Ensure You Have a Profitable Farm
Financial management is important to a business’s success and capital access and to ensure profitable farms. When you apply for commercial credit, expect to provide documented evidence of your financial position and performance. This is even more important if your operation is large, highly leveraged, or undergoing major growth. Besides debt-to-asset ratios, Cash Flow Coverage Ratio is also an indicator of creditworthiness and repayment capacity.
Cash flow coverage ratio is primarily determined on a pro forma basis by using the projected cash flow budget. The calculation for Cash Flow Coverage Ratio =
Total Cash Available divided by Total Cash Required.
The cash flow coverage ratio is used to assess your operation’s ability to meet cash obligations. This is just one measure of profitable farms. If the ratio is less than 1.0:1, the business is “not liquid.” Simply put, the higher the ratio, the greater the liquidity or available cash. Generally, lenders prefer that projected total cash available exceed total cash required by a minimum of 10% to 20%.
This ratio is limited by the reliability and accuracy of the projected cash inflows and outflows. As the owners or profitable farms, test the sensitivity of the ratio by analyzing the effects of different yields, prices, and input costs. Users need to remember that an annual cash flow projection does not measure profitability or the ability to repay debt maturing beyond the period for which the projections are made.
Improving budgeting accuracy is extremely important for your operation. A useful measure is analyzing your Budget Versus Actual reports. Track budgeting variances and MANAGE variances in these areas.
If you need some help, there are expert financial management consultants at FamilyFarms Group. Our goal is not to take over in any of these areas, but to help you get a better handle on how to implement management practices. Contact us to learn about other ways to improve your operation and ensure that you maintain profitable farms.
from Gary Huggins, Team Accounting Specialist