Farming is capital intensive, but managing cash flow can be a challenge, especially in sectors dominated by seasonal operations and irregular sales.
Farm businesses typically use debt to finance a significant portion of their capital needs. However, concerns are rising as America’s credit crisis starts to affect other countries, including Canada.
The issue was originally discussed in terms of its potential impact, but what was a faint potential is now a harsh reality, and its presence is being felt on the farm.
Lenders can have a tremendous impact on the financial affairs and day-to-day operation of a farm because of their control over a significant amount of capital used to operate these businesses. Lenders cannot control the economy or its impact on agriculture, but they do control who they conduct business with and can specify the terms.
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When economic volatility rises, lenders become concerned with the increased risk in their loan portfolios. In response, they consider lowering margin rates (loan to security thresholds), increasing rates over prime, increasing administrative fees or taking more security.
Farmers may find themselves in an unpleasant situation when trying to arrange financing for the next business year if they have poor liquidity and a marginal ability to generate profit.
They may face difficult times even if they have long-term relationships with their lender and good equity.
Here are steps you can take to help secure capital for your farm business:
- Cash flow (liquidity) is king.
Analyze your balance sheet or statement of net worth, focusing on liquidity indicators such as current ratio, working capital and debt structure. Use baseline assumptions and review your operations according to the status quo to develop a worst case scenario for revenue and expenses and then cast the balance sheet or net worth forward. Re-examine liquidity indicators to estimate how tight your cash flow could become. Finally, develop a contingency plan that will address a worst case scenario.
- Know your situation better than your lender.
If you know your situation, you may be able to detect inaccuracies or misunderstandings in the lender’s assessment. Being equipped with this information may prevent the lender from adding additional terms or increasing your rates. It may also help you secure a new loan or maintain existing credit arrangements. At all times, you need to know where your operation is at and more importantly, where it is heading.
- Identify problems that exist in your operation and resolve them as quickly as possible.
It is critical to spend time reviewing your financial situation, identify problems and explore possible solutions. This will demonstrate to your lender that you are working to rectify a negative or deteriorating situation.
The alternative is to have the lender identify a problem and provide advice, but that reduces his confidence that you are managing your business well. It is not up to the lender to solve your problems.
- A financial institution is not obligated to deal with anyone.
It is important to understand this. Do not take credit for granted.
- Use previous, actual cash flow as the basis for projected cash flow requirements.
If your projections are based on actual historic costs, then they should be reasonable and provide an excellent basis for projected cash flow requirements. Some operating costs are variable, but there is usually a pattern of payment, such as paying insurance premiums in October.
- Confront financial crisis.
It is human nature to avoid dealing with potentially stressful situations, especially when it involves financial matters. However, it is better to work to find solutions than it is to procrastinate. It is important to have a conversation with your business adviser and lenders to get your financial situation back on track.
Terry Betker is a partner with Meyers Norris Penny LLP, working out of the Winnipeg office. He is director of practice development in agriculture, government and industry. He can be reached at 204-782-8200.
