Financial Financial ManagementManagement

Returning To The FarmReturning To The FarmUniversity of Nebraska- University of Nebraska- Lincoln Lincoln

AssetsAssets Things Of Value Owned By The Business

Tangible (Real Estate, Inventory) Intangible (Intellectual Property)

Current Assets Are Assets That Can Be Converted To Cash Within A YearCashAccounts Receivable (A/R) Inventory

Current Assets

AssetsAssets

Fixed Assets Provide Benefit To Business For More Than 1 YearBuildingsEquipmentLand

Liquidity = Speed & Ease An Asset Can Be Converted To Cash. (Intermediate or Long Term)

Ease Of Conversion vs. Loss Of Value Tractor vs. Custom Hog Finishing Unit vs. Land

Intermediate Term Assets

Long Term Assets

Non-Farm Assets

LiabilitiesLiabilities Obligation To Pay A Debt

Current Liabilities Generally Must Be Paid Within 1 Year Accounts Payable Current Year’s Principle Payment On Loan Taxes Payable

Current Liabilities

Term Liabilities Are Obligations That Are Due After 1 Year

Intermediate -Term Bank Notes2 to 10 Year

Long-Term Bank Notes 10 or more

Contracts

LiabilitiesLiabilities

Term Liabilities

Intermediate

Term Liabilities

Long

Non-farm Liabilities

Owner’s Equity (Net Worth)Owner’s Equity (Net Worth)

Estimate Of The Business’ Value That Would Be Transferred To Owners If All Assets Were Liquidated & All Liabilities Paid

Increased By $ Invested By Owners Or Made In The Business And Decreased By What Owners Withdraw From The Company Or The Business Lost

The Balance SheetThe Balance Sheet Summary Of Business’s Assets, Liabilities, &

Net Worth Assets Are Arranged From Most Liquid To Least

Liquid Statement Of The Financial Condition Of A

Business On A Specific Date Should Be Prepared At Least Once A Year,

Usually At The End Of The Fiscal (Calendar) Year

The Balance SheetThe Balance Sheet

Owner’s Equity (Net Worth)Owner’s Equity (Net Worth)

Assets = Liabilities + Owner’s EquityAssets = Liabilities + Owner’s Equity

Two Groups Can Make Claims Against The Business

Creditors Owners

Creditors, Legally, Are Entitled To The First Claim

The Balance Is The Owner’s Equity If Liabilities Exceed Assets…

Owners Equity Is Negative Firm Is Insolvent Could File For Bankruptcy

Balance SheetBalance Sheet

For Trend AnalysisComplete At Same Time Each YearValue Assets Same Way Each Year

Asset ValuationCostCost Less DepreciationMarket Value

Balance Sheet TrendBalance Sheet TrendAnalysisAnalysis

Multi-year look at the Multi-year look at the Direction of progressDirection of progress

In financial performanceIn financial performance

Measure progress in Net Worth

The Income StatementThe Income Statement

Summarizes Farm’s Revenues & Expenses Over A Given Period Of Time

Provides Measurement Of Profit Should Be Prepared At Least Once A

Year, Although May Prepare More Frequently

The Income StatementThe Income Statement Revenue = Amount Received (Or To

Be Received) From Selling Grain or Livestock, Government Program Benefits, or Services Provided

Expenses = Amount Paid (Or To Be Paid) For Inputs Used In Production, Labor & Management Costs, & Noncash Items (e.g., Depreciation)

The Income StatementThe Income Statement Net Income = What Is Actually Made

By The Farm Business After All Expenses Are Paid

Net Income = Revenue - Expenses

Comparative Statements Comparative Statements AnalysisAnalysis

Compare Documents From One Period To The Next, Or To Budgeted AmountsAre There Major Changes?What Caused The Changes?

Calculate Difference In Absolute & Percentage Terms

Income and ExpenseTrend Analysis

Net Farm Profit +/-

Working CapitalWorking Capital

Money Used To Meet Daily & Emergency Expenses

Measure Of Liquidity WC = Current Assets – Current Liab. Guidelines:

Green: WC = or > than Current LiabilitiesYellow: WC < Current Liabilities but > 0Red: WC < 0

Rationale for Ratio AnalysisRationale for Ratio Analysis Financial Statements Are Only

Numbers On Paper Measure Health Of The Business

Compare Over Time, One Farm To Another, Or Against Benchmarks

Means To Control The Firm Easily Understood

Communicate To Interested Parties Outside Management (e.g., Lenders)

Ratio AnalysisRatio Analysis

Easy To Calculate, Compare, & Understand

Four Categories Of Financial Ratios:Liquidity SolvencyEfficiencyProfitability

Liquidity RatiosLiquidity Ratios

Measures The Ability To Pay Bills Or Short Run ObligationsWorking CapitalCurrent Ratio

Current Ratio Current Ratio Formula: Current Assets

Current Liabilities Function: Measure Of Short-Term Liquidity Guideline:

Green > 1.5 Yellow: 1.0 -1.5 Red < 1.0

Improve By: Current Assets Or Current Liabilities

Solvency RatiosSolvency Ratios

The Ability To Pay Debt Or Long Run ObligationsDebt To Asset RatioEquity To Asset RatioDebt To Equity Ratio (Leverage)

Debt To Asset RatioDebt To Asset Ratio Formula: Total Liabilities

Total Assets Function: Measures How Much Of The

Assets Lenders Are Capitalizing How much your lenders own of your business

Guideline: Green: < 0.3 Yellow: 0.3-0.7 Red: > 0.7

Improve By: Liabilities Or Total Assets

Equity To Asset RatioEquity To Asset Ratio Formula: Total Equity

Total Assets Function: Measures How Much Of The

Assets Are Funded By Owner Capital How much you own of your business.

Guideline: Green: > 0.7 Yellow: 0.7-0.4 Red: < 0.4

Improve By: Equity Or Total Assets

Debt to Equity (Leverage) RatioDebt to Equity (Leverage) Ratio

Formula: Total Liabilities

Net Worth (OE) Function: Determine Size Of Debt, Measures

Leverage Guideline:

Green: <0.43 Yellow: 0.43-1.5 Red: > 1.5

Improve By: Liabilities And Net Worth

Efficiency RatiosEfficiency Ratios

Relative Activity Of The Farm With Respect To Its Assets, Inventory Levels, Customer Credit Payments, & Its Own Bill PayingAsset Turnover

Asset Turnover RatioAsset Turnover Ratio

Formula: Gross Revenues Total Assets

Function: Measure Intensity Of Asset Use

Guideline: The Higher The BetterVaries Across Industries & Even Farm

Enterprises

Asset Turnover Ratio Asset Turnover Ratio BenchmarksBenchmarks

Enterprise Green Yellow Red

Cow-Calf >0.20 0.07-0.20 <0.07

Swine >1.10 0.60-1.10 <0.60

Cash Grain >0.35 0.20-0.35 <0.20

Feedlot >1.50 0.90-1.50 <0.90

Dairy >1.10 0.85-1.10 <0.85

Profitability RatiosProfitability Ratios

Indicator Of Business’s Profitability & Performance

Return On Equity Return On Assets Operating Profit Margin Ratio

Operational RatiosOperational Ratios Operating Expense: Operating Exp Gross Revenues Depreciation Expense: Depreciation Exp Gross Revenues Interest Expense: Interest Exp Gross Revenues Net Income Ratio: Net Income Gross Revenues

These Should Add Up to 1.0

Except depreciation & interest

Return on Equity (ROE)Return on Equity (ROE)

Formula: Net Profit

Total Equity Function: Measures How Owners Fared

During The Year In Exchange For Letting The Farm Use Their Money

If The Return On Equity Is 10%, Then $.10 Of Profits Are Created For Each $1 That Was Invested.

Guideline: Will Vary; Can Range From – To +

Return on Assets (ROA)Return on Assets (ROA) Formula: (Net Profit + Interest)

Total Assets Function: Measures How Owners & Lenders

Fared During The Year In Exchange For Letting The Farm Use Their Money Add Back Interest Because It Is Lender’s Payment

Guideline: Green: >0.05 (owned) >0.12 (rented) Yellow: 0.01-0.05 (owned) 0.03-0.12 (rented) Red: <0.01 (owned) <0.03 (rented)

Operating Profit Margin RatioOperating Profit Margin Ratio

Formula: Net Income + Interest Exp – Unpaid Family Labor & Mgmt

Gross Revenue

Function: Measures Return To Farm After Operator & Family Labor & Mgmt Claims That Can Be Used For Growth

SummarySummary

Using These Ratios Will Aid Management In Understanding Their Farm’s Financial Health & Performance.

Cannot Just Look At Ratios Alone Treat Them As Indicators