Spring Training to the Field with Dr. Kohl
April 4, 2023
Two recent trips to Florida quickly reminded me that baseball spring training is in full force and ready to move to the regular season playing field where the games count. Those in the agriculture industry are in a transition mode taking their production, marketing, risk management, and financial plans into the field for execution over the remainder of 2023. In baseball, a successful triple play requires a special set of circumstances and superior execution by team players. Agriculture has its own triple play where the owners and managers must navigate extreme volatility in prices, high and sticky inflated costs, and interest rate increases reminiscent of the 1970s and 1980s. This will require an extra level of intensity to capitalize on the volatility while avoiding errors that can quickly occur if any of the three elements are mismanaged.
In the pandemic era, a sense of complacency in management intensity has ensued as a result of lush government payments and a false sense of security from paper wealth gains, specifically from land and real estate. In some cases, an increase in asset valuation can be used to mask mistakes in operational game plans.
Moving forward, key lessons learned in the past can be very applicable now and in the future. Business success and failure is magnified and can occur quickly as a result of bigger numbers in the cash flow budgets, income statements, and balance sheets. Monitoring finances only once per year for tax purposes is off the table. Comparing your projections to actual results at least quarterly is a best management practice by peak performing businesses. I chuckled the other day when I mentioned that we have been monitoring our creamery’s finances on a weekly basis for a couple of years only to find that five young farmers were following the same practice with success.
Geopolitical risk in this year's playing field is at an all-time high. The flip of a switch by a major export trading partner on a commodity could quickly change the level of prices for both outputs and inputs.
Both inflation and interest rate levels require vigilance in monitoring the impact of these elements on the bottom line. This is why a good set of financial spreadsheets with tabs designed to test assumptions and scenarios can be a valuable tool to keep the business within the guardrails of expectations. A three to five percent increase in variable interest rates could be in the game plan which impacts the cost of production and the cost of borrowed monies for long-term investments. With these increases in interest rates comes the economic term called opportunity costs. Alternative investments such as certificates of deposit (CDs), treasuries, and money markets are now generating a sufficient return on investment that may challenge some individuals weighing their options when making investments in other assets.
There is an old saying that when the business and, to some extent, personal households and governments get into financial difficulty, it is not about equity. The first financial stress point is when profits and cash flow are upside down and then financial liquidity and working capital are necessary.
Working capital, measured by the current ratio or working capital to expenses or revenue, is a key performance indicator (KPI) to benchmark your business. Your working capital strategy should have sufficient current assets that could be turned to cash within 90 days without disrupting normal operations. One metric is to have two times the amount of cash to cover obligations for a particular time period. In other words, if you had $100,000 in obligations, you would want $200,000 in cash. This strategy is resilient and can handle macro and microeconomic financial shocks. There are extra funds that could be deployed if opportunities such as purchases or changes in the marketing and risk management plan were to occur.
Equity is still important as a final backdrop. If cash flow and liquidity are insufficient, equity allows time for changes in the business game plan lineup. Managing the economic triple play and all of the possibilities of a negative economic environment where prices decline, and costs and interest rates stay elevated should be a high priority. However, if this does not occur then your business will be in a better position to take advantage of opportunities.
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