marketing Perspective
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4/17/2015
Variable - Milk Prices
Variable – Land Values
Source: 2013
Farmland
Value Survey,
AgDM File C270
Variable – Interest Rates
Cash Flow Activity
• What was net cash income change?
• What were months of negative cash
income?
• Resulting operating note balance and
interest paid?
• Summarize impact of changes?
• What could make this situation better or
worse?
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4/17/2015
GOOD LUCK
Not Just Financial Analysis
• Use combination of financial ratios with cash
flow to assess position of farm
• Incorporate expected change (partial
budgeting) into a new B/S and I/S and
recalculate ratios. Incorporate changes into
Cash Flow
– Where can farm potentially be if changes are
made? (numbers can help to explain impact!)
• Look outside the numbers -> management
and numbers are a good mix to tell the
complete story
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Communication
Trust
Dream Big, Plan Small Steps
Testing Phase
– For both parties
– Percentage of milk check and expenses
• Form a Team of Professionals
• Keep Good Records
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