MANAGING IN TOUGHER TIMES. Michael Boehlje Center for Food and Agricultural Business Purdue University

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1 MANAGING IN TOUGHER TIMES Michael Boehlje Center for Food and Agricultural Business Purdue University

2 Vulnerabilities to Continued Prosperity Increased supplies from productivity and acreage increases Slowdown in demand growth (exports and biofuels) Cost increases locked in higher cost structure on land Higher interest rates Margin compression Asset value declines

3 Vulnerabilities to Continued Prosperity (con t.) Weak working capital positions Excess and/or poorly structured debt Availability of credit Increased tax burdens/reduced preferences

4 Implications Income/asset value shocks Land prices and cost competiveness

5 Table 4. Comparison of Farm Size with 50% Land Owned and 25% Debt-to-Asset Ratio Size of Farm (acres) Annual Net Farm Income (Mean) $49,800 $37,600 $166,200 Change in Net Worth (3 year) (Mean) $36,800 $114,900 $926,900 Working Capital/Value of Farm Production Debt-to-Asset Ratio Term Debt Coverage Ratio Mean 33.0% 45.5% 49.5% Percent < 35% 57.0% 3.9% 0.1% Mean 21.5% 15.8% 13.0% Percent > 55% 0.0% 0.0% 0.0% Mean Percent < % 23.9% 2.1% Percent Positive Cash 24.6% 83.8% 98.4% Percent ROE > 10% 0.4% 7.6% 20.1%

6 Table 5. Comparison of Land Tenure for 550 Acre Farms with 25% Debt-to-Asset Ratio Table 5. Comparison of Land Tenure for 550 Acre Farms with 25% Debt-to-Asset Ratio % of Land Owned 85% 50% 15% Annual Net Farm Income (Mean) $98,900 $49,800 -$2,100 Change in Net Worth (3 year) (Mean) $76,000 -$32,300 -$130,400 Working Capital/Value Of Farm Production Debt to Asset Ratio Term Debt Coverage Ratio Mean 49.6% 32.9% 17.3% Percent < 35% 9.2% 56.9% 99.5% Mean 17.1% 22.1% 32.6% Percent > 55% 0.0% 0.0% 0.0% Mean Percent < % 76.8% 99.5% Percent Positive Cash 74.8% 24.3% 0.3% Percent ROE > than 10% 11.7% 0.5% 0.1%

7 Table 6. Comparison of Debt-to Asset Ratio for 2500 Acre Farms with 50% of Land Owned Debt-to-Asset Ratio 25% 50% Annual Net Farm Income (Mean) $160,500 $134,800 Change In Net Worth (3 Year) (Mean) $459,100 $474,900 Working Capital/Value of Farm Production Debt-to-Asset Ratio Term Debt Coverage Ratio Mean 49.5% 30.1% Percent < 35% 0.1% 54.4% Mean 13.0% 35.6% Percent > than 55% 0.0% 0.0% Mean Percent < % 38.2% Percent Positive Cash 98.1% 53.7% Percent ROE > 10% 21.1% 41.7%

8

9 Land Value ($/acre) Land Value ($/acre) Per Bushel Costs at Differing Land Values and Land Return Percentages 180 bu/acre Yield Return 4% 5% 6% , , , bu/acre Yield Return 4% 5% 6% 8, , , ,

10 Eight Strategies for Managing in this Environment

11 1. Lock In Margins Margins will be under pressure If a positive margin is there, lock it in on some production Will likely require pricing prior to harvest Don t drive marketing decisions based on last year s results Reset expectations

12 2. Buy Crop Insurance Will help protect yield (and price if desired) Crop insurance will be expensive You are protecting significant amounts of revenue Explore alternatives to reduce cost (enterprise coverage) With lower prices, you may need higher coverage level

13 3. Consider Fixing Some Interest Rates Rates are currently low Can they go lower (unlikely) Can they go higher (yes) What is your risk exposure?

14 4. De-leverage Pay Down Debt Reducing debt levels reduces risk in your operation Earnings and cash flow provide the ability to pay down debt Increased volatility means that businesses cannot safely use as much debt

15 5. Hold Financial Reserves Increasing working capital and cash reserves puts you in a stronger position try to move some assets to the top of the balance sheet The financial crisis showed that even the most well respected companies can have difficulty funding themselves

16 6. Conservative Bidding/Buying High levels of profits encourage aggressive bidding Be careful making long-term commitments based on short-term margins Will high margins persist? Perhaps so, perhaps not, do you want to make big bets on it?

17 7. Slow Growth/Fund with Equity Remember -- additional volatility means that businesses cannot support as much debt as in the past Funding with equity is much less risky Additional risk means that the cost of capital will increase be prepared to grow less rapidly

18 8. Make Investments in Operational Excellence What are you doing to push costs down? It is easy to lose cost discipline in high profit environments Make sound capital investment decisions Increase efficiency, increase yields, improve yield stability, reduce operating costs Avoid bad capital investment decisions based on tax management Use cash reserves wisely Need to be low cost to maintain your competitive advantage

19 Closing Comments Long-term demand for food, feed, fiber, and energy appears bullish The productivity challenge is significant but we have the technologies to meet the demand While long-term drivers are encouraging the path to the future will be volatile

20 Closing Comments Incomes generally adequate BUT Operating risk has increased Tools less effective/more expensive Government programs Futures/options/crop insurance Margin management

21 Closing Comments Assuming risk requires financial strength Increase working capital Reduce short-term debt Fix interest rates Negotiate an extended/larger line of credit Slow growth rate Maintain flexibility

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