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' ESQ 1581
Farm Management Principles
I. Factors of Production
The Production Function Historical Perspective What Is Management?
II. Decision-Making
Process Principles
Ill. Decision-Making
Information Techniques
IV. Resource Acquisition
. Size Economics Capital and Credit Buy vs. Lease
V. Resource Use
Enterprise Selection Efficiency
by
Allan E. Lines Department of Agricultural Economics
and. Rural Sociology The Ohio State University
February 1989
_L -'-f
B. Historical Persoective
1 . Greek Philosophers
a. Aristotle (384-322 B.C.)
b. Prohibition of Usury
c. Religious Perceptions
d.
2. c - ,....h Dh ~·orr "s I ren....,. r 1Y-vl Vii at { 1 ?00's)
a. Industry and Commerce \/Vere Unproductive
b. Land and Land Products Were Only Real \tVealth
c. Prosperity Rested on Freedorr1
d.
I-b
3. Enaiish Political Philosoohers ...,,,... I
( 1 ?00's)
a. Determinants of Prices
b. Concept of Rent
c. ·Prof it Generation
d.
4 I!!. 11 !d· • Philo~!"'\. . lL • l\ll4".,.d x1an Ill ~vpny
(mid- 1800's)
a. Factory System of Drnrlu"+;"n l1 • vV Vi.IV
I o. Exoloitation II
c. Labor Theory of ValL1e
d.
5. Marginal Economists {late 1800's/ early 1900's)
a. Mathematicians
b. Application to Production
c. Marginal Theory of Distribution
ct.
J-g
1 .
2.
Frequently - Heard
a. to
b. ~'Difference Bet'1veen
l\ 'eh sin -1viJ. uUn.,1US Definitions
a. and
b. Combining: Ideas, .- .,.t.. . IV/.§ ~ . I rac111~1es, 1ater1a s,
r: ¥• a
3 U !!" I! - D f. ...!!.. .. . •seru1 ;-arm em 1n1 t~On
I-))
•••
II - 2
A. The Decision-fvlaking Procsss
1. What ~Jtakes a Farmer SuccessfLJI?
a. ~Aechanical Abiiity?
b. Anronom·1~t? ~· I BBB ~'&I •
c. ·Animal Scientist?
d. ~/Janagerial Ability?
2. Managerial Decisions
a. Production
'1Vhy? ¥/hat?
II - 3
b. Acquisition'--~ how much? hovv? v1hen? where?
II - 4
3. Decision - iV1akino 1liii#
a. Set Goals
h hi. Recoanition
"""'
c ii I "" " . n .... ~i.l"m;-o,i;ji on fi '1tJ1gi ~tli g Iii ,, Iii V .. II .~... I,,
I n -·
f. Action
g. Responsibility
h • IS Decision
II - 5
B. Fundamental Economic Prine oles
1 . Production Concepts
a. Fixed and Variable Factors
b. Diminishing Returns
1 ) Added Output f ram Added lnout Decreases •
2) Results from Fixed Factors
~ 1' G 111?". a. · o-. 1 ........ ~c R d. • • ;:; ~ ; ~ ~! epresen Lat1on
II - 6
c. Factor Substitution
1) C b. 1• om -1nat1ons nu---i--1 •t ~ ~:a I I ~-i!! ~ - - .. ~-
--·n R ,. a th ....
3) if'"' !I •
\:lrapn1c Representation
d. Product Combinations
1 ) Same Factors Can Produce Different Products
II - 7
2) Competing Factor Use
3) Graphic Representation
C . J. OSL
a. Cash/t'1on - Cash
b.
1) n)· ~
\.
1 J
Out ... of - poci<et Opportunity Depreciation
and
II - 8
2) Total, A·verage, rv1arginal
II - 9
::t. RC-i'10nue C-on, ..... Pnt· s ...... .;;,., !;f '"""~ !I !...! ."'J ~t-1 -
a. Total
b. Marginal
a. rv1arginal Revenue Iii
arginal Cost
b~ Equal i\t1arginal Revenues
c. Least - Cost Combination of Factors
d. ~Aost Profitable Co.mbination of Cutouts
I
III-2
1 . Accounting
a. Information Generation
1)
2)
b. Permits
Understanding 1) 2) 3)
Application o·f Principles Perforrnance and
Analysis 4) Fin~n,...i~• ~+~+t:lm~n+s
;; "'......,. 11vn • ..;i.5 v'l.C!.11o'lol1 1%#1 1111
Ca Necessary for Problem Solvina -
and ~Aeasures
a. Isolate Strengths and eaknesses
h.. L;m:~1.n.~lt'°' e"'t..,....t fi..2 j ' \ii:+;;'~.;.::) \:) t;'
c. Useful Set for Higi1 Priority Problems
1) 2) n\
·0}
4) 5) 6)
d. Use Several Factors
III-3
e. Focus on Impact Factors
- -· __j I If" ~ • 0. ::stanaaras ror Gompar1son
a. Comparison Necessary
1) Good/Bad 2) !l ,. i /L M1Qt1 0'-11
b. Objectives \!Viii
1) 2)
d~ Sources
1) 2) 3)
3) 4)
Var'/ ..
III-4
III-5
•
1 . Budgeting: Testing Alternatives
a. Ans\1ver 3 Questions
1)
2)
3)
b. Types of Budgets
1) Partial
2) Total Farm
~\ r'a(!h Flovv v/ v '"\.#f I
4) E11terprise
D. Investment Analvsis · ,,._
1 . Time Value of ~v1oney
a)
b)
c)
2. Comcoundina . -
3. Discounting
III-7
III-8
4. Net Present Value
a. Steos II
1) Investment to Analyze
2) Initial Cash Outlay
~) 0 Annual f\Jet Cash Flovvs
4) Discount Rate
5) NP V's
6) Decide
d. lnteroretation •
2) Compare Only = Planning Periods
3) Compare Only = Size Projects
4) l~ssumption
5) Financial Feasibiiity
III-10
A. ize Economics
1 . Size Change
a. b. c. d.
2. General Cost - Size n ........ 11'"'!!•; 0 n. !L .. · nt: dlilt n;:;nn:>
Ii
IV-2
IV-3
3. Tecl1nical Economies of Size
a. Only Affect Costs
b. Cost Per $ Gross Income
Corn R IJ. Grain -t-a '"'rr' s uei:jt. . ! !. !
Farm Farm Farm Farm~
A B c D
:cropland 77 141 272 Total Cost
·Average .66 .62 .59 .51 <;:
il• .. .. - '
IV-4
4 P . r- • £.i'""r,• . -nee c:conom 1es o 1 ~1ze
a. Input Price Discounts
Discounts by Farm Size, Ohio Acres
100-179 260-499 1 ooo+ I % Discount • • • • • • I ·Seed 2.4 4.3 10.8 I
F~-.'!.p;-A"" U il,j~ I -· I J&.;-• 2.2 2.8 6,... -.v I
- ChAmica1~ 1.4 2.2 7.8 I "' I - I ·1'1;,t
- ~Aachinery 1.3 3.8 7Q I .....
b. Product Price Premiums
B.
IV-6
r!,;io=t- -""I ""nd CrQdi+ \...I~'.'.' I Clm Ga ; '\;# 1 -.
1. HovJ tv1uch Capital?
a. Equate Marginal Return ·+h . \ft/I \.• ii I
b R !I !" I• . ,,e1at1onsn1p
2. Al!ocation of Capital
a. Principal: Equimarginai Returns
b. Budgeting and NPV •
IV-7
3. Atcquisition ~;1ethods
a. Owner Equity
b. Debt
c. () J. • I
\Ju~s1ae r- .. caun:v
• ...
d. Lease/Rent
u r, " !I c ... 4. • .ovv 1V1ucn red1t
a. ~v1ax : Borrovving· Capacity
b. l\Jiaintain Credit Reserve
c. Profit/Risic/Capacity
L r,. - -t:Veraae -
I (\f ~Ja \l\forth • ~vl n ..... ~ ... ~= --'-1!' "'""' u l -&1 A~s(,::J. +CJ. - 101.81 ~ y _'1/1,p'l~
to A I Cost ~
nf V11
ROR to N\l\j
and Profit
Leveraoe
0.0
IV-9
4 ~ I .U
IL
IV-10
7. Leverage and Risk
· t'1et Worth ·Debt
·. Total Assets
ROA ; R to A . Cost of Debt
(12%) · R to ~~\f\J
. ROR to NVv
Leveraae Ratio
0.0 1.0
-"'-
IV-11
Capacity
a. Loan Lenqth and -& AH
Repayment Capacity $1,000 P\vailable
Repayment ~ Years
1 -b
10 20
interest 1 #5\0fi u-o
$ 909 -"'7Qi v:v
6145 R r 1 LJ1 oO t
• I
Rate 14o/o
$ 877 •
~A:i~ v """t' '- v
5216 6623
.,,_ F'
IV-12
b. Estimating Repayment Capacit;l
t"et Farm Income
+ nenretr:i-~ion --r" -v~d.b 1
+ Interest Paid - Family Living .... Income Tax - r.11rr~nt I n~n Paym~nts
........ \di I-· I I. "'"""11¥"\.AI I 1-1 I I.
- Down Payments + Non-Farm Income + Gi.=+s e"'lr""" . I l· 1 L\.I.
0 Repayrnent Capacity
60,000
+20,000 +15,000 -20,000 -10,000 -40.000 •
- 5,000 + 3,000 + 0
if 17,000
C.
IV-13
uv vs. Lease ;;;,
1. Land
a. Which To Do?
1 ) Preference to Ovvn 2) Preferred Loan Security 3) \IVindfaH Gains/Losses 4)
\
5J c\ U/
7) 8) 9)
10)
F• •m ·~9 • 1ex101uty
Expansion
Changing Economy Land Security Living Conditions Financial Situation
IV-14
b. Purchasing
1) Max Bid: Profitability -
2) Max Bid: Feasibility
3) Risk
4 .. ) Q,,vnership Cost
c. Lease
1 ) Local Custom
2)
3 \ p ll'l•ll !! 1! ' §;IOO""'',.aoil~ J ii ! llL h,....
4) tv1arket
5) Con!ls - ~t-
IV-15
IV-16
2. Machinery
a. Purchase
I ) Ownership
DH:lTI ~ h ; I ""'1i
2) Operating Costs
3) Total Cost Per fl.~cre
IV-17
b. Lease
1) Control V\/ithout 0'1vning
2) t\lot V\iidelv Used ""
~\ 'f;;J I
f\.lnt I ~V'L
Cl&:intina I &vii l! ~Ill i~
4) Use Situations
-....
-....
c. Use r~PV to Decide
l t~m • ~. I
PV k"PV
Item
Lease Income Tax After Tax CF Discount F. PV "-JPV
Purchase
0
50,000 0
50,000 1.0
Lease
0
11 ,500
10,000 i .0
Vo.~r :;-:-~s:..--
.; • '
n u -7,280 -7,280 .9091
YA$4r fl~~ ......
1 •
11 ,500 -3,700 7,800 .9091
IV-18
-:""; . . ...,..
0 -3i 192 -3, 192 .6209
£:: . • . v
5,000 -3 7nn
' """" "" 1 ,300 .6209
V-2
1 . Determinants of p 2 •• roauct1on
a. Physical
Climate Topography C.nil~ \..JViiiw
Biology
b. - . t:conom1c
Comparative Advantage r. .t."t" vOmpet.I .. Ive Advantage
c. Process
n I t• L. LOCa1on
a. What Have Farmers Decided?
1\ ,.., 1....1 } il\1nr 1"1
lf IJ' VI 'l!oA
2) U.S.
3) Ohio
V-.3
V-7
3. Comparative Advantage
a. Principle
';fvheat Corn Ratio
"Produce That Product VVhere Your Production Advantage Is Greatest or Your Disadvantage Is Least"
• Illustration 0.
Illinois Ka-oas , _. i h.;;u -
(bu) so 30 120 60 ?4 -· 2.0
..
c. Sources
A. • •
a. Princiole •
"Produce That Has Lowest
b. Illustration
c. Source
V-8
Product Vvhich Opportunity Cost"
V-9
5m Enterprise Combination
a. Common Sense
1 ) Identify Resources
2) Enterprise Examination
3) Choose fv1ost Profitable
5) Add .. Others
V-10
b. Linear Proarammina - -1) c 1er"'1 -0 n•s L...i i i\.ri " of Solution
Enterprise Choices
Reauirements •
Limits
Per ll~cre
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