1. Managing With Tight Operating Margins Ron Haugen North Dakota State University Extension Service 2016 Extension Risk Management Educational National Conference Fort Worth, Texas April, 2016

2. Profit vs Cash Flow Recognize the difference between net income and net cash income Do not have to make a profit every year Must meet cash obligations every year 2

3. Profitability or Net Profit An accounting of the value of all resources used to produce a product Some costs are non-cash depreciation unpaid owner/operator and family labor Inventory adjustments (whole farm) 3

4. Cash Flow Cash sales must be adequate to pay all cash expenses Any shortfall must be made up by borrowing 4

5. What is the Typical Response to Tighter Operating Margins (lower prices)? 5

6. Reduce Expenses Which expenses? How will they be reduced? 6

7. This strategy would work much better if it could be retroactive We have principal and interest payments today due to purchases in previous years that were financed 7

8. Remember the Nemesis of the Mid 1980’s “Leverage” The ability to use a small amount of your money, added to a larger amount of the bank’s money to purchase assets 8

9. North Dakota Crop Budget Regions 9

10. NW NC SW NE SC EC SE NV SV $71.00 $117.00 $123.00 $52.50 $94.00 $96.00 $39.50 $66.80 $70.00 $30.00 $57.10 $62.50 $27.50 $37.70 $38.00 $55.50 $92.70 $90.00 $38.00 $55.50 $56.50 $36.50 $50.20 $50.00 $28.00 $36.80 $35.00 North Dakota Land Rents by Region 2008, 2013 and 2016 Source: North Dakota Ag Statistics Office of USDA 10

11. Projected North Central Budgets, 2013 Spring WheatCornCanolaSoybeans Per Acre Market Yield37 90.00 148028 Market Price8.68 5.57 0.24512.350 Market Income$321.16 $501.30 $362.60$345.80 DIRECT COSTS Seed19.80 66.74 47.0064.75 Herbicides24.50 17.50 19.0017.50 Fungicides5.50 0.00 Insecticides0.00 Fertilizer61.09 80.56 78.908.14 Crop Insurance16.70 31.30 14.7016.20 Fuel & Lubrication17.68 25.82 18.1314.61 Repairs17.05 20.97 17.4415.23 Drying0.00 18.00 0.00 Miscellaneous1.50 7.25 Operating Interest3.76 6.04 4.523.30 Sum of Listed Direct Costs$167.38 $268.43 $201.19$146.98 INDIRECT COSTS Misc Overhead6.868.916.916.36 Machinery Depreciation19.8430.2920.6418.44 Machinery Investment11.6816.9912.1610.29 Land Charge50.20 Sum of Listed Indirect Costs$88.58$106.40$89.92$85.29 Sum of all Listed Costs$255.96$374.83$291.12$232.26 RETURN TO LABOR & MANAGEMENT$65.20$126.47$71.48$113.54 TOTAL COSTS PER UNIT$6.92$4.16$0.20$8.30 Percent of Rotation40.00%10.00%30.00%20.00% WEIGHTED RETURN TO LABOR & MANAGEMENT$82.88 11

12. Projected North Central Budgets, 2016, Difference from 2013 Spring WheatCornCanolaSoybeans Per AcreDifferencePer AcreDifferencePer AcreDifferencePer AcreDifference Market Yield44 7103.0013 1680 200 31 3 Market Price5.26 (3.42)3.50(2.07) 0.148 (0.10) 7.85 (4.50) Market Income$231.44 (89.72)$360.50(140.80) $248.64 (113.96) $243.35 (102.45) DIRECT COSTS Seed15.73 (4.07)78.3011.56 51.25 4.25 65.75 1.00 Herbicides26.20 1.7021.003.50 21.30 2.30 20.00 2.50 Fungicides9.00 3.500.00 Insecticides0.00 Fertilizer56.66 (4.43)70.77(9.79) 67.87 (11.03) 7.62 (0.52) Crop Insurance11.30 (5.40)16.70(14.60) 13.10 (1.60) 11.20 (5.00) Fuel & Lubrication10.41 (7.27)14.75(11.07) 10.11 (8.02) 8.26 (6.35) Repairs19.24 2.1922.811.84 18.48 1.04 16.39 1.16 Drying0.00 21.633.63 0.00 Miscellaneous1.50 0.001.500.00 1.50 0.00 4.75 (2.50) Operating Interest3.19 (0.57)5.26(0.78) 3.90 (0.62) 2.85 (0.45) Sum of Listed Direct Costs$153.23 (14.15)$252.72(15.71) $187.51 (13.68) $136.82 (10.16) INDIRECT COSTS Misc Overhead7.50 0.64 9.65 0.74 7.33 0.42 6.78 0.42 Machinery Depreciation21.90 2.06 32.43 2.14 21.61 0.97 19.89 1.45 Machinery Investment12.88 1.20 18.30 1.31 12.72 0.56 10.92 0.63 Land Charge50.00 (0.20) 50.00 (0.20) 50.00 (0.20) 50.00 (0.20) Sum of Listed Indirect Costs$92.28 3.70 $110.39 3.99 $91.66 1.74 $87.60 2.31 Sum of all Listed Costs$245.51 (10.45) $363.11 (11.72) $279.17 (11.95) $224.41 (7.85) RETURN TO LABOR & MANAGEMENT$(14.07) (79.27) $(2.61) (129.08) $(30.53) (102.01) $18.94 (94.60) TOTAL COSTS PER UNIT$5.58 (1.34) $3.53 (0.63) $0.17 (0.03) $7.24 (1.06) Percent of Rotation40.00%10.00%30.00%20.00% WEIGHTED RETURN TO LABOR & MANAGEMENT$(11.26) 12

13. What Factor has the Greatest Impact on Net Return Per Acre? 1.Yield 2.Price 3.Costs 13

14. Farm Groups Average Yield Percent of Average Average Price Percent of Average All Farms57.81100%$6.10100% Low 20 %47.2482%$5.6793% High 20 %65.79114%$6.46106% Wheat on Cash Rented Land, 2005-2014, Red River Valley Farms Sorted by Net Return per Acre source: FBM Reports, Red River Valley 14

15. Farm Groups Average Direct Cost Percent of Average Average Land Rent Percent of Average All Farms$190.75100%$84.59100% Low 20 %$197.94104%$94.18111% High 20 %$183.7296%$78.3093% Wheat on Cash Rented Land, 2005-2014, Red River Valley Farms Sorted by Net Return per Acre source: FBM Reports, Red River Valley 15

16. All FarmsLow 20%High 20% Gross Income$352.64$267.85$425.00 Direct Costs$190.75$197.94$183.72 Land Rent$ 84.59$ 94.18$ 78.30 ROVC$ 77.30$ -24.26$162.98 Wheat on Cash Rented Land 2005-2014 source: FBM Reports, Red River Valley 16

17. All FarmsLow 20%High 20% Gross Income$352.64$288.16$401.32 ROVC$ 77.30$ -3.96$139.30 What if All Farms Sold For the Average Price ($6.10) 17

18. All FarmsLow 20%High 20% Gross Income$352.64$288.16$401.32 ROVC$ 77.30$ 12.82$125.98 If All Farms Had Average Price, Direct Cost and Land Rent 18

19. How Does This Help Us in Dealing with Leaner Operating Margins? Protect yield – yield is the most important factor in net returns per acre Can you cut costs without cutting yield? 19

20. Three Ways to Cut Costs Reduce the quantity of inputs Change the inputs Lower price for inputs 20

21. Where Do You Reduce Expenses SeedOverhead HerbicideMachinery Principal FungicideMachinery Interest InsecticideLand Cost Fertilizer Crop InsuranceLabor & Mgmt (operator) Fuel & Lube(family living) Repairs Drying 21

22. Should You Drop Rented Land? If gross return is greater than direct costs plus land rent, keep it, because it is contributing to ROVC 22

23. Fixed Cash Rent Methods 1.Cash rent market approach 2.Landowner’s cost or desired return 3.Landowner’s adjusted net-share rent 4.Operator’s net return to land 5.Percent of land value 6.Percent of gross revenue 7.Dollars per bushel of production 8.Fixed bushel rent 23

24. Putting Flexibility in Cash Rent Agreements Crop-share leases were the original flexible rents –The scale of today’s operations makes share rents somewhat impractical Cash rents may be adjusted by market prices, crop yields and production costs 24

25. Advantages of Flexible Cash Rents 1.Landowner shares in additional income from: Price increase Yield increase 2.Reduced risk for operator when: Prices drop Yields are reduced 25

26. Disadvantages of Flexible Cash Rents 1.Increased risk for landowner 2.Landowner may be concerned about accuracy of reported yields 3.Higher rent due to increased yields means the operator may be giving up some of the benefit from managerial input 4.Calculating the rent requires more management and communication 26

27. 27 Managing With Tight Operating Margins Meetings 2015-16 Banks Producer Meetings Ag Lenders Agent Training North Dakota & Minnesota MN

28. Number of Meetings and Attendees 22 meetings at 20 locations 1215 attendees 28

29. Make-up of Meeting Attendees Farm operators Land owners (landlords) Lenders Farm managers 29

30. Take Away Points Yield is most significant determining factor for profitability What costs can be cut without cutting yield? 30

31. 31 Acknowledgments: Dwight Aakre, North Dakota State University Extension Service, Farm Management Specialist

32. Thank You! Any Questions? 32 Contact Information: Ron Haugen 701-231-8103 ronald.haugen@ndsu.edu Dwight Aakre 701-231-7378 dwight.aakre@ndsu.edu