Transition Time for the Cattle Business: Part 1, Feedlots

Cattlemen are experiencing both long- and short-term effects of the transition to more beef production.

“The feedlot business has really seen a boom–bust move over the past few years,” said Jay Wolf of Wagonhammer Cattle Company, part of a diversified Nebraska ranching business that has been family owned for more than 100 years. “At our Albion feedlot, we often own animals for more than 12 months. We thought that sometime during that period we’d see an opportunity to at least lock in breakeven but that has not occurred.”

Looking at the most recent move, June fed cattle prices, which had traded in the $132/cwt. area in mid-March, fell to $114 in late April before more recently improving to $122 to $124. Negative price action in April took many by surprise since it came during a month when prices usually trend higher, before dropping to summer lows (see seasonal price chart).

Choice Steer Chart
The reason: Slaughter picked up before grilling season demand was able to do so. The last two weeks of April saw steer/heifer slaughter near 590,000 head/week – more than any other week since August 2013 – and the month’s total was 6 percent over a year earlier. Analysts had expected numbers to be flat or lower compared with last year. A fairly large kill is expected to continue through May.

Packers had seen their bottom line move into the black and encouraged pulling sales forward to take advantage of April futures being sharply discounted to cash prices. That now has reversed because they were forced to discount boxed beef prices to move product.

The good news is the industry now is current. As the USDA’s May 12 data in the chart below show, weights now have fallen to 2015 levels. Given the seasonal pattern, it’s likely they’ll begin heading higher again in the next few weeks.

Weekly Steer ChartRetailers are well stocked and should have enough beef to run features through May, fueling up grills as Memorial Day approaches, albeit six days later than last year.

“The big question for the short-term now is whether beef demand will be sustained after the holiday,” says Steve Meyer, coauthor of The Daily Livestock Report.

With recent high numbers moving, fed-cattle supplies are projected to slide lower into July. In this month’s Cattle on Feed report, cattle on feed 150 days or more are projected to be 14 percent below last year, according to Steve Kay of Cattle Buyers Weekly. CattleFax estimates a reduction of just 1 percent. This could lead to contra-seasonal price strength during June (see seasonal price chart), some analysts believe.

In addition, beef supplies in cold storage are being drawn down: In its April report, USDA reported inventories dropped 5 percent from the prior month and were down 10 percent from two months earlier. Compared with a year ago, there was 3 percent less on hand at the end of March than a year ago and a half percent less than the five-year average. Lower imports are helping reduce available supplies.

Demand side

Not only are we entering a seasonally stronger time frame for beef, but exports are showing signs of improvement as well – especially in Asian markets such as South Korea and Taiwan, where volume in the first quarter jumped 25 percent and 20 percent above the same time last year. Our long-term top market, Japan, boosted purchases by a more modest 9 percent from a year ago. First-quarter exports to Canada fell 9 percent and to Mexico, 14 percent, mainly due to exchange rates.

“Exports are critical to beef producers,” said Wolf, “And the last year or so was frustrating, both because of the strong dollar and the fact that Australia was able to negotiate lower tariffs in Asia, putting the United States at a disadvantage. It is encouraging to see some improvement in 2016, but the beef industry really would like to see the Trans-Pacific Partnership signed into law.”

What’s Next

The earlier-than-expected downturn created some potential for producers to lock in breakeven or even a small profit on the next turn of cattle, noted Adam Wacker, Frontier Farm Credit vice president, credit – beef industry.

“By at least one profit estimate, cattle put on feed in the second week of May had a projected breakeven of about $116/cwt. and the futures price for when they leave the feedyard in mid-May was about $118/cwt., implying some profit potential, subject to basis at the time of sale.

Click to read Part two in the series on Cattle Transition: Cow/Calf Caution

Apply Marketing Tools to Capture Profits

Corn and soybeans futures reached two-year highs in recent weeks as part of a broader surge in commodity prices. July 2016 corn futures, for example, climbed to $4.07 and currently are at $3.96. Soybean futures are bouncing between $10.60 and $10.90. Not accounting for basis, this is well ahead USDA’s cash price forecasts of $3.60 for corn and $8.85 for beans for the 2015/16 crop year.

Market rallies in today’s low-price environment are critical windows of opportunity for producers positioned to take advantage of them. While many will speculate on the how long and how high a rally will last, good marketers understand that locking in a profit requires applying some tried-and-true rules to their marketing:

  • Know your breakevens. The closer to the penny, the better. Otherwise, you are throwing darts at an unknown target.
  • Identify your desired profit per acre or profit per bushel to establish your profit target. This takes away the emotion that often enters marketing decisions.
  • Remember that marketing isn’t a one-time decision. By selling your crop in increments — up to your crop insurance guarantee – you reduce some of the emotion of marketing.

Price changes offer good opportunities to review your farm’s profit potential. Once the crop is in the ground, update costs as well. We offer Manage Profits to help you understand and identify market opportunities. Manage Profits, which is free to customers through AgriPoint®, has all of the basic components to manage risk in production agriculture.

This easy-to-use tool allows you to manage crop and livestock production, track marketing progress, crop insurance, generate profitability reports and stress test the business with what-if scenarios. The what-if analyses involve plugging several variables into an operation’s current plan to see how one or multiple changes, including futures prices, affect profitability.

To learn more about Manage Profits, log into or enroll in AgriPoint. Click on Manage Profits. There, you will find an informational video to get you started. Click on “Help” in the upper left hand corner for a user guide with step-by-step instructions. Contact your local Frontier Farm Credit office for further assistance.

Creating and Understanding Your Balance Sheet

In a down cycle, many producers focus first on cash flow, seeking places to trim costs and assessing whether income will cover expenses. But it’s important to also pay attention to the farm’s balance sheet because it addresses an operation’s long-term viability.

A balance sheet is quite straight-forward: Current and noncurrent assets are listed on one side, current and noncurrent liabilities on the other side. The difference in the totals is an operation’s equity – a point-in-time snapshot of an operation’s solvency.

Most businesses update their balance sheet at the end of the accounting period, such as the end of the tax year. Some check their numbers quarterly. Lenders will ask to see up-to-date balance sheets to determine an operation’s net worth, as well as to generate a number of ratios that provide insights into your operation’s financial health.

Assets

Let’s look first at the asset side of the balance sheet. Assets are everything owned by a business or individual. Current assets are considered “liquid”—those that are cash or can be turned into cash promptly, including checking and savings accounts or mutual funds, stored production (such as grain in the bin), market livestock and growing crops, feed on hand, paid-for but not yet used inputs or other supplies, and accounts receivable.

Noncurrent assets are those that can’t be readily sold, such as machinery and equipment, vehicles, breeding livestock, co-op stock, farmland, your house, other buildings, or a retirement account that is subject to government withdrawal penalties, etc.

Liabilities

Current liabilities are those that are due right away—usually within the next 12 months. These include accounts payable (such as for inputs, or land rent), farm taxes, current notes and credit lines, accrued interest on operating or term loans, the current portion of principal due in 12 months, credit card debt or loan payments to family members.

Noncurrent liabilities include loans used to purchase assets that have a life-span of more than a year, such as vehicles, machinery, farm ground or a home. They also could include an agreement to buy out a partner or a parent’s share of the business.

Valuation Issues

While the concept of a balance sheet is fairly simple, it is not without gray areas. For instance, how do you value grain in a bin or market livestock? Machinery or equipment? Farmland? Do you use a cost basis or market basis? In some cases, the resulting value can be quite different.

For production of commodities such as grain and livestock, using a market valuation makes sense. The market price might be one that is locked in on a sales contract or a local destination’s delivery price. While the value of unsold inventory changes daily, producers commonly use prices for the date their balance sheet is completed to capture the value of their assets.

Putting a value on vehicles or machinery is more difficult. A piece of machinery that cost $250,000 new will be valued differently at today’s replacement cost or trade-in market value. Depreciation is used by many producers to account for changes in value. Just be sure to depreciate every year to ensure consistency in tracking values and to capture any moves in the market for resale or trade purposes.

The value of farmland and other noncurrent assets also changes over time. Again, consistency is key. If you always carry assets at a cost basis, continue to do so. This will help you avoid any misrepresentation of a balance sheet due to variances to the market over time.

Liabilities are a bit easier: Terms of loans are spelled out and the repayment amount as of a given day, even for credit cards, generally can be accessed online.

An easy check and balance is to match assets to liabilities. Most assets will match up to a liability. For instance, if a growing crop is listed as an asset, check that accounts payable for associated seed, fertilizer and chemical have been included as liabilities.

The Bottom Line

The balance sheet is a tool to identify and determine the strength of your operation or your reserve risk-bearing capacity. If you are consistent in how and when you capture your assets and liabilities, it is easy to see your operation’s financial progression from one year to the next. It also is important to share with your lender your chosen methods for tracking the value of your assets so everyone has a clear understanding of your operation’s financial health.

AgriPoint®, one of the free digital tools available to customers of Frontier Farm Credit, includes a worksheet with current assets and liabilities, followed by noncurrent assets and liabilities. When you click a category, it provides a drop down menu of items that fit the category. You can enter what the item is and the amount. As you progress through the form, it automatically calculates your working capital and net worth. When you are finished, you can save your balance sheet for future use, and a click of a button will turn it into a PDF you can file or email, etc.


Uses of the Balance Sheet

Balance sheets are a great tool to evaluate alternative debt structure options that will assist in managing through difficult times. Whether you are creating a balance sheet for your banker or for your own use, here are some measures of your financial position that your balance sheet will provide:

  • Solvency measures the relationships among assets, liabilities and equity to assess “health” of your operation.
  • Liquidity measures the operation’s ability to meet current financial obligations as they come due without disrupting normal business—the ability to generate cash in the short-term.
  • Trends: As you update your balance sheet from year to year, you can see whether your business is progressing—whether equity is growing or shrinking, and whether you are maintaining adequate liquidity.

AgriPoint® includes an option to create trend reports, which show how your operation has been performing historically. The online tool also can run scenarios on how a purchase – or change in price – would affect various aspects of your operation and bottom line.

financials

Cash-flow Budgeting: About Amount and Timing

Cash-flow budgets can be difficult to create for a farm business, but they are important to lenders for two reasons. First, lenders want to know if income from a farm will be more than the expenses. Secondly, will a producer be able to pay bills on time?

While producers generally know when bills are due and production will be ready for market, input costs and production sales prices often are entered as estimates on cash-flow budgets – and these can vary greatly. As a result, many producers update cash-flow projections quarterly or even monthly.

The steps outlined below are key to helping you and your lender understand your cash flow for the year.

Cash Inflows

Inventory any production on hand, whether it is crops in storage or market livestock. If you have a recent balance sheet, these would be in current assets. Next, estimate when and for how much you might sell that production. If you’ve already contracted part of the production, enter the quantity, delivery period and price for that portion. For any remaining production, producers often pencil in the current futures price (adjusted for their local basis) for the month in which they expect to deliver production.

Next, include line items for other income, such as government payments of any kind, crop insurance indemnity, custom work, farm rent paid to you, interest, etc. Sales of capital assets, if any, would have a line of their own. Separately, add any short-term and long-term loans you have made that will be repaid. Finally, include any non-farm income that applies to your operation.

Cash outflows

Calculate your operating costs. For crops, this includes seed, fertilizer/lime, chemicals, crop insurance, drying costs, and any custom hire or machinery rental. A case can be made that an amount should be set aside for marketing—an advisory or information service, brokerage fees, etc.

If you have livestock, include any purchased crops/feed, purchased livestock, vet and health product costs and marketing expenses.

Next, enter fixed expenses, overhead, or other expenses not allocated to a specific enterprise. Examples include real estate taxes; cash rent; hired labor; machinery repairs, upkeep, fuel and lubrication; and equipment leases.

Purchases of capital assets (total for the year) warrant a line item.

Also on the debit side is financing: accounts payable, short-term notes due, long-term loan payments and any installment contract payments.

Finally, include an estimate of taxes due and family living expenses—unless family living is financed from off-farm income. If the manager doesn’t draw a salary, a “return to management” and/or a profit target should be included, as should any planned off-farm investments.

Bottom Line

The resulting calculation of income minus expenses lets you know whether your business will cash flow. Looking at the different time periods tells you whether you need to move income into specific months to cover expenses.


AgriPoint® includes an annual cash-flow budget tool that is free to customers of Frontier Farm Credit. It does not allow entries by month, but its drop-down menus help categorize income and expenses. Kansas State University offers detailed crop and livestock budgets.


Solutions Rang Home at 2016 GrowingOn® Meetings

Heading into a year when the overall tone in agriculture is pretty negative, the focus of Frontier Farm Credit’s GrowingOn® meetings was to provide producers with solutions to tight or negative cash flow situations.

Three meetings featuring Steve Johnson, farm and ag business management specialist with Iowa State University Extension, drew more than 240 attendees. The response to the problem-solving approach was overwhelmingly positive.

“Big thanks! Knowledge is power and you have the power!” one attendee declared.

“Answers for the Current Ag Cycle,” presented by local Frontier Farm Credit leaders, shared ways to maximize revenue insurance guarantees and narrow the cash flow gap through crop insurance. It then provided financial guidelines and demonstrated the value of controlling fixed costs. Click to view the Association’s PowerPoint.

In his “Solutions for Success” presentation, Steve presented three case studies based on actual customers who were able to free up working capital by tapping equity and/or refinancing. As always, Steve also shared the outlook for the year ahead, as well as marketing and crop insurance strategies. Click to access his audio PowerPoint.

For more information regarding crop insurance or GrowingOn content, contact your local Frontier Farm Credit office or call 1-800-397-3191.