financial management in sheep production of records1-3-09 shep… · in sheep production...

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Michigan Sheep Breeders Jan 2009Michigan Sheep Breeders Jan 2009

Financial Management

In Sheep Production

Shepherd's Weekend Jan 3-4, 2009Roger BetzSouthwest Michigan Farm Management Michigan State University Extension

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Roger BetzDistrict Extension Farm

Management AgentSouthwest Michigan

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Topics for TodayTopics for Today Levels of Accounting and Business RecordsLevels of Accounting and Business Records

Balance Sheet or Net Worth StatementBalance Sheet or Net Worth Statement

Ewe Flock Budgets ComparisonsEwe Flock Budgets Comparisons

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Source: Arnold Oltmans. Farm Financial Statements. Century Communications.

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Levels of AccountingLevels of Accountingand Record Keepingand Record Keeping

Level 1 Level 1 -- INCOME TAX for IRSINCOME TAX for IRS Level 2 Level 2 -- FINANCIAL FINANCIAL -- Whole Farm Whole Farm

AnalysisAnalysis Level 3 Level 3 -- MANAGEMENT MANAGEMENT -- Enterprise or Enterprise or

Cost AccountingCost Accounting Level 4 Level 4 -- PRODUCTION RECORDSPRODUCTION RECORDS

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Level 1 Level 1 -- INCOME TAX for IRSINCOME TAX for IRSCash Income Cash Income -- Cash Expenses Cash Expenses -- DepreciationDepreciationSchedSched F (farm) and F (farm) and SchedSched D (capital gains)D (capital gains)

Advantages:Advantages:1.1. Relatively SimpleRelatively Simple2.2. Meets IRS RequirementsMeets IRS Requirements3.3. Important component of Analysis ToolsImportant component of Analysis ToolsDisadvantages:Disadvantages:1.1. Can be very poor indicator of profit or lossCan be very poor indicator of profit or loss2.2. Provides little information for decision Provides little information for decision

makingmaking3.3. Does not provide information for monitoring Does not provide information for monitoring

financial progress financial progress

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Level 2 FINANCIALLevel 2 FINANCIALWhole Farm AnalysisWhole Farm AnalysisAccrual Income StatementAccrual Income StatementTrend Analysis of Balance SheetsTrend Analysis of Balance SheetsReconciliation of Net WorthReconciliation of Net Worth

A.A. Requires Level I (Income Tax)Requires Level I (Income Tax)

B.B. Beginning & Ending Balance Beginning & Ending Balance SheetsSheets

(Dec. 31 each year or your Fiscal (Dec. 31 each year or your Fiscal Year)Year)

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Farm Example Farm Example –– Sheep FarmSheep Farm Cash Income........................ Cash Income........................ $80,000$80,000

Cash Expense ...................... Cash Expense ...................... $65,000$65,000Tax Depreciation.................... Tax Depreciation.................... $5,000$5,000

Schedule F Farm IncomeSchedule F Farm Income $10,000$10,000 Make or Lose Money?Make or Lose Money? Beginning Lamb & Crop InventoryBeginning Lamb & Crop Inventory………………. $25,000. $25,000 Ending Lamb & Crop Inventory............$ 10,000Ending Lamb & Crop Inventory............$ 10,000 Make or Lose Money?Make or Lose Money? Beginning Prepaid Expenses...........$5,000Beginning Prepaid Expenses...........$5,000 Ending Prepaid Expenses..............$15,000Ending Prepaid Expenses..............$15,000 Make or Lose Money?Make or Lose Money? $10,000 minus $15,000 plus $10,000 = $5,000$10,000 minus $15,000 plus $10,000 = $5,000 Change in Unpaid Bills?Change in Unpaid Bills?

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Assets on the Balance Sheets Assets on the Balance Sheets (Net Worth Statement)(Net Worth Statement)

1.1. Accurate Market Value Inventory of crops, Accurate Market Value Inventory of crops, feed, minerals, supplementsfeed, minerals, supplements

2.2. Livestock (lambs) on handLivestock (lambs) on hand3.3. Inventory Dollar Value of vet & livestock Inventory Dollar Value of vet & livestock

supplies, tags, drugs, supplies, tags, drugs, 4.4. Prepaid Expenses, fuel, fertilizer, seed, Prepaid Expenses, fuel, fertilizer, seed,

chemicals chemicals 5.5. Money owed to you (including cash & Money owed to you (including cash &

savings)savings)6.6. Cost Basis (depreciation schedule) & Cost Basis (depreciation schedule) &

Market Value of machinery, breeding Market Value of machinery, breeding livestock, buildings, landlivestock, buildings, land

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Liabilities on the Balance SheetsLiabilities on the Balance Sheets

1.1. Unpaid bills and accounts payableUnpaid bills and accounts payable2.2. Accrued unpaid Income and Accrued unpaid Income and

Social Security taxesSocial Security taxes3.3. Accrued Interest to December 31Accrued Interest to December 314.4. Verified Loan Balances Verified Loan Balances -- current current

versus nonversus non--currentcurrent

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Details on Balance SheetsDetails on Balance Sheets Need quantities and prices used for each itemNeed quantities and prices used for each item 2,123 2,123 bubu corn @ $4.07 = $8,641corn @ $4.07 = $8,641 247 247 MktMkt Lambs, 98lbs 93.00/cwt = $22,512Lambs, 98lbs 93.00/cwt = $22,512 Unpaid Bills Unpaid Bills –– Feed $543, Utilities $312 Feed $543, Utilities $312 Repairs Repairs -- Tractor = $1,563Tractor = $1,563 2008 Property Taxes = $2,3672008 Property Taxes = $2,367 Need detail to accrue individual expenses and Need detail to accrue individual expenses and

determine other production measures determine other production measures

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Level 2 FINANCIALLevel 2 FINANCIALWhole Farm Analysis (contd.)Whole Farm Analysis (contd.)

Advantages:Advantages:1.1. Allows managers to understand their Allows managers to understand their

business as a wholebusiness as a whole2.2. Can accurately monitor Financial ProgressCan accurately monitor Financial Progress3.3. Meet the needs of lenders and IRSMeet the needs of lenders and IRS4.4. Provides financial information for Estate Provides financial information for Estate

PlanningPlanning5.5. Useful in evaluating the feasibility of Useful in evaluating the feasibility of

ExpansionExpansion6.6. Not as complicated as Enterprise analysisNot as complicated as Enterprise analysis7.7. Can be done without computer assistanceCan be done without computer assistance8.8. Better than 90% of farm businessesBetter than 90% of farm businesses

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Level 2 FINANCIAL Level 2 FINANCIAL Whole Farm Analysis (contd.)Whole Farm Analysis (contd.)

Disadvantages:Disadvantages:1.1. Does not indicate which enterprises Does not indicate which enterprises

Ewes Ewes vsvs Lambs Lambs vsvs Corn Corn vsvs Hay is Hay is more profitable more profitable

Crops Crops vsvs livestock and Synergies? livestock and Synergies? 2.2. Requires extra effort once per year Requires extra effort once per year

to develop net worth statement & to develop net worth statement & reconciliation statementsreconciliation statements

3.3. Requires some effort in learning and Requires some effort in learning and applying the conceptsapplying the concepts

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Production InformationProduction InformationFrom The BALANCE SHEET From The BALANCE SHEET

Feed Efficiency? Feed Efficiency? What did the animals eat? lbs & $What did the animals eat? lbs & $ Beginning Inventory + ProductionBeginning Inventory + Production

+ Purchases + Purchases -- Sales Sales -- End Inv = Feed UseEnd Inv = Feed Use Lbs of Lamb Produced?Lbs of Lamb Produced? Sales Sales -- Beginning Inventory Beginning Inventory –– PurchasesPurchases

+ Ending Inventory = Lbs Lamb Produced+ Ending Inventory = Lbs Lamb Produced Feed Use (divided by) Lamb Produced Feed Use (divided by) Lamb Produced

= Feed Efficiency= Feed Efficiency

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Level 3 MANAGEMENT Level 3 MANAGEMENT Enterprise or Cost Analysis for Individual Enterprise or Cost Analysis for Individual

Crops and Livestock Species or PhaseCrops and Livestock Species or Phase

A.A. Requires LEVEL 2 to be effectiveRequires LEVEL 2 to be effectiveB.B. Eventual allocation of all cash income Eventual allocation of all cash income

and expenses to individual profit and expenses to individual profit centerscentersCan Be Can Be -- individual crops, farms, fields and individual crops, farms, fields and

livestock production phaseslivestock production phases

C.C. Must allocate non cash costMust allocate non cash cost(depreciation, unpaid labor)(depreciation, unpaid labor)

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Level 3 MANAGEMENT Level 3 MANAGEMENT Enterprise or Cost Analysis (cont'd.)Enterprise or Cost Analysis (cont'd.)

Advantages:Advantages:1.1. Determine Profitability of Individual Determine Profitability of Individual

Crops and LivestockCrops and Livestock2.2. Determine which enterprises to Determine which enterprises to

expand and contractexpand and contract3.3. Multi dimensional analysis possibleMulti dimensional analysis possible4.4. Which Farms to rent/sell/buyWhich Farms to rent/sell/buy5.5. Production Phase Production Phase -- Ewes versus Ewes versus

finishing lambsfinishing lambs

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Level 3 MANAGEMENT Level 3 MANAGEMENT Enterprise or Cost Analysis (Contd.)Enterprise or Cost Analysis (Contd.)

Disadvantages:Disadvantages:1.1. Must allocate income and expenses with Must allocate income and expenses with

SUFFICIENT detailSUFFICIENT detail2.2. Difficult without computerized systemDifficult without computerized system3.3. Difficult to allocate and keep track of during Difficult to allocate and keep track of during

the yearthe year4.4. Must spend sufficient time in setting up Must spend sufficient time in setting up

system and learning conceptssystem and learning concepts5.5. Will the investment in time and expense Will the investment in time and expense

payoffpayoff

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Level 4 Level 4 -- Production RecordsProduction RecordsTied to Financial Records (contd.)Tied to Financial Records (contd.)

Advantages:Advantages:1.1. Incorporates the production with the Incorporates the production with the

economics to help determine relationshipseconomics to help determine relationships

Disadvantages:Disadvantages:1.1. Production information alone often does not Production information alone often does not

give sufficient indication of profitabilitygive sufficient indication of profitability2.2. Can be time consumingCan be time consuming

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Balance Sheet or Net Worth StatementBalance Sheet or Net Worth Statement

A List of Assets Owned and Debts A List of Assets Owned and Debts OwedOwed

---- At a Given Time,At a Given Time, ---- With With QuantitiesQuantities & & DollarDollar Values Values

AttachedAttached

Balance Sheet defined:

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If the Question Is:If the Question Is:

“Are my assets worth more than my liabilities?”

The Problem is SOLVENCY!

If Net Worth is Positive, the Business is Solvent

Definition: $ Assets

- $ Liabilities (Debts)

= $ Net Worth or Equity

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Balance Sheet AnalysisBalance Sheet Analysis

To remember. . .To remember. . .Basic equationsBasic equations

Assets = Debt + EquityAssets = Debt + Equity Assets minus Debts = EquityAssets minus Debts = Equity Assets minus Equity = DebtAssets minus Equity = Debt

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What is the Balance SheetWhat is the Balance Sheetor Net Worth Statement?or Net Worth Statement?

Picture in time Picture in time ---- a specific point, as a specific point, as in in ““Midnight, 12/31/XX.Midnight, 12/31/XX.””

Shows financial position Shows financial position ---- ability to ability to handle riskhandle risk

Net result of past Net result of past Very important component to track Very important component to track

and monitor financial progressand monitor financial progress Basic building block for financial Basic building block for financial

analysisanalysis

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The Balance SheetThe Balance Sheet

Name Name ---- What does this represent?What does this represent?Partnership, individual, combinedPartnership, individual, combinedNeeds to be consistent over timeNeeds to be consistent over time

Date Date ---- This is as of what date?This is as of what date?Listing of all assets and all liabilitiesListing of all assets and all liabilitiesBalances at the bottom of formBalances at the bottom of form

Assets = Liabilities plus EquityAssets = Liabilities plus Equity

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Balance Sheet PreparationBalance Sheet PreparationSome IssuesSome Issues

IDENTIFY clearly the person(s) or the business entity IDENTIFY clearly the person(s) or the business entity being describedbeing described

SEPARATE the business assets and liabilities from the SEPARATE the business assets and liabilities from the personalpersonal

Be CONSISTENT as to WHEN the Balance Sheet is Be CONSISTENT as to WHEN the Balance Sheet is prepared prepared

at a minimum, prepare a net worth statement when at a minimum, prepare a net worth statement when your accounting year endsyour accounting year ends

Valuation of Assets Valuation of Assets ---- costs and/or marketcosts and/or marketrecommend two column balance sheetrecommend two column balance sheet

The Balance Sheet is the Cornerstone to The Balance Sheet is the Cornerstone to Financial ManagementFinancial Management

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Parts of the Balance SheetParts of the Balance Sheet

Current assetsCurrent assets Normally converted to cash in 12 months, like Normally converted to cash in 12 months, like

crops, market livestock, prepaid expenses, cash, crops, market livestock, prepaid expenses, cash, savingssavings

Intermediate AssetsIntermediate Assets Useful life of one to 10 years Useful life of one to 10 years ---- machinery, machinery,

breeding livestock, equipment, stocks, some breeding livestock, equipment, stocks, some buildingsbuildings

Long Term AssetsLong Term Assets Normal useful life of more than 10 years Normal useful life of more than 10 years ---- land, land,

buildings, stocksbuildings, stocks Selling would typically decrease volume or size of Selling would typically decrease volume or size of

businessbusiness

Assets = What you own; have control of

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Parts of the Balance SheetParts of the Balance Sheet(Current)(Current)

LiabilitiesLiabilities ---- What you owe someone else (against what you own)What you owe someone else (against what you own)

Current LiabilitiesCurrent Liabilities Existing items scheduled to be paid in Existing items scheduled to be paid in

the next 12 monthsthe next 12 months Unpaid bills, accrued interest, property Unpaid bills, accrued interest, property

taxestaxes Operating loansOperating loans Principal payments on term debts to be Principal payments on term debts to be

made in the next 12 monthsmade in the next 12 months

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Parts of the Balance SheetParts of the Balance Sheet(Intermediate)(Intermediate)

LiabilitiesLiabilities ---- What you owe to someone else (against what you own)What you owe to someone else (against what you own)

Intermediate Liabilities Intermediate Liabilities What is scheduled to be paid in one to What is scheduled to be paid in one to

10 years (subtract out the current 10 years (subtract out the current position)position) Typically, machinery loans, breeding Typically, machinery loans, breeding

livestock, special use buildingslivestock, special use buildings Match up to the intermediate assetsMatch up to the intermediate assets

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Parts of the Balance SheetParts of the Balance Sheet(Long Term)(Long Term)

LiabilitiesLiabilities ---- What you owe to someone else (against what you own)What you owe to someone else (against what you own)

Long Term LiabilitiesLong Term Liabilities What was scheduled originally as 11 or What was scheduled originally as 11 or

more yearsmore years Land debt, house paymentsLand debt, house payments Match up to the long term assetsMatch up to the long term assets

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Parts of a Balance SheetParts of a Balance Sheet(Term Debts)(Term Debts)

Definition:Definition: Term Debts Term Debts -- paid over more than 1 paid over more than 1

year:year: Intermediate liabilitiesIntermediate liabilities

(Intermediate term)(Intermediate term)

Long Term liabilitiesLong Term liabilities(Long term) (Long term)

Term debts are not current loansTerm debts are not current loans

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Balance Sheet SpecialsBalance Sheet Specials

1. Rented assets1. Rented assetsAssets:Assets:1) Belong on landlord1) Belong on landlord’’s balance s balance sheetsheet2) Footnote on tenant2) Footnote on tenant’’ss3) Unpaid rent is short3) Unpaid rent is short--term debtterm debt4) Growing crops and Inventory4) Growing crops and Inventory

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Growing CropsGrowing Crops1)1) Date sets the listDate sets the list2)2) Winter WheatWinter Wheat3)3) PasturesPastures4)4) AlfalfaAlfalfa5)5) StockpilingStockpiling6)6) Turnips, Turnips, BrasicasBrasicas7)7) Value = Cost of variable inputsValue = Cost of variable inputs

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3. Leased Items3. Leased Items (tractors, pickups, (tractors, pickups, buildings)buildings)

Assets:Assets:A) On userA) On user’’s balance sheets balance sheet = lease payments due= lease payments due Market value if any above lease Market value if any above lease payments duepayments due

LiabilitiesLiabilitiesB) = lease payments dueB) = lease payments due

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4. Government Commodity Loans4. Government Commodity Loans

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How To Build A Balance SheetHow To Build A Balance Sheet

1.1. Do a count:Do a count:1.1. Crops: bushels, tons, etc.Crops: bushels, tons, etc.2.2. Animals: head and poundsAnimals: head and pounds3.3. SuppliesSupplies4.4. BuildingsBuildings5.5. Land: acresLand: acres

2.2. $ Prices for each of the above.$ Prices for each of the above.1.1. Recommend both cost and market Recommend both cost and market

value for term assets value for term assets

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How To Build A Balance SheetHow To Build A Balance Sheet3.3. Machinery list Machinery list (depreciation schedule?)(depreciation schedule?)

Cost less depreciation = book valueCost less depreciation = book value

4.4. Assemble the above into the formatAssemble the above into the format5.5. Add up the assetsAdd up the assets6.6. Add up the debtsAdd up the debts7.7. Assets minus debts = net worth or Assets minus debts = net worth or

equityequity

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““ZZ”” Farms Balance Sheet TrendsFarms Balance Sheet Trendsexample)example)

Dec. 31, 20X1 Dec. 31, 20X2

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-

-

Net Worth $400,000 $450,000

WHY?

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Change in Net WorthChange in Net Worthdue to:due to:

1.1. Retained EarningsRetained EarningsFrom profits earned and retained in From profits earned and retained in

businessbusiness

2.2. Market Valuation EquityMarket Valuation EquityFrom change in market value of assetsFrom change in market value of assets

3.3. From Contributed CapitalFrom Contributed Capital

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Retained EarningsRetained Earnings(contributed capital)(contributed capital)

Dollars earned by the business that are kept or retained for reinvestment in the business

Calculated by:

$ Total Assets @ Cost Value Basis

$ Total Liabilities before Contingent Liabilities

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Valuation EquityValuation EquityDollars of asset value that are created because the Dollars of asset value that are created because the market value of term assets is greater than the book market value of term assets is greater than the book valuevalue

Calculated by:Calculated by: + $ Total assets @ Market Value + $ Total assets @ Market Value

basisbasis -- $ Total Liabilities including $ Total Liabilities including

Contingent LiabilitiesContingent Liabilities -- $ Retained Earnings (contributed $ Retained Earnings (contributed

Capital)Capital)

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What a Balance Sheet is NOTWhat a Balance Sheet is NOT

Does NOT necessarily tell you if Does NOT necessarily tell you if the business is making moneythe business is making money

Unless done with certain detail, it Unless done with certain detail, it does NOT tell you where net worth does NOT tell you where net worth came fromcame from

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A Good Balance SheetA Good Balance Sheet

1.1. One page summaryOne page summary

2.2. Name and dateName and date

3.3. Shows type of farmShows type of farm

4.4. Cost and market columnsCost and market columns

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A Good Balance SheetA Good Balance Sheet

5.5. Indicates physical quantities of major Indicates physical quantities of major itemsitems

6.6. Sequence of itemsSequence of itemsSale time: quick to longSale time: quick to long

7.7. Assets less debts equals net worthAssets less debts equals net worth(Own (Own -- Owe = Equity)Owe = Equity)

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The Balance Sheet:The Balance Sheet:Building Block for Financial AnalysisBuilding Block for Financial Analysis Financial PositionFinancial Position Trend AnalysisTrend Analysis Feeds Into the Income StatementFeeds Into the Income StatementCommunication to SelfCommunication to SelfCommunicating with those outside Communicating with those outside

the businessthe businessNeeds Good DetailNeeds Good Detail

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Source: Arnold Oltmans. Farm Financial Statements. Century Communications.

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Questions ?Questions ?

financial management in sheep production of records1-3-09 shep… · in sheep production...

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