5 steps to help your lender help you
The business of milking cows requires a great deal of capital investment. It is not unusual to have $10,000 to $25,000 invested per cow. With these kinds of dollars needed to run a dairy, borrowed money is often just another part of the business. Borrowing money is not bad – as long as your farm has the cash flow to service the interest and principal in addition to paying all of the other farm operating expenses.
In years that have a net positive margin, additional principal can be paid on the loans or money can be spent to purchase other capital items. Purchases of additional cattle, machinery, new buildings and land all add to the balance sheet. As assets build and loans are paid down, the ownership equity on the balance sheet grows.
Equity on the balance sheet needs to grow in years of good cash flow. In the periods of down cycles in milk prices, the equity on the balance sheet becomes even more important. The equity tells the lender your dairy business is or has been profitable. It shows the farm has a cushion built to borrow against it if needed.
The relationship a dairy producer has with a lender is just as important as a strong balance sheet and cash flow. The lender is the gatekeeper for tapping into future borrowings.
To maintain a healthy relationship with his or her lender, a dairy producer should do the following:
1. Make sure your financial information is always prepared in a timely manner.
- Balance sheets should be completed at yearend. They need to have accurate inventory numbers for feed and cattle.
- Livestock values need to have an average price. Even if, as a producer, you feel good about the quality of your cattle, a conservative value allows only for inventory value adjustments and not appreciation or non-cash adjustments.
- Machinery values need to show fair market values and depreciation based on the current selling price of like equipment.
- Buildings need to be listed on a useful and depreciated value.
- Land should be valued at a conservative price as well. Even if the neighbor’s land sold for a much higher price, keep your values around 70 percent of what higher prices are bringing.
- Lenders like to see realistic conservative prices that do not bounce around with the latest local selling prices or as price cycles move around.
2. Know your cash flow.
The next important piece to prepare for yourself and the lender is the “cash flow.” It is good to always have the last three years on hand. The cash flow statement shows all of the “cash” income and expenses. This includes principal paid and what was used for family living. Think of it this way, it is the money that went into the checkbook and the money that went out of the checkbook in a month, quarter, or a year.
If you are working with a business consultant, he or she may have completed what is called an “income statement.” The difference here is that an income statement reflects depreciation and not principal as an expense item. Consultants also make what are called accrual adjustments, which means they are making adjustments for inventory changes of feed, pre-paid expenses, livestock and payables.
3. Realistically look ahead.
The next item of importance is a “projected cash flow” for this next year. Use realistic milk prices and expenses. In years of lower milk prices, the bottom line may be negative. Lenders would rather see dairy producers use real expected prices, which shows they are paying attention to the markets.
4. Know your plan.
The final important document that lenders want to see is a business plan. This does not have to be fancy. It consists of your thoughts, logic for prices used in the cash flow projection, and plans for the next year. This can include a marketing plan for your milk, breeding cattle or crops. Handwritten on a yellow pad works just as well as a typed document. This shows the lender you have given some real thought to your farming business.
5. Is the farm in transition? Be prepared.
Many lenders now ask for farm succession plans. Today’s farm balance sheets have big numbers on them. Lenders want to know who would take over for the key person on the farm if something happened. They also want to see that those in the next generation are not just workers, but rather are being coached and trained to take over the management responsibilities.
These are all key points that lenders are looking for in a positive farmer-lender relationship. Now, with these documents in hand, a lender can help finance needs in low milk prices and wants when building plans are discussed. If you have a good working relationship with a lender, do not leave for another lender simply because of something like a quarter difference in interest rates. The lender is your business partner.
Stay tuned! In a future Dairy Performance article, the author will discuss options a lender might be able to provide to help your farm make it through this downturn in milk prices. In this previous article, he outlined the steps to approach down cycles in milk prices.
About the author: Gary Sipiorski is the Vita Plus dairy development manager. He grew up on his family’s dairy farm in eastern Wisconsin and attended the University of Wisconsin-River Falls. Sipiorski spent 17 years with Citizens State Bank of Loyal and worked his way up to president and CEO. In 2008, he transitioned to his current role at Vita Plus and continues to serve on the CSB board of directors. In addition, he served on the advisory committee on agriculture and industry for the Federal Reserve Bank of Chicago. He is also an advisor for the Professional Dairy Producers of Wisconsin and a regular contributor to Hoard’s Dairyman and other agricultural publications.
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