One of the easiest measurements of your dairy’s repayment capacity is to figure your cash flow coverage ratio, say specialists at the University of Florida.
Cash flow coverage ratio is the number of times your short-term, or current accounts payable are covered by your regular net cash flow during a set period of time — for example, one year. This includes loan principal and lease payments.
To calculate, subtract your total cash expenses from your total cash receipts and divide by your current liabilities — the portion of debt that is due within a year. Non-cash revenue and expenses, like inventory changes, accounts payable and depreciation are not included. Neither is cash from new loans.
For example, let’s assume the following for a 500-cow dairy:
Total receipts: $1,500,000
Total expenses: $1,420,000
Accounts payable: $2,000
Principal and interest: $70,000
The dairy has $80,000 to pay the $72,000 short-term debt ($1,500,000 - $1,420,000 = $80,000). The cash flow ratio: ($1,500,000 - $1,420,000) ÷ ($2,000 + $70,000) = 1.11, which is just sufficient to meet the dairy’s needs.
The goal for the cash flow coverage ratio is at least 1. Lenders often like to see a ratio or 1.25 to 1.5. Keep in mind there are several other measures of repayment capacity that are not limited to a cash basis, and should be considered in conjunction with your cash flow coverage ratio. Ask your accountant for help in looking at your operation’s entire repayment capacity picture.