In recent articles we have discussed financial and business benchmarking as a best management practice for ag operations in the U.S. and abroad. This series of articles was conceived at FFA’s New Century Farmer leadership conference. Richard Heath, an Australian farmer, and I had in-depth discussion with the aspiring agricultural leaders about benchmarking. In previous articles, the case was built for benchmarking, and then I discussed benchmarking profits and debt levels. Now let’s focus our attention on financial liquidity.
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From Richard’s perspective from “down under,” as the world becomes more globally connected, the volatility index will become more extreme concerning costs, revenues and interest rates. Because of trends in the marketplace, weather, social media and geopolitical risk, a financial backup is required to operate a successful business.
Net working capital, measured by current assets minus current liabilities, is a measure of the current economic times in agriculture. To make it a relevant measure of liquidity, net working capital must then be divided by the business revenue. It is important to calculate this metric each year at the same time of year to maintain consistency.
What is a good measure? Comparing farm record databases around the country finds that the top 20% of producers maintain working capital to revenue above 40%. The bottom 20% of producers usually have working capital to revenue of less than 15%.
If your operation’s debt-to-asset ratio is above 50%, a higher amount of financial liquidity is recommended, usually above 33% working capital to revenue. If one is risk-averse, higher levels in the 30-40% range are suggested, as well.
Not all current assets in this equation are equal. Cash is a preferred asset. Inventories, i.e. corn and soybeans in the bin or under contract, must be price protected. Some current assets can quickly lose value, suppressing working capital as a financial backup.
Richard, the Aussie producer, indicated that since the Australian government eliminated government ag supports and moved to more of a free market approach, financial liquidity and financial benchmarking are becoming much more important.