It’s a fact. Many farmers don’t have an annual budget. I’m sure most of them have a page or two of casually derived figures providing a vague overview of how total sales, costs and the year-end cash position might turn out. But this is certainly not a budget. As I explained in my previous article, a proper budget is a detailed, month-by-month, itemby- item schedule that
provides a road map and a plan for the coming year.
It has been painstakingly drawn up following detailed discussion with all the people involved, and is completed and approved before the onset of the new financial year. An essential first step is to have a detailed discussion with each person who will play a key role in the business during the coming year to decide on the fundamental issues in the budget.
Here are some of the questions you might wish to focus on:
What crop volumes and quality are we likely to produce? What’s likely to happen with prices?
What cost changes are expected with major items?
What’s the outlook for inflation and interest rates?
Having thought deeply about these issues, make decisions on each of them. Then begin number-crunching.
There are five steps to this process:
Sales: If production levels and market prices are as you’ve envisaged, what will the company income be on a month-to-month basis for the coming year?
Cost-of-sales: These are the costs of getting the product to the market, such as agent’s commission and transport. They are dependent on product sales, but the figures may be very different to last year’s. When fuel prices go up, for example, there is little doubt that transport costs will rise. But by how much will they do so?
Fixed costs: These are tied to the business in such a way that they can only be saved if the entire business, or a section of it, is closed down. High fixed costs have been the downfall of many companies. They must be identified item by item, and estimates made for the coming year.
Operating costs: These are wages, fertiliser, agricultural chemicals, vet expenses, bank charges and so on. Most of the money goes towards these costs. They vary according to hectares planted, number of stock, tons of product produced and so forth.
Capital expenses and income: Looking at expenses first, what items of equipment, such as tractors, vehicles and computers, are you planning to purchase during the coming year, and when do you intend buying them? Turning to capital
income, what aging items might you be able to dispose of and at what prices? And when will you sell them?
Once all these inflows and outflows are tabulated, it becomes an easy task to determine the projected monthly cash flows. You’ll also see whether you’re going to need help from a bank to finance your seasonal cash requirements. If you’re going to your bank manager for help, remember that you’ll have another expense to add – bank interest, which is the final calculation required to wrap up the budget.
Remember to keep your focus entirely on cash. Don’t get confused by items such as depreciation and the like. Leave it to your accountant to do the depreciation calculation and estimate the other non-cash items required. This will have to be done in order to do the tax calculation for the coming year.
From hard-won experience of many years of budget preparation, I can tell you that some of your most creative moments will be triggered during budget time. While questioning every single material number in the business, you will often discover a different way of doing the same job at lower cost or selling an item for a better return.
Turn the budgeting process into a voyage of discovery instead of seeing it as a necessary evil.
Don’t expect precision
Of course, the budget will always be wrong! There’s no way that all the numbers will turn out as planned, but this is no reason not to prepare a budget. Going into the unknown with an imperfect map is far better than having no map at all. As you go along and the actual numbers start coming through, you’ll be able to look ahead and prepare a forecast of where you’re likely to end up.
This way, if you’re heading for a crash, you’ll see it coming and be able to prepare for it and, hopefully, avoid it entirely. You will never build a profitable, sustainable business unless you tap into the power of the budget process.
This article was originally published in the 21 March 2014 issue of Farmers Weekly.