We all know and sorely miss the “good old” days in which a dairyman was able to call his banker and ask for more money to purchase cows, feed and rolling stock, etc. and then to plan on the money being in the account by the time he hung up the phone.
Now the approach of doing business as a dairy is evolving and involving more financial players actively at the table. Eighteen months of low milk prices has drained generations of equity from a dairy’s balance sheet and called for critical changes in business practices.
Truth be told, this was a wake-up call to many dairies who weren’t engaged or as interested in the financial side of their operation. Accounting was done for compliance work and when they received their quarterly financial statement, it wasn’t reviewed or discussed, but tucked nicely in a filing cabinet. Not many other multi-million dollar business operations in different industries ever had as much financial latitude that dairies previously had.
Now that the stage has been changed and set, the question many of our clients have now is, “What do we do?” There is a lot to be learned and said from other industries that have survived depressed markets and learned how to manage their financial operations smarter, efficiently and more collaboratively. Let’s explore some of the challenges dairies currently face and what solutions are surfacing.
Why have finances made dairymen more vulnerable today than ever before?
Due to the large reduction in equity and borrowing base (herd and feed values less the amount owed for the herd and feed) with the bank, dairymen are facing uncertain times. Most dairies are receiving “special” attention from their banks, and it’s not the attention any operator wants. Dairy owners are being required to do things from the financial aspect of the operation that they’ve never done before. For most operations, credit is the biggest hurdle right now. Many banks are only extending credit for short periods of times, typically three months at a time.
While this adds a great load of stress and questions in daily operations, this reoccurring window demands current financial information. This is not only where your accountant comes into play as an active adviser, but also your banker and attorney, who will assist with negotiating loan terms, creating and agreeing to operation budgets and developing a plan to return to compliance with loan covenants.
This process takes time and money, not to mention that the cost of borrowing money from the bank has also increased. This is understandable, given the increase in risk assumed by the bank when herd and feed values are less than the amount owed against them. Nevertheless, it has a negative impact to the dairy’s cost of production.
Who knows how long it will take before the lost equity can be recovered and a strong financial foundation can be returned to a dairy’s operations? Given the milk price on the futures board, 12 to 18 months is optimistic and two to four years is most likely realistic.
We believe that dairy operators will feel and remain more vulnerable than necessary without cost of production and profit management tools in place.
Manage your dairy like a trucking company
Most businesses have operating budgets that are developed annually by the business and reviewed on a frequent basis throughout the year. One client we work with, a trucking company, reviews their profit and loss statement with us each month. The actual results are compared to budgeted results; variances are analyzed and changes are made mid-stream if appropriate for the business to meet its desired result – profitability.
Before today, many to most dairymen would approve, halfheartedly, budgets prepared by the banks and only look at it as they were signing the annual loan extension. The dairymen weren’t vested in the budget and once it was put in the file, it was never looked at again.
Today, banks are requiring budgets to be prepared by the dairyman, or at the very minimum, thoroughly reviewed and approved by the dairyman. Banks are also requiring a reconciliation of the actual results to the budget on a monthly basis.
Banks are requiring monthly borrowing base reports, which used to be prepared quarterly, annually or on an as-needed basis. Also, higher level CPA-prepared financial statements are required in order to provide the bank with more assurance that the financials accurately reflect the records of the dairy.
The new requirements pushed down upon the dairymen are not abnormal business practices. They are the standard for all other industries, including the trucking operation that we discussed earlier. Instead of waiting for a time when this is not required, dairy operators need to implement these tools into permanent practice. They are invaluable.
How to make the most of meeting time with your financial team
We know as CPAs we cannot or should not tell you how to milk cows and operate your dairy. That is your expertise, not ours. However, we do work with many different dairymen and prepare a significant amount of financial statements. From that, we can help you see where your financial statement and operations may be different from the average, whether it is above or below the average.
Our perspective is different just like yours is, as well as the banker’s and the attorney’s. This collaboration is a critical tool in order for a dairyman to plug the holes in the ship. Meeting on a quarterly basis with one or all of these individuals allows you to actively check and find the right balance for your operation. This is not a novel idea by any means, but having an active agenda and engaging informed participants at the table is, and you should give it a try.
From what we’ve seen, these discussions are deliberate. While each meeting is focused around a client’s needs specifically, certain commonalities are found in all. In future articles, we’ll delve into that deeper, highlighting some of our meetings in a case study format as examples for you to draw on.
We’ve covered a lot of ground and yet this is just the beginning.
Financial health in the dairy industry is just as critical as herd health, and the business operations on a dairy are looking more and more like other industries now and it doesn’t appear that it will ever change back.
With that said, remember you are not alone and you don’t have to have all the answers. In fact, some of the best solutions to current financial issues we are experiencing with our clients are through collaborative efforts and compromise from all parties.
Ask the hard questions to your financial team. You should see your accountant, banker and attorney as your advisory board, not your adversaries.
By doing this, you will create a business environment in which you can make timely, informed and strategic business choices. PD