Last month, I suggested ranchers look to their on-ranch accounting systems to answer two key business-management questions:
-
What did my family earn last year from running this ranch?
-
Is my ranch generating a positive or negative annual cash flow?
This month, I will add a third:
-
What is the source of my business and family funds, and how are the funds used?
The first question
The first question is answered with a “ranch profitability account,” where the bottom line summarizes the earned Net Ranch Income (NRI) for that business year.
Table 1 presents an example NRI for a hypothetical ranch. (The boxed numbers are inputs derived from the on-ranch accounting summary.) This ranch family earned $22,599 in the last business year from three resources provided by that family — unpaid family and operator labor, management and equity capital.
Notice how NRI is calculated — by adjusting net-cash operating income for depreciation and inventory change.
To insert real numbers into this discussion, Figure 1 presents the average Net Farm Income (NFI) for Minnesota beef farms from 1996-2004. (NFI and NRI are the same thing.) These averages are from the all-beef farms summarized through the FINPACK Financial Analysis System operated by the Minnesota Cooperative Extension Service.
Clearly, NFI varies considerably year to year, and an individual farmer's NFI varies even more than the group averages. That's why it's important for individual ranchers to measure NFI annually.
Note the upward trend for 2001-2004. What is your ranch's NFI trend over the last five years? Given the increasing calf prices of the last five years, it should have trended upward. My concern is for those ranches that missed out on the golden opportunity of the current beef price cycle.
If you've followed my articles, you know I recommend ranchers break their ranch business into profit centers, treating each as a stand-alone business. Table 2 presents the average NRI analysis for 118 North Dakota beef farms analyzing their beef-cow profit centers.
These 118 units averaged a $32,906 NRI in 2005. In other words, these families earned an average of $32,906/family from their beef-cow profit centers (about $218/cow) in 2005. Year 2005 may well end up being the highest profit year per cow in this current beef price cycle. The data in Table 2 can serve as a benchmark for Northern Plains ranchers.
Note the same economic analysis can be used for the total ranch business (Table 1) and individual profit centers within the total ranch business (Table 2). A rancher's NRI tells you what your family earned during the year from running your ranch.
Question two
Now, let's look at the second question — is my ranch generating a positive or negative annual cash flow?
Ranchers answer this question from a second, bottom-line summary entitled “Earned-Net-Cash Flow” (NCF). Table 3 presents the NCF for my example ranch.
NCF starts with the net-cash operating income presented in Table 1, and adjusts for debt principal payments, family-living draw, capital purchases, capital sales, and income taxes and Social Security paid this year (remember these taxes lag one year). This example ranch earned a negative $33,256 NCF.
This example ranch is profitable (Table 1) but doesn't cash flow (Table 3). A change in financial structure is needed.
Let's look at another example of NRI and NCF. Table 4 presents the average NRI for my nine, 2005 Integrated Resource Management (IRM) cooperator herds (385 cows/herd average). These nine IRM herds averaged a $49,665 NRI. Their average unit cost of producing (UCOP) a hundredweight (cwt.) of calf was $99. This NRI data can serve as a benchmark guide for Central Plains and Mountain States ranchers.
Table 5 depicts the average NCF for these same nine IRM herds, which also can serve as benchmark data for Central Plains and Mountain States ranchers. These ranchers earned an average of $33,880 NCI/herd, and their unit cash cost of producing a cwt. of calf was $111. Given my projected calf prices for the rest of this decade, this $111 cash production cost concerns me.
Now let's broaden our focus to an “even better accounting system” — one that provides the answer to one more critical management question needed to determine performance of a ranch business: What is the source of my business and family funds, and how are the funds used?
Since cash flow is all-critical in any successful ranch business, this report summarizes all sources and expenditures of cash — both business and family — during the business year. Table 6 presents the source and use of funds for my example ranch.
Cash can flow into a ranch from several sources. A ranch can start the year with a cash balance, and generate more cash through the year via the sale of production items or capital assets. Money can be borrowed, net off-farm income can be generated, and gifts and inheritance can be received. All these contribute to the source of funds. In this example ranch, the cash inflows total $456,830.
Cash also flows out of a ranch via operating expenses, payment of debt principal, capital purchases, family-living draw, and gifts and inheritance given. In this example ranch, total cash outflow was $417,786, generating a net-cash-inflow of $39,044.
The final adjustment is for income and Social Security taxes paid (this year) and household purchases. Thus, the calculated ending-cash balance for my example ranch is $31,544.
As ranchers face down-trending calf prices driven by higher corn prices and stage in the current beef price cycle, the three accounting summary tables — Tables 1, 3 and 6 — will become all-critical. These three tables will help you measure and assist in managing your ranch's financial success for the rest of this decade.
Harlan Hughes is a North Dakota State University professor emeritus. He lives in Laramie, WY. Reach him at 701-238-9607 or harlan.hughes@gte.net.
| Operating income | $357,030 | |
| Minus | Operating expenses | $302,786 |
| Equals | Net-cash operating income | $54,244 |
| Minus | Depreciation | $42,645 |
| +/- | Inventory change | $11,000 |
| Equals | Net ranch income (before taxes) | $22,599 |
| Earned net returns to unpaid family & operator labor, management and equity capital. | ||
| Operating income | $92,788 | |
| Minus | Operating expenses | $57,762 |
| Equals | Net-cash operating income | $35,026 |
| Minus | Depreciation | $3,097 |
| +/- | Inventory change | $977 |
| Equals | Net ranch income (before taxes) | $32,906 |
| Earned-net returns to unpaid family & operator labor, management and equity capital. | ||
| 118 herds averaged 151 cows | ||
| Operating income | $357,030 | |
| Minus | Operating expenses | $302,786 |
| Equals | Net-cash operating income | $54,244 |
| Minus | Debt principle paid | $37,000 |
| Minus | Family living draw | $35,000 |
| Minus | Capital purchases | $8,000 |
| Plus | Capital sales | $0 |
| Minus | Income taxes & social security paid this year | $7,500 |
| Equals | Earned-net-cash flow | -$33,256 |
| Earned net returns to unpaid family & operator labor, management and equity capital. | ||
| Operating income | $232,925 | |
| Minus | Operating expenses | $159,390 |
| Equals | Net-cash operating income | $73,535 |
| Minus | Depreciation | $23,870 |
| +/- | Inventory change | Included in operating income |
| Equals | Net ranch income (before taxes) | $49,655 |
| Earned net returns to unpaid family & operator labor, management and equity capital. | ||
| 9 herds averaging 385 cows; UCOP = $99 | ||
| Operating income | $252,175 | |
| Minus | Operating expenses | $177,870 |
| Equals | Net-cash operating income | $74,305 |
| Minus | Debt principle paid | $19,250 |
| Minus | Family-living draw | $21,175 |
| Minus | Capital purchases | Included in debt paid |
| Plus | Capital sales | $0 |
| Minus | Income taxes & social security paid this year | $_______ |
| Equals | Earned-net-cash flow | $33,880 |
| Unit cash cost of production = $111/cwt. | ||
| Operating income | $357,030 | |
| Plus | Beginning cash balance | $9,800 |
| Plus | Capital sales | $0 |
| Plus | Money borrowed | $90,000 |
| Net off-farm income | $0 | |
| Plus | Gifts and inheritance received | $0 |
| Equals | Total cash inflow | $456,830 |
| Plus | Operating expenses | $302,786 |
| Plus | Debt principal paid | $37,000 |
| Plus | Capital purchases | $8,000 |
| Plus | Family-living draw | $35,000 |
| Plus | Gifts and inheritance given | $0 |
| Equals | Total ranch & non-ranch cash outflow | $417,786 |
| Net-cash-inflow | $39,044 | |
| Plus | Income taxes & social security paid this year | $7,500 |
| Minus | Household capital purchases | $0 |
| Equals | Ending cash balance | $31,544 |
