Cash Is King
Who really has cash these days? It seems that every dime is already spoken for before the ink dries on my grain check. Sometimes my cash position makes me feel more like a Joker than a King! What does "having cash" mean to an agricultural producer anyway? Does anybody really have a significant amount of cash on hand?
Different businesses have different meanings for the term "cash". For the sake of clarity however, the term in this article is intended to relate to the financial position of the agricultural borrower.
Imagine the last balance sheet you signed. There were most likely 6 boxes or at least 6 different categories. They include 3 classifications for assets in the left hand column and 3 classifications of debt in the right hand column.
The top left box is titled Current Assets (CA). The current assets are those things that truly are cash such as savings and checking balances as well as those things that are "close" to cash such as accounts receivable, inventory, livestock to be sold, prepaid expenses, investment in growing crops and such. As a general rule these assets are soon to be cash or recently were cash with the purpose of trading them back for cash in the near future.
The top right box is titled Current Liabilities (CL). These are debts that will require cash within one year in order to satisfy the terms of the loan. Specifically, they include accounts payable, accrued interest, accrued taxes, rents, leases, credit cards, operating loans and usually the current portion of long term debt (CPLTD). Current Portion of Long Term Debt refers to the principal portion of term debt. e.g. You have an annual payment for tractor financing in the amount of $10,000. For simplicity let's say the interest portion of your payment is $3,000 and the principal portion is $7,000. For that particular payment your balance sheet should reflect CPLTD of 7,000. The remaining debt on that note would remain in the intermediate debt category.
Several different standards have been created to measure the health of a producer's cash position. Additionally, different analysts use different terms to describe the same measurement. But whether you call it cash position, liquidity, or working capital, we are still referring to the same set of numbers.
Let's start by calculating a Liquidity Ratio; this is done by dividing CA by CL (ca/cl= liquidity)
|Current Assets||Current Liabilities|
|Grain||Income tax due|
|Calves to sell||CPLTD|
|Prepaid fertilizer||Seed Financing|
|Total CA||Total CL|
In this case the liquidity ratio would be 1.25. Or, another way of stating it is, CA's are 1.25 times greater that CL's.
Another measure would be to calculate Working Capital; this is done by subtracting CL from CA (ca-cl=working capital). In this example working capital would be 5,000. Or in other words if the producer pays off all of his current liabilities with his current assets he has 5,000 remaining.
Some analysts might say that this producer has a cash position of 5,000 dollars.
Now that we have this information, what do we do with it?
For starters it is important to analyze this number in relationship to your whole balance sheet and income statement. For instance, look at how the cash relates to one year of operating expenses or one year of principal payments (CPLTD).
For the most part these numbers are a good indicator of a producer's ability to withstand adversity; and in agriculture, as you know, adversity will come. Such factors can be commodity prices, weather perils, and disease to name a few. If a borrower has little or no cash, any significant adversity can cause a major disruption, if not the end of the operation. On the other hand a borrower in a stronger cash position can withstand some adversity and can be ready to take advantage of opportunities when they come.
Some factors that cause cash strain are less manageable than others. A drought is hardly manageable. On the other hand, over expansion, capital purchases and family living draws, are choices that are highly manageable.
Regardless of your preference of analysis and terminology it is critical that you understand your cash position. Knowing the relationship of these numbers should make planning and decision making an easier process. One man's adversity is often the other man's opportunity. And that is why Cash is King!
We would appreciate the opportunity to work through the particulars of your operation. Please contact Stan Robertson or Trent Jacks at Haviland State Bank (620) 862-5222.
Haviland State Bank; The way hometown banking is meant to be.
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