As this is written in mid-December 2011 milk prices remain above $20.00/cwt and feed prices, although historically high, have fallen. In fact the last six months have been a good time to produce milk in Wisconsin. So, what is the prospect for 2012?
Many different sources, including USDA are predicting increases in crop input prices but declining grain and milk prices. Some are predicting cropping inputs may rise as much as 15 percent. Drought and warm temperatures remain in the 2012 forecast with the current drought conditions in the Southwest expected to move northeast into the middle part of the country. USDA World Supply and Demand Estimates (WASDE) indicate the All-Milk price may average $1.60/cwt lower than 2011. The average corn price is expected to average 40-50 cents/bu. lower and soybean oil meal may run $30-40/T less than 2011. If any combination of these predictions actually occurs during 2012 how will they affect your business?
Two options may exist for assessing potential impact of the above possible outcomes; check with your gut or record actual dollar expectations and compare to past performance. I recommend you utilize both.
University of Wisconsin-Extension and the Center For Dairy Profitability recently released a new Cash Flow appraisal and projection set of Excel spreadsheets expressly for this purpose. The “Working Capital Decision Support System” (Tool) utilizes past asset, liability, income and expense information as both a guide and comparables to projected future performance. Projecting business performance based on information like the above allows the business manager to test drive different combinations of likely price scenarios before they occur. Interactive financial management programs and business planning are to farm managers what flight simulators are to pilots. Although your gut tells you things may be a bit tighter in 2012 if prognostications prove accurate, actual budgeting documents the dollar results.
To test the theory I inputted the above predictions into the Tool to test the impact on returns and cash flow. I did not account for weather effects and all other inputs remained the same as documented by a typical AgFA 100 cow herd during 2011. The example farm purchases all of its grain and hay but produces corn silage needs. It does have some income from sources other than milk and cattle.
Compared to 2011, income from animal product sales declines $35,200. Total cash expenses change very little as the 15 percent increase in crop expenses nearly offsets the $12.600 lower feed expense. Net farm Income (NFI) declines by $25,181 with Operating Profit Margin reduced by 1.86 percentage points, Operating Expense Ratio increases nearly 4.4 percent and Asset Turn Over Ratio is reduced by 0.88. Over on the Cash Flow Statement available cash is reduced by $41,771. These are specifics a manager can bite his teeth into.
But what if our predictions are 10 percent off? The Tool’s built in Sensitivity Analysis indicates an across the board 10 percent increase in operating expenses reduces ending cash balance from a positive $9,000 to minus $50,578 but an equal decrease in expenses benefits cash balance by over $49,000. Even a greater effect is apparent when operating revenue changes with an increase in yearend cash of $66,000 given a 10 percent increase in income but a negative $46,000 if revenue falls by an equal amount. Fluctuating interest expenses change outcomes relatively little with a 10 percent increase affecting yearend cash by less than $3,000 and a 10 percent decrease by around $2,000 when Equity: Asset ratio is 0.61. The change in Working Capital levels as a result of a 10 percent increase or decline in operating expenses swings by $119,156. That difference increases to $132,672 between a 10 percent increase and decrease in operating revenue.
Even relatively small changes (less compared to greater price volatility) have substantial effects on business Liquidity. The Tool allows the user to account for such variances by selecting a desired range for a five- value generated Sensitivity Analysis. You select the low and high percentage extremes you think prices may vary from predictions and the Tool calculates yearend cash and Liquidity values for both extremes as well as three points in between. This allows the identification of contingent strategies and outcomes going into the planned year. Farm managers may use this information to plan future sales, purchases, borrowings and payments. An opportunity is also provided to track actual incomes and expenses as they occur and compare to budgeted numbers. This option allows management to adjust on-the –fly, hopefully avoiding nasty cash shortage surprises after the fact. Success occurs when the management option is exercised at the point where planning and opportunity meet.
Act now to plan for the next swing in volatile milk prices and production inputs. UW-Extension can help you get the job done! Contact your farm records association field staff, technical college farm trainer or local UW-Extension Office. This educational program is support by a North Central Risk Management Education Center Grant.
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Contact:
Ken Bolton
(715) 877-1420
kenneth.bolton@ces.uwex.edu