So, you want to buy that spanking new tractor? You know, the one with icy-cold air conditioning, a comfy seat, and that fancy GPS? And of course, you really do need it because your old pile of junk is always in need of repair.
Certainly you would be able to pay for your new ride, just in repair savings, right?
Like many of us, you might struggle with how to organize the information needed to make the decision on a purchase like this. You have to consider how net income will be affected with decreased repair expense, while facing increased depreciation expense. What about the increase to interest expense? And then there are those pesky loan payments if you finance. Not to mention the question of how much to put down on the note.
In order to project how much money you will have available to buy that tractor, you probably want to start with projected returns (net income) from sales (income), less the cost to produce those sales (expenses). But how do you incorporate the loan payments (or the drain on cash if not financed?) Does it make sense to allocate loan payments back to the individual commodity budgets in order to arrive at the break-even needed to meet the loan obligation? If so, do you also reflect the loan advances (or cash cost if not financed) in your commodity budgets?
Hopefully this blog can shed some light on why a projected cash flow statement is the answer.
Loan payments are a reduction of a liability (balance sheet), and therefore, should not be included in a commodity budget (income statement.) Rather, the commodity budgets should be combined with other projected income to arrive at projected net income -- the starting point for the projected cash flow statement.
Cash flow statements pull the income statement and balance sheet together to show how cash is affected for the period. Without getting too technical, the cash flow statement has three parts: operating activities (net income, plus current assets and liabilities), investing activities (long-term assets), and financing activities (long-term liabilities.)
If you desire, you can expand the operating activities to show the income and expense accounts, rather than simply starting with net income. Also, it is effective to present the cash flow by month or quarter, as it shows the timing of your sales versus the purchase of inputs, as well as the timing of note payments and advances and capital purchases or sales. There is a lot of management opportunity in the timing of the cash flows.
This broader perspective, rather than trying to decide the break-even on corn needed to make the loan payments, allows much more flexibility for cash management. Furthermore, once the crop is planted, there is very little a producer can do to affect the break-even.
Brought to you by Farm Financial Standards Council. The opinions of Brenda Duckworth are not necessarily those of Farm Futures or the Penton Farm Progress Group.Important information