Measuring the capital efficiency of your dairy farm

0
87
corn kernels and dollar bills
(Farm and Dairy file photo)

The Dairy Excel 15 Measures of Dairy Farm Competitiveness bulletin published by Ohio State University Extension provides dairy farmers with the ability to evaluate business competitiveness using financial and production information.

Measure five, Capital Efficiency, is discussed in this article.

Asset Turnover Ratio

We evaluate capital efficiency by determining the Asset Turnover Ratio (ATR) of the farm. This measure evaluates the efficiency by which all farm assets generate revenue. The higher the ATR, the more efficiently assets generate revenue.

The measure is a simple calculation: Calculation — Gross farm income/average total farm assets = Asset Turnover Ratio (ATR).

Example: $1,450,000 gross farm income/$2,400,000 average total farm assets = 0.60. ATR Competitive level: Greater than or equal to 0.60.

Gross farm income includes cash farm income adjusted for changes in inventories from year to year. If, for example, you have the same number of livestock in one year as the previous year, except for five additional springing heifers worth $10,000, add this $10,000 to gross farm income. If you have $20,000 less feed on hand than in the previous year, reduce gross farm income by $20,000.

Average total farm assets is the average of the total farm assets at the beginning and at the end of the year.

Farms that should have a higher ATR are those that rent their facilities or that rent some or all the land that they might use to grow crops. Farms with greater investments in land or very expensive land and/or facilities usually have a lower ATR. It is up to the individual dairy business to determine if the return the business is generating is acceptable relative to the investment in these assets.

Assessing your ratio

If the asset turnover ratio is below 0.60, the first question to answer is, “What is out of line?” Are the gross revenues too low, are average total farm assets too high, or are both causing problems?

On dairy farms, the quantity of milk sold and the milk price impact gross revenues most significantly. If milk production per cow is normal, herd size is adequate, cull and other sales are normal, and milk prices are not depressed, then the problem may be with total farm assets. Many dairy farmers commonly tie up more money in their farms than is necessary to run them.

For example, due to large investments in land and large equipment, grain farmers usually have a lower ATR than dairy farmers. Dairy farms are also seeing lower ATR as they invest in large harvest equipment; some operations may benefit from custom hiring some harvest or other field operations.

Some dairy farmers could increase their net incomes and their ATR by reducing the acreage of crops they raise and better managing the dairy enterprise. Building new facilities, such as parlors larger than herd size dictates, can cause low ATR. Once built, only generating more income relative to the investment will change the ATR.

Another factor that can cause a low ATR is high-priced land. The value of some dairy farmers’ land has increased significantly as a result of urban and other development pressures. Higher land values reduce ATR.

If the cows are not being asked to pay for the high-priced land (the land was purchased before land prices increased), the dairy operator may be satisfied with a lower ATR if the farm is profitable and meeting other goals.

If asset levels are reasonable, production issues may be causing a low ATR. Many competitive farmers adopt new management practices, cautiously overfill their facilities and milk more than two times per day to reap the most profit from their investments.

Most people do not like to move their businesses. This reluctance, along with the desire to hold on to the property until the price goes higher, causes some farm businesses to stay on high-value farms when perhaps they should not. If the farm family has adequate income to live on, and the land is appreciating enough to justify continued ownership, then a low ATR may be acceptable. However, a business struggling to pay the bills and provide for family living should strongly consider cashing in or trading the farm.

Different methods of calculating ATR

FINPACK uses a different method of computing ATR than the New York Farm Business Summary (NYFBS). Both methods are acceptable, but they give different results.

The NYFBS uses the gross revenue approach based on gross farm income as shown in the previous example. FINPACK uses the value of farm production method, which results in a lower ATR.

FINPACK users who want to compare with this measure should calculate their ATR manually using the formula provided in this article. If you are interested in learning more about the FINPACK program, contact your local extension office or visit https://farmprofitability.osu.edu/.

STAY INFORMED. SIGN UP!

Up-to-date agriculture news in your inbox!

NO COMMENTS

LEAVE A REPLY

We are glad you have chosen to leave a comment. Please keep in mind that comments are moderated according to our comment policy.

Receive emails as this discussion progresses.