Is it possible to make a profit and not have any cash?
Is it possible to make a profit and not get a good return on investment?
Is it possible to have cash without making a profit?
For farmers, sometimes unfortunately the answer is yes to all of the above! Danny Klinefelter, a finance professor and economist states that strategic management is defined as anticipating, adapting to, driving and capitalizing on change; or in short doing the right things, not just doing the things right. The following points are some leading indicators of the future success and profitability of a farm business and have been summarized from a Klinefelter article.
Study cycles. Good times never last and neither do the bad. Business success and survival depends on continuous change and improvement.
Use accrual adjusted income to evaluate profitability. Cash basis income often lags accrual by two to three years in terms of recognizing both downturns and upturns in profitability. That’s often too late to respond. Measuring accrual-adjusted profitability does not require an accrual accounting system; it simply requires having balance sheets prepared as of the beginning and the end of the period for which cash basis income is measured.
It’s not how much you make, but how much you can hold on to. Keep your eye on margins, as they are more important than absolute commodity and input price levels. For that reason, trends in the operating expense ratio or gross margins on an accrual basis are leading indicators.
Change can occur quickly. Look for leading indicators outside your immediate environment. Total enterprise risk management is critical. Timing is critical for getting in, expanding, cutting back or getting out or redeploying resources.
Watch your change in earned net worth. It is a better indicator of sustainable growth than the change in market value net worth. In a rising land value environment, a decline in earned net worth may go unnoticed because land appreciation is outpacing operating losses.
One of the most dangerous phrases in business is “because we’ve always done it that way”. Every management strategy is perfectly designed to give you the results you are getting. As farm business success becomes increasingly more dependent on strategic decision-making, identifying the early warning signs becomes critical. The rate of continuous improvement needed to remain successful in today’s environment requires changes in management. The changes in management may take you out of your comfort zone and yield attractive dividends in the future.