Cash – It comes in and goes out!
At the start of the 2010/2011 season, several Gippsland discussion groups were asked what would be a reasonable price to be paid for milk, to cover farm working expenses, a payment to the owner for the effort involved, and to justify investing in assets.
"The more the better" was an obvious answer but the suggested price ranged from $5.40/kilogram milk solids (kg MS) or 40.2 cents per litre (c/L), to $5.80/kg MS or 43.2 c/L. The final average 2010/2011 price paid across Gippsland was around $5.61/kg MS (with a broad range across farms). So on the face of it, a reasonable milk price was paid. On most farms, this coincided with good seasonal conditions.
However, individuals within these same groups have been quick to point out that in cash terms all of that money may not have been received until August 2011, and that there was a lot of catch up 'maintenance' type expenditure that had not been spent in the previous two seasons.
At a quick glance, the milk price paid in 2010/2011 did not necessarily transform into a 'good' cash position in the end. But closer inspection would show a typical well managed Gippsland farm of around 280 cows with $700,000 worth of debt (70 per cent equity) would have had a reasonable cash surplus and used it to achieve specific goals. The surplus is likely to have been allocated to some of the following:
- Extract reasonable drawings from the business.
- Clear any outstanding creditors (more than 30 days overdue).
- Spend on much-needed repairs and maintenance. This was up by about $20,000 on previous years to an average of $38,923 (ONFARM Group data). In some cases, expenditure was extreme due to the large amounts of tracks requiring repairs to preserve the business.
- Reduce debt, particularly short-term equipment and livestock debt. Longer term loans that may have been interest only loans were transferred to principal and interest loans. Reducing debt in a low to moderate equity situation is sensible business because it increases business strength, even if it increases the tax liability. (It has almost become 'trendy' not to reduce debt and assume that capital growth will create increased equity!)
- Update or improve some capital infrastructure, without increasing debt (from cash flow).
- Perhaps even put away some farm management deposits or some superannuation.
- Prepare for the tax payment of a reasonable 2010/2011 due in April 2012.
Which, if any, of the seven above actions were undertaken depends on the stage of each business and individual priorities. For example, a young couple who have just purchased their first farm and are in development stage, behave very differently (for example low drawings, lots of repairs and maintenance, essential capital, creditor reductions, debt servicing and reduction). A couple in the twilight of their careers may need higher drawings, or be concerned with tax, Farm Management Deposits and super.
The frequent comment up until Christmas 2011 was "Yes, we're paying the monthly bills and doing a bit to the farm, but there's not much left". The cash received from 2010/2011 milk payments was a 'catch up and consolidate' period.
So what about now?
Bank staff who view the changes in dairy business financial positions have made some recent general comments along the following lines:
- Most people have been able to undertake, and plan to undertake, farm works without increased borrowings. Top of the list for action from January onwards included farm tracks, simple permanent feed pads, drainage and a reasonable holiday.
- Debt reduction is a priority with some people and we would now have 75 per cent of clients on Principal and Interest compared to two years ago, when most were interest only.
- People are wanting a bit of a buffer this year, because of the cautionary note about milk prices; they are waiting to see the surplus before doing much.
- There's not a lot of big stuff happening - spending is mainly about consolidation.
The actual cash milk price paid for this year's milk so far is between $4.40/kg MS (33 c/L) and $4.70 (35 c/L), with an anticipated final price of $5.10/kg MS (38 C/L) to $5.40/kg MS (40 c/L), seven to ten per cent down on last year. Based on this, a high cash surplus would not be expected, but after production and fixed costs there should be some surplus for discretionary spending. Those people who had an expensive wet winter will be just catching up!
As a few dairy farmers run a monthly cash flow budget, this surplus, if it exists, will be obvious. Others have a rough idea of how they are travelling, based on an annual budget. No matter how they identify it, astute farmers will see any surplus as an opportunity that may not be there next year and tag it for some of the activities listed above; others will not be as focused and wonder where the money went at the end of the year.
Even if this year only produces a small surplus astute farmers will get the most out of it.
Like most surpluses it will rarely be big enough to do all that is required, so it needs to be identified, discussed and prioritised over the next few months.
The critical factor is, that if over the past 12 months the cash flow has become better, then it is important to limit the spending, to ensure you don't return to your cash position of June 2010.