Farm Financial Planning Tools
Farm Business Management Update, August 2002
By Daniel Osborne
You have heard the phrase "survival of the fittest." With today's competitive markets, survival of the fittest seems to be the reality for local farm businesses. The best farm managers are the ones surviving, while the less fortunate managers are fading away. One of the key ingredients that the best farm managers use is planning. Trying to run a business without a plan is like going canoeing without a paddle. Who knows where you will end up?
The process of financial planning allows you to explore different scenarios for their financial feasibility before the scenario actually occurs. In other words, you can tell if a course of action is likely to result in a huge loss or lucrative gain. Three tools you should use regularly in your farm financial planning are budgeting, cash flow projecting, and break-even analysis. Use of these tools allows you to make the mistakes on paper rather than in reality.
Budgeting is a process in which you project your revenues and expenses for a specified period of time. Keep in mind that historical financial figures together with known changes are usually the best indicators for projections. After you develop a draft budget, you can analyze whether expenses need to be cut or revenues need to be increased. Once a budget is adopted, it should be used to guide your spending.
Cash Flow Projecting is a process in which you project the cash inflows and outflows over a period of time. The difference between budgeting and cash flow projecting is that budgeting projects income which includes non-cash items such as depreciation while cash flow projecting involves only cash items and considers the beginning and ending cash balances. Cash flow projecting allows you to determine your financing needs.
A break-even analysis uses the formula (quantity x price) - (quantity x variable cost rate) - fixed costs = 0. It is a tool used to determine how many units of a product need to be produced to cover the costs of production. Breakeven analysis can also be used to determine the price that needs to be charged to cover costs when the quantity of units, variable cost rate, and fixed costs are specified.
Rather than taking the chance of just floating with the current, ask your area Farm Business Management Extension Agent to help you use these financial planning tools.
Contact the author at email@example.com.
Visit Virginia Cooperative Extension