RISK MANAGEMENT OF WORKING CAPITAL
How often do you hear those words each week?
Are those words getting tiresome?
Do you wish you’d hear them less often?
Well, there is a way to hear them less often. It starts with all of agriculture doing a better job of risk-management. Until the entire industry does so, all of us who advise the industry will keep banging that drum.
One way to do a better job of risk-management, is to recognize that it applies to more than prices and yields.
But on that note, what good is managing market-risk, if one doesn’t know his true cost of production? (Is that another term we’re all tired of hearing?)
If one doesn’t know his accurate true cost of production, how can he expect profitability?
If one cannot determine profitability, how can she manage cash flow?
If one cannot manage cash flow, how can he protect working capital & liquidity (cash)?
Working capital, especially cash, is the life blood of any business, and it must be protected as such. Working capital, especially cash, is most at risk:
- After a poor crop
- When debt levels are high
- When cash is used to acquire long and/or medium term assets
- During expansion (like when another partner or the younger generation joins the business)
- During succession (when you or your parent’s generation is leaving the business)
Having an accurate understanding of your future working-capital requirements, then building a strategy accordingly, is imperative to giving you, and your business, a fair opportunity to succeed. Your strategy, whether it be for continued business operations, succession, or anything in between, must include contingencies. Without contingencies, planned for and in place, the littlest glitch can derail, not only your plans, but your entire business.
Recently, I’ve begun interactions with a prospective client. The family has been informally advancing family-transition. “Informally” because there is no plan in place…yet. Everyone is working together to “see how it works”, and if there is a realistic potential for the younger generation to take over. Dad still runs the show, and, while he is eager to let go of the reigns, everyone agrees, there needs to be more confidence that everyone who wants to take over…actually can.
After a couple years of harsh weather kicking their revenue in the teeth, working capital has dwindled to a point where Dad is now questioning, whether he can support the younger generation in their upstart years, and still retire comfortably. Selling (or renting out) the farm, has creeped into the conversation, because working capital is less strong.
This scenario plays out in many family farms each year. And the scene can be amended to read, “expansion opportunities” instead of “family transition,” but the outcome is the same: best laid plans get changed (or scrapped) very quickly, when cash is eroded.
This family didn’t do anything wrong. Like anyone (everyone), there are some things they might have done differently, with the benefit of hindsight. They are sticking to their plan, for now, but everyone fully acknowledges what must happen over the next year or two, in order to stay on this track.
Negative jolts to your working capital, especially cash, will have a ripple effect that is far-reaching. On the other hand, knowing your working capital requirements, and controlling them stringently, can smooth rough waters; it is your best risk-management practice, bar none.
Kim is a champion and AGvocate of improved farm business performance. With the unique ability of fostering strong business relationships. Kim took his near decade in the financial industry plus his lifetime of on-farm experience to create “Growing Farm Profits.” Kim focuses on helping clients elevate their management strengths, identify and mitigate business risks, and improve business profits leading to greater personal wealth. Kim is a Certified Financial Planner® and he holds a Bachelor’s degree in Financial Services and a Diploma in Agri-Business.
K.Ag Growing Farm Profits Inc. improves farm business performance by providing farm owners with timely, strategic advice in farm financial management. We help take the emotion out of decision making so that business owners like you can enjoy increased confidence allowing you to make important business decisions quickly and accurately. Our proprietary services assist farm business owners to significantly improve their financial confidence and rapidly increase their efficiency. By dramatically “Growing Farm Profits,” our clients enjoy less financial constraint and demonstrably enhanced personal wealth and business valuation.