In the last column we discussed some suggestions for young, low-equity farmers from two professors’ standpoints. Dr. Alex White of Virginia Tech and I discussed these points at a recent ag lender training seminar. Last time we mentioned having good record systems, knowing your cost of production by enterprise, having a strong credit score, developing a business plan “lite” and keeping family living cost modest. Here is some further advice.
First, we would describe low equity as a debt-to-asset ratio above 65%, which corresponds to percent equity or owned assets of less than 35%. Greater than a 2:1 debt-to-equity ratio is also considered low equity. The average American farmer and rancher has a debt to asset ratio of 10%, with commercial producers registering approximately 60%.
With today’s low interest rates, if the interest expense to revenue ratio exceeds 12%, which often happens with young producers, it requires a “lock and load” or fixed interest rate strategy. Young producers need to examine incentive programs specifically for young and beginning producers offered by FSA, state initiatives, Farm Credit and banks as a method to reduce interest costs. They can be very beneficial by providing extended or flexible financial terms.
If you do experience profitability and success as a low equity producer, make sure you build working capital. These are the famous two words in agriculture finance today! Without equity, your fallback position is to sell those assets that are financially liquid and will not disrupt normal operations. As a young producer, you should have a minimum of 33 percent working capital to revenue.
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Finally, seek a lender not for the lowest interest rate, but one that is relationship-based. Relationship-based means that they know your business and they know agriculture. They are not a “yes” lender or a “no” lender, but they are a “but what if” lender. They will ask you tough questions and they will provide alternatives so that you can make logical decisions.
With all this being said and done, remember financial leverage does kill many businesses in a downturn and that is a harsh reality. However, if you implement the aforementioned strategies, then the odds may be on your side!