Warren Buffet is seen by some as being the best stock-picker in the world and one of his most famous sayings is, “Rule No. 1: Never lose money. Rule No. 2, don’t forget Rule No. 1.” Dr. Brady Brewer with the Department of Agriculture Economics at Purdue University shared with the PDPW audience earlier this month that it is unlikely that Buffet spends much time working in agriculture’s volatile up-and-down market.
“Sometimes that makes it hard to manage our finances,” he says.
5 Strategic Levers of Profitability
Dr. Brewer encourages producers to think about managing finances by reviewing the five strategic levers of profitability.
- Output price. Manage the price you get for what you produce.
- Yield. Manage how much output you produce.
- Costs. Manage how much it costs you to produce.
- Assets. Manage your balance sheet and what tools you use to produce.
- People. Manage the people that help you with the four levers above.
Cost Friendly
When it comes to managing finances, Dr. Brewers said that with business finance, we want to maximize returns.
“There are two components of this equation that we can really actively manage - cost and asset efficiency,” he says. “They are at odds with each other. You go get more assets to become more efficient. Well, now you have a larger balance sheet relative to your sales. You slow down your balance sheet. Now, your assets have to work harder. So, they become less efficient and so they tend to be at odds.”
According to Dr. Brewers, farmers should aim to be as cost and asset friendly as possible.
Rising Interest Rates
Rising interest rates are a common theme and a common irritant for producers in 2023. Dr. Brewers says that the federal reserve is likely to raise interest rates again in the first half of the year.
“With interest rates on the rise, assets are more expensive,” he says. “This makes it harder to be asset efficient.”
With the Federal Reserve raising interest rates, input prices will remain elevated. Although Dr. Brewers shared that inventory levels are not as elevated as they were the last two years.
“I think this may see some decrease in some chemical prices whether it be herbicide, fungicide, or insecticide this this growing season,” he says.
Key Items to do:
- Consider. Revenue reductions, further input cost increases and increased interest rates.
- Calculate. Conduct “What If” scenarios such as a 5%-10% revenue reduction or a 10% cost increase.
- Revisit. Make sure your risk management plan is up to date.
- Shock Cash Flow Project. Calculate your burn rate.
Dr. Brewer advises producers to be strategic and ask vital questions before making that investment, like how will this purchase increase revenues, decrease costs, or both? He suggests:
- Monitor working capital.
- Keep a thumb on interest rates risks.
- Monitor debt service.
- Plan out capital investments into the future.
While Warren Buffet’s notable saying of never lose money might be a hard goal to meet in 2023 for dairy producers, Dr. Brewers encourages producers to not only talk about finances but also to look at their finances often to work on aiming for a profit margin this year.
For more financial advice stories, read:
- 4 Pieces of Financial Advice from a Leading Dairy Consultant
- How Do You Stress Test Cash Flow?
- What is the Best Risk Management Approach in 2023?
