Farming is difficult! Weather and product prices, the two key factors that influence a farm's profits, are fully out of farmers' control. In many situations, a farm is also exposed to input cost fluctuations, which is also out of their control.
However, there are ways for a farm to effectively control its expenses. This article will concentrate on five methods that I've seen farms use to effectively lower their farm's cost structure.
They are, however, actionable ideas that can at the very least provide you with useful "fuel for thought. “When it comes to cutting costs, the most important thing to remember is that cutting yields is a bad idea. You must concentrate on the return on your investment. When it comes to farm expenses, the main theme is to trim the fat, not the muscle!
Let's take a look at some suggestions you can use as you prepare for the 2021 growing season.
1) Purchasing Seeds in Bulk
I'm going to take you through a scenario as I was looking over the financials of a farmer, and we were trying to figure out where we could cut his costs. We chose to concentrate on his seed buying process and costs. He gave me permission to share some estimated details of his 2019 maize seed purchases.
His maize seed cost per acre was $5-10 more than my typical customer, but it wasn't outrageous. The fact that he purchased comparatively small amounts from eight separate manufacturers, foregoing discounts in the process, stood out to us. We agreed to consolidate his seed purchases to the 2-3 top-performing brands for his operation, and distribute the final purchases based on who he felt gave his operation the best ROI, given the scale of his operation.
One takeaway from this review was that his maize outperformed his other production over the previous three growing seasons. My conclusions are based on numbers. I have agronomic views from time to time, but the final agronomic decisions should be made by those who know more than I do. He sent an RFQ (Request for Quote,) to the salesperson from each of the top three performing seed companies after his in-depth seed performance review. He also provided field maps and asked each salesperson for the most cost-effective seed recommendations and costs for each field if he gave them all of his business. To qualify for discounts, you don't have to be a big farmer.
Analyze your seed results as soon as the harvest is over, and start talking to your seed dealers about how to get the most out of your seed purchases next year. Given that seed suppliers normally have to chase down their customers to obtain orders, approaching them proactively would be a "breath of fresh air" to them. Consolidating seed purchases will result in significant cost savings that are well worth the effort.
2) Develop a Professional Input Purchasing Process
You need to get the most bang for your value when buying farm inputs. It's important to note that I said "value" rather than "price. “The cost/value of inputs for your service is divided into two parts:
- The product's actual cost, and
- The value of the service you receive in exchange for the product's purchase.
Farming is a one-of-a-kind industry where "service" can be extremely valuable. Finding the best price isn't always the most important factor. On the other hand, timely delivery and/or application of goods can be just as important. Formally requesting a quote is a straightforward procedure. It only takes a few minutes to create a simple form with your appropriate product(s), desired amount, and any special delivery or financing terms.
I suggest using an RFQ mechanism for your annual input transactions to ensure you're getting a fair price. Even if you just submit it to one vendor, it provides clarity and a paper trail for tracking your transactions. If you send out RFQs in a timely manner, your suppliers can be able to take advantage of volume discounts that they will pass on to you. An RFQ input buying program's objectives are to
- ensure you're getting a good price for your purchases,
- make it easier to monitor prices and quotes over time, and
- enable your suppliers to find you the best deal.
3) Chemical Purchasing Intelligence
Farm chemical programs must be carefully evaluated by today's farmers in the future. Low product prices, combined with ongoing weed resistance problems, have necessitated difficult chemical purchasing decisions. The explosion of resistant weeds has significantly increased chemical expenditure after a time of flat to declining chemical costs.
When updating your chemical program, here are a few actionable thoughts/ideas to consider.
As always, each farm is special, so do what works best for you.
- Examine generic substitutes. I've seen farmers achieve excellent results by substituting a sub-$10/acre generic herbicide for a $20/acre+ pre-plant herbicide. Spend some time researching the various options that are currently available on the market.
- Do you want a warranty or a guarantee? Many growers were being sold an aphid insecticide with a 21-day re-spray guarantee for up to $6/acre last growing season when an alternative product was selling for around $2.50/acre. And if you had to spray again during the 21-day timeframe, you were still saving 20% over the commodity that came with a guarantee.
- Free trips should be avoided. Everyone (including myself) enjoys a free ride! Take a few moments to double-check that you aren't wasting $20,000 on a $3,000 flight. At times, a simple calculator can be your most valuable asset.
- Avoid deals at all costs. I've recently heard of deals in which you get a free chemical if you buy a certain amount of another chemical. When we ran the numbers with a producer, we discovered that the purchased chemical's per-acre quantity was much more than he needed for his service. Spend some time comparing prices from rivals, similar to the bullet point above, to ensure the sale is a good one. Weeds that are resistant to herbicides will continue to be a problem in the near future. It's easy enough to "throw the boat" at them. However, at the end of the day, you should be looking for new alternative goods and maximizing your return on investment. The most expensive options aren't always the most effective!
4) Have a rent structure that is flexible.
In a low-commodity-price setting, a flex lease is an excellent way to reduce your farm's cash outlay. Although cash rentals have become the standard, landowners are increasingly willing to see flex leases as a way to protect their investment. Here are a few obvious ways to make a flexible farm lease beneficial to all parties. It must be easy and concise, as well as allow for an equal distribution of risk and reward.
It should be remembered that the lease contains a written provision requiring the occupant to make extensive drainage improvements. These enhancements, combined with the bonus structure, enabled this producer to acquire a desirable farm on favorable terms (in my opinion).
In order to take advantage of this opportunity, this producer gave up 200 acres of less profitable farmland that he had rented from a farm manager. He effectively reduced his base rent by more than $50 per acre while acquiring more profitable land.
Although this situation is unusual, flex leases are becoming increasingly common. You owe it to your business to at least talk to your landlords about flex rentals. Overall, don't believe that rents will ever decrease. Request a discount in exchange for a bonus (the bonus can be land improvements). I've seen it perform very well.
5) Improvements to the balance sheet
In today's volatile world, restructuring your farm's debt can be a great way to optimize cash flow. Let’s take a look at a situation in which a producer was able to dramatically reduce their annual equipment debt service by taking a few easy steps. To maintain confidentiality, I've adjusted a few of the precise numbers, but the ratios remain correct.
- Area of the farm: 8,000 acres
- Principal balance at the start: $1.3 million
- Average rate of interest: 4.6 percent
- Term length: 4 years on average
- Annual debt service on equipment: $356,436 (or $44.55 per acre)
- Total amount due in interest: $125,749
Since this producer had a healthy level of working capital (roughly 50% of revenue), he agreed to pay off two of the highest-interest loans, totaling around $250,000, before the restructuring. He had a working capital ratio of 42.1 percent after paying off $250,000 in debt. We were also going to sell the bank these two pieces of equipment as protection against a new combined term loan while he paid off these loans. This was the bank's answer to our "ask."
- Amount of new principal: $1.05 million
- 75 percent interest rate
- Duration: 6 years
The final interest rate agreed upon was 3.9 percent. Let's take a look at the new cash flow commitments that come with this loan.
- A new interest rate of 3.9 percent has been created.
- New six-year term
- Annual debt service: $196,560 or $24.57/acre (a $159,876/year decrease)
- Total interest to be paid: $129,334 (a $3,585 increase). This producer invested $250,000 of his own money to save almost $160,000 a year on his cash outlay. It is now up to the producer to invest these savings in continuing to develop his working capital/equity, rather than simply renting out uneconomical land.
The following are the keys to making this work in your company.
- Familiarize yourself with the numbers! - You should have easy access to your loan payment details so you can quickly and accurately evaluate various scenarios.
- Keep a debt payment calculator with you at all times.
- Keep a strong working relationship with your banker. Obviously, indeed.
The bank should present your proposal to you, not the other way around.
Debt restructuring doesn't necessarily have to happen when you're in a bad financial situation. It should be reviewed on a regular basis in order to optimize your farm's cash flow. Sound farm financial management entails optimizing the farm's balance sheet.