Basic Financials-Mariane Kiraly -
test Unit 3.1 Reviewing the Financial Position of Your Business Using Farm Records to Develop Financial Statements
How do you measure your financial health?
Financial Statements Cash Flow • Repayment • Liquidity • Profitability • Liquidity • Solvency
Financial Statements Cash flow statement Income statement •Cash income •Cash income •Cash expenses •Cash expenses •Changes in assets •Changes in liabilities Balance sheet •Net farm income, accrual •Assets adjusted (profit) •Liabilities •Net worth (owner equity) Source: Damona Doye, Oklahoma State University
Financial Ratios • Help to assess • profitability • debt capacity • financial risk • Ratios developed for each financial measure Picture source: http://bit.ly/1QOZ37o
What is Needed? • Asset and liability values • Scheduled principal and interest payments • Gross farm revenue • Net farm income • Interest expense • Depreciation expense • Nonfarm income, family living expenses, and income tax payments • Unpaid labor • Value of Labor and Management https://www.google.com/imgres?imgurl=https://upload.wikimedia.org/wikipedia/commons/b/b3/Basic_DIY_Tools.jpg&imgrefurl=https://ja.wikipedia.org/wiki/DIY&h=300&w=400&tbnid=aQ AUqfMVrHgjxM:&docid=e0fg4LSmv96R3M&ei=Bk--VsnpO8vW-QHypbKIBQ&tbm=isch&ved=0ahUKEwjJhPGKlvPKAhVLaz4KHfKSDFEQMwhSKCcwJw
Assessing Farm Viability • Viability is the ability of the receipts of the farm to pay expenses, make debt payments and provide for family living • Financial statements are the first tools to use after the farm records are in order • Records will include all income, all expenses, capital purchases, depreciation statement, cash balances, interest and debt payments, and inventories of crops and livestock • Most banks require financial statements but if you have no debt, you owe it to yourself to prepare financial statements for your own satisfaction and information
The Balance Sheet • A balance sheet is a snapshot of your business at any given point in time and should be done at least once/year • It is required by financial institutions if there is a loan in place, to obtain a new loan, or to refinance an old loan • A balance sheet indicates at what % equity is owned by the farmer • Do not be afraid of a balance sheet-it is a crucial component of your financial statements
Look at the Balance Sheet Information • Tom Smith did a balance sheet as of 1/1/2015 • Let’s review some details • Assets – Liabilities = Owner’s equity • ($422,300- $71,100) = $351,200 • Debt to Equity is 20%($71,100/$351,200) • Tom is in good shape financially
Liquidity and Solvency • Liquidity-ability of the farm to meet financial obligations as they come due. Tom Smith is solvent as the farm was able to cash flow the current expenses with current assets (Part 1) • Solvency-the ability of the farm business to pay all its debts if it were sold tomorrow. As you look over the balance sheet, you can see that Tom has more than enough capital to sell everything and pay off the debts.
Income Statement • Also called a Profit and Loss Statement • Takes into consideration inventory, accounts payable, accounts receivable and is based on accrual accounting and required by banks • Can be revealing to business owners who might think that the checkbook balance is an indicator of profit • Illustrates the “opportunity cost” of operating the farm as compared with another kind of occupation
Income/Expense Worksheet • Note that Tom has projected or actual income of $25,100 and expenses of $17,650. He made $7450 on the farm venture after all expenses were paid. He also cash-flowed, even if he had some low times, overall for the year he was in a positive cash flow position. He also “ate” some of the profits in the form of beef…he should put a value on that somewhere… • The rate of return depends in part on how much time Tom spent on the business. If his “opportunity” cost is $40,000 for full-time work and he spent 25% of his time working the farm, a $10,000 unpaid labor would be assigned. Since Tom is retired, he has no “opportunity cost”. It is an important concept to grasp and keep in mind for any business venture.
Cash Flow Statement • Also known as “Where did the money go? • Shows in gross terms the income, expenses, new loans, capital purchases, principal payments and money coming in from other sources • Is very illustrative of where the money went over the course of a year • Helps farmers see the “big picture”
Cash Flow Statement • Cash flow from operating • Farm receipts • Less farm expense • Net cash farm income • Less personal withdrawals • Less net cash withdrawals • Net provided by operating activities • Sale of assets such as those held long-term like machinery or breeding livestock are generally considered capital gain • Money borrowed is added into the cash flow statement and principal payments are deducted from cash flow • Beginning and ending cash are reconciled and anything coming in from reserves or going into reserves is noted
What about multiple enterprises? • It is important to recognize that a beef and vegetable operation may co-exist but they should be analyzed separately due to the differences between them • As best as possible, allocate expenses both enterprises have in common and overhead expenses accordingly • Sometimes, one enterprise can support another but it is good to know which is making money
Long Term Benefits • Those who track progress of the farm business have better records, make more money, and end up dropping enterprises that are not profitable • Those who understand the various ways to measure profitability can do so easily once they get started • Do not be intimidated by financial lingo-farmers need to be businesslike now more than ever • Ask for help to get started from CCE • Have confidence in your record keeping, keep on top of it, and learn as you go
Key Financial Ratios • When you have the records, you can make simple calculations to give you some financial ratios (and sound really smart to your lender) • From the Balance Sheet, you can quickly calculate: • Assets – Liabilities = Owner’s Equity From the Cash Flow Statement you can calculate: Debt/Asset ratio Rate of Return on assets Operating Profit Net Farm Income
How to Know if You are Making Money • Keep good records to get a basis for balance sheet, profit and loss statement and cash flow analysis • Look critically at the reports and do some simple calculations to see what the numbers are telling you • Keep in mind that you could be doing something else and that alternatives have an opportunity cost • Compare balance sheets from year to year • Remember that it is more important to enjoy what you are doing than making lots of money, but it’s nice to do both!
What tool is available to measure a change in the farm business? • It’s called a partial budget! • It measure just the change that you want to make • It’s quick and easy • It’s used a lot in farming business management
Partial budget to add a sweet corn enterprise
Assumptions behind the budget
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