If you have been following this series of articles on financial and business benchmarking, you know benchmarking is one of the top-10 best management practices worldwide in farming and ranching. Richard Heath, an Australian farmer and farm management instructor at the University of Sydney in Australia, recommended this practice to a group of FFA New Century Farmers as he was helping me present at a leadership conference in Des Moines, Iowa, this summer. Now, let’s focus on debt levels to build upon the last two articles that justified the practice and discussed profit benchmarks.
Please do not be fooled by the quotes of the national agricultural data that indicate farm and ranch debt is not an issue now. Richard Heath was very surprised when I mentioned that the average debt-to-asset ratio level for farmers in the U.S. is approximately 10%. His quote was, “Mate, you have got to be kidding!” Yes, the average debt-to-asset ratio on the over 2 million U.S. farms and ranches is approximately 10%. However, digging deeper, for the 270,000 farms and ranches that generate 80% of the production and carry 60% of the U.S. agricultural debt, the metric is much different. Many of the other producers operate smaller or part time farms and ranches, or are individuals over age 65, which are frequently debt free, skewing the average debt levels and aggregate ratios.
A reasonable financial benchmark for commercial agricultural producers would be a 40% debt-to-asset ratio, which would be comparable to the producers from “down under,” Richard stated. Concerning debt levels, it is not the amount of debt, but the ability to service the debt and debt structure which are very critical. My general observation over the years finds when the debt to asset ratio level exceeds 50%, management must be superior, living cost must be modest, operations must be very efficient and a focus on margin and risk management is critical.
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In the case of young producers who are starting from scratch or growing into a family business, this metric will often exceed the 50% rule. A strong business plan that is executed is very critical for success, and can help compensate for a higher debt level.
Next time I will discuss how liquidity is your hedge for disaster or opportunity.