Production agriculture has always had cycles. As long as the two basic human emotions of greed and fear are still present (last time I checked they still were), we will have cycles in farming.
We all have short memories, and in my experience many times it is difficult to see back beyond about 18 months. Understanding history can be the best predictor of the future.
Cycles cannot be eliminated, but with good management they can be mitigated. If managed, they can be capitalized on.
This month, many landowners will be talking to their tenants about 2012 cash rents. Understanding cycles will be critical to those conversations. (See sidebar.)
A useful strategy to managing cycles is to bulletproof your balance sheet during good times. Then when prices do cycle, you’ll be in a position to capitalize on the opportunities that will undoubtedly present themselves. Following this strategy will allow you to catapult ahead of your competition when things cycle.
Conversely, if you let greed influence your thinking during good times, you may likely be fighting for survival during the bad times. That is when the most opportunities present themselves.
Working capital is the first shock absorber to get you through financial bumps in the road. We recommend have working capital equal to half your annual expenses, or better yet, half your annual income.
For the average larger farming operation that characterizes much of the Corn Belt, the average working capital is far below this standard and slightly over half that level. Those will be the operations that will experience the most stress when things cycle.
In addition to having strong working capital, the next most important strategy is managing margins. That means taking a profit when the opportunity is present. You can sell corn for around $6 for a number of years in the future, and doing that is a good strategy in managing margins. When you do make those sales, look at seed, fertilizer and cash rent costs and try to take some of the variability out of those if possible. They are the three that account for about two-thirds of your variable costs.
I will write more on cycles in future issues.
August is the month many landowners and tenants get together to negotiate 2012 rents. Understanding cycles is important for two reasons: One is the terms of the lease. Many support and propose flexible leases, and those appeal to some landowners and tenants but not others. I think every situation is different, but the terms need to provide for some flexibility if prices and costs change significantly.
The second reason understanding cycles is important is it provides an opportunity for better communications and interpersonal relationships between owners and tenants. This is important to nearly three-fourths of landowners. For others price is the only driver, and knowing which those are can help you manage your risk. A useful strategy is to rank your landowners on a scale of understanding your business and ease of doing business. This can tell you a lot.