Alternative Financial/Organizational
Structures: How Should I Organize and
Finance My
Farm Business?
Objectives
• Identify criteria for choosing a
financial/organizational structure
• Describe the options
–
–
–
–
–
Legal organization
Business arrangement
Leasing options
Equity
debt
Financial/Organizational Structure of the Farm
Firm: Choices and Options
•
•
•
•
•
Legal organization
Business arrangement
Leasing options
Equity
Debt
Financial/Organizational Structure Alternatives
Legal
Organization
•Sole
proprietorship
•Partnership
•Corporation
•Land trust
•Cooperative
Business
Arrangement
•Independent
•Contract
•Subcontractor
•Joint venture
•Franchise
•Licensing
Leasing
Options
Equity
Debt
•Real estate
•Sources
•Loans
lease
–Initial
–Maturity
•Facility/equip
capital
–Interest
ment
contributions
rate
•Capital/fin–Retained
–Amortizati
ancial
earnings
on
•Leveraged
–Stock
arrangement
s
•Sale–External
Leasebacks
equity
–Collateral
•Business
–Conversion
Practices
s
–Payout
•Bonds
policy
–Convertibl
–Family
e
transfers
–Callable
Criteria for Choice
•
•
•
•
Control
Returns
Risk
Maturity/permanence/liquidity
Organizational Structure and ROE
Ownership
26%
Leverage
50%
70%
Mix of rent,
Mean
17.0%
20.1%
24.9%
share, own
Std. Dev.
5.3%
7.1%
10.0%
All owned
Mean
9.9%
10.7%
12.3%
Std. Dev.
2.4%
3.5%
5.5%
Rent
Mean
25.6%
30.7%
37.9%
$110/acre
Std. Dev.
11.8%
15.2%
20.0%
Share
Mean
20.3%
23.9%
28.9%
(50/50)
Std. Dev.
5.8%
7.5%
9.8%
Financial Performance of Pork
Production Units
Financial Structure
0% Debt
40% Debt
Mean
Return
on
Equity
(%)
Probability
of
Default
Independent
farrow to finish
17.0
0.0
23.5
0.05 56.5 0.26
Efficiency and
marketing
incentive contract
10.4
0.0
12.5
0.00 23.1 0.33
Death loss
incentive only
11.3
0.0
14.0
0.00 27.6 0.11
Pork Production
Business
Arrangement
finishing contract
Mean
ProbReturn on ability
Equity
of
(%)
Default
80% Debt
Mean
Return
on
Equity
(%)
Probability
of
Default
Legal Organization
• Sole proprietorship
• Partnership
– General
– Limited
• Corporation
– Regular
– Subchapter S
Legal Organization
• Limited liability company
• Land trust
• Cooperative
Business Arrangement
•
•
•
•
•
•
•
Independent producer
Contract producer
Subcontractor
Joint venture
Strategic alliance
Franchise agreement
Licensing
Contracting Options
•
•
•
•
Marketing agreements
Profit/Loss sharing
Profit/Loss sharing with provided resources
Flat fee plus efficiency bonuses
What Do End Users Want From Producers?
•
•
•
•
•
•
Cost competitiveness
Consistent quality
Timely delivery
Predictability/reliability
Flexibility/adaptability
A qualified supplier
What Do Producers Want From End Users?
•
•
•
•
Equitable reward and risk allocation
market presence/position
Dependability
Access to innovation
– products
– markets
– technologies
Types of Networks:
• Information networks
• Marketing networks
• Production networks
Benefits of Networking
•
•
•
•
Capture proven technology
Capture real economies
Improve product quality and market access
Utilize production, marketing, and information
systems
Limitations of Networking
•
•
•
•
Commitment of people
Joint responsibility
Formal business procedures
Loss of markets and suppliers
Networking Questions:
1.
2.
3.
4.
5.
6.
7.
Who to partner with?
How do I identify?
How to negotiate?
How to govern?
How to manage?
How to finance?
How to exit?
Leasing Options
Real Estate Lease
–
–
–
–
Cash lease
Share lease
Flexible cash base
Shared appreciation lease
Leasing Options
•
•
•
•
Facility/Equipment operating lease
Capital/Financial lease
Leveraged lease
Leaseback
Equity
Sources
–
–
–
–
Initial capital contributions
Retained earnings
Valuation Equity
Stock
• common stock
• preferred stock
– “External” equity/contributions
– Warrants or options
– Venture capital
Equity
Business Practices
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–
–
–
Payout (dividend or withdrawal) policy
Intrafamily transfers
ESOPs and stock options
“Buyout” policies
Debt
Loans
–
–
–
–
–
–
Maturity
Interest rate
Amortization arrangements
Prepayment features
Security/collateral
Conversion of terms
Debt
Loans
– Shared appreciation mortgages
– Reverse mortgages
– Interest rate strips, futures, options, swaps
Debt
Bonds
– Convertible bonds
– Callable bonds
– “Zero coupon” or deep discount bonds
Conclusions – Financial/Organizational Structure
•
•
•
•
Critical strategic decisions
Significant impact on ROE
Numerous alternatives
Diversification
Strategic Business Planning for
Commercial Producers