TEPAP – Day 2 Jim Nolen

For anyone that has attended TEPAP, the days get long and conversations run late into the evening so I’m a few days behind on my posts.

The first speaker on Monday was Jim Nolen from the University of Texas. One of the key points he made is public companies get feedback from the market. For private companies, the only place to get financial feedback is from their accounting systems and managerial accounting is critical to provide that.

He also made a good distinction between accounting and finance. Finance is generally focused on managing the balance sheet while accounting focusses on the P&L. He emphasized the need to understand the relationship between the balance sheet and desired growth rate. Growing too fast can kill a business when sales grow faster than the balance sheet can support that growth. For many operations, this will probably be their downfall in the next couple of years.

We also had a discussion on relationships with your banker, especially during tough times. As someone who has served on bank boards, he gave us some good advice on working with your lender during times when margins are tight.

I had a chance to get his comments after his discussion and you can listen to those here.

Jim Nolen Inteview

The second speaker was Peter Zeihan who gave us an overview of world geopolitics. His big message was that the United States is positioned to be the world leader for several decades.  The two driving factors behind that are people and energy.   Demographic trends throughout the world are working against most countries as their populations are aging and their won’t be young people coming into the work force to support social programs or spur economic activity.

The second factor is energy.  The United States is in the process of disengaging from the rest of the world because we are functionally energy independent and no longer dependent on the middle east.   The rest of the world due to debt levels and shortage of energy in the future will be in a much weaker position than America.  

For agriculture specifically, he was bullish on American agriculture in the medium to long term because we will have access to capital and resources which won’t be guaranteed for the many agriculture producing regions.  If you would like to read more, you can get his book entitled THE ACCIDENTAL SUPERPOWER

TEPAP – Day 1

On Sunday, Dick Wittman did a presentation on basic farm financial skills. As a class, he had us take a set of financial numbers and report them on both a cash and accrual basis. I would say less than 10% of the class got the right answer.

Dick emphasized the need to be able to report your numbers on an accrual basis in order to understand if you are really making money or losing money.  Tax basis reports are of little value for managerial accounting.  If you don’t do this, chances are the banker does and can help you generate reports like this.

That was followed up with a discussion on deferred tax liabilities. Dick provided two examples in particular that really hit home on the danger of managing around taxes only. Using section 179 depreciation on machinery while financing that equipment with debt can leave an operation vulnerable to this current economic downturn. Many operations now have loan payments coming due, have to sell grain to pay for that equipment, but have tax due on the income because they have used up the deductions with accelerated depreciation.

The second example focused on how deferring taxes can make you a poor marketer. The example of holding grain when at a high price and waiting until prices are lower costs way more than selling and paying the high price. Marketing should be a separate decision from tax planning. If not, it often drives sales at low price or the wrong time of the year.

Finally, we talked about several key ratios. Debt Repayment Capacity is one of two we discussed that I think is critical to know. Basically when calculated, it simplifies things down to how much cash flow do I have vs. how much debt do I have to service every year. The last ratio that we discussed is the Sustainable Growth Rate Ratio. If your business is growing, this is the maximum rate your business can grow without depleting your assets.

I had a chance to catch up with Dick for a quick interview and you can hear his comments here.

You can find a lot of good free resources here on his website.  I use his workbook with many of my clients and have found it to be very useful.

http://www.wittmanconsulting.com/

 

 

“Why Do My Accrual And Cash Reports Look Identical?”

Most accounting software programs allow reports to be run both accrual and cash reports.  Often times a client or prospect will ask me why the reports look the same.

In order to show differences, you first have to have a way to show two different dates for the transactions, a cash date and an accrual date. The most simple way most software programs do this is through the use of forms. The general rule of thumb is if you enter a transaction once and are done with it, it will be the same on a cash and accrual report.

The following image is from Quickbooks, but most software follows a similar process.

The red numbers show either a 1 step (cash) process or a 2 step process (accrual) expense transactions. The blue numbers show the same example for income.

By splitting the transaction into two forms, the software is able to split the date of when the transaction occurred from when it was paid, hence cash and accrual reports. Continue reading

Accrual Income Statements – Do You Need Them?

Last night I was reviewing a presentation made by Dale Nordquist at the 2013 National Ag Bankers conference entitled “Shortcuts to Accrual“.  The following items are some highlights that stuck out as I read the presentation.

  • 16 of the 21 ratios endorsed by the Farm Financial Standards Council require accrual adjusted income statements.  Balance sheets are not enough.
  • Cash basis income statements average 41% to 67% difference from accrual adjusted statements.
    • For Farms with over 40% debt levels, that average profit difference has been consistently over 60%.
    • Recent history shows cash statements understating income.  That may change in 2014 and 2015.
  • There are two methods mentioned to calculate accrual income: Schedule F and Earned Net Worth Change.
  • The Schedule F method requires fiscal year end balance sheets.
  • If you don’t have fiscal year end balance sheets to match the tax return, then you need to use the earned net worth change method.
  • Handling depreciation and cost vs. market values on fixed assets correctly is important for accuracy.

I would encourage you to download and review the link. It is a good presentation with several key challenges and issues highlighted.

 

Dave

Accounting From The Tractor Seat

Next week, I hope we can get started planting. I’m already thinking about the type of information I may want to capture to improve my accounting systems.

Today, I’m going to reflect on an exercise I did a few years ago. I wanted to know how much we lost in productivity and increased our costs on a difficult vs. easy to farm field.

Generally, in doing an analysis like this, I will pick my most easiest and most difficult fields to measure.  In order to do that, I simply wrote down 3 numbers for two fields as I was planting those two fields.

1.  Total gallons of fuel used per field / acres planted = gal. per acre.

2.  Total hours to plant (less breakdowns/fill time) / acres = acres per hour.

3.  Total man-hours including the support person who was tendering seed etc.

What I found was the “marginal” field cost considerably more to plant.   At the time we had a 16 row planter and my acres per hour dropped from 25 acres to 15 acres per hour just due to the turning, point rows, etc.   My fuel consumption increased from about .3 to .5 gallons per acre and man-hours went up as well.  When multiplied across every trip in that field, the cost per acre was considerably higher in that field than the nice square quarter I had just finished before that.

I was able to use the final calculation 3 ways.

1.  Would it pay to increase planter size since my tractor could handle a bigger planter?

2.  When multiplied across several trips, how much should I adjust rental rates for various farms?

3.  I created a sliding scale that could be applied to all our fields to allocate cost per acre for planting and eventually for other tillage operations.

In my next post, I’m going to go deeper into how I use that information for other decisions.

This little exercise can be done with any tillage, spray, or harvest operation.    It also creates a benchmark for your own productivity to measure yourself against in the future.

Dave