When Dad measured your growth on a door frame, you stood on your tiptoes because you wanted to demonstrate how you had grown. In middle age, we are measured by our belt size, the model of our pick-up truck, or how many acres we farm. But the latter doesn’t really give a good measurement of the financial success of our farm. Lenders have used 16 financial yardsticks for several decades to evaluate our success, but will soon have 21 of them to more accurately assess how we are doing financially.

Lenders and farm financial consultants have a toolbox full of formulas to apply against your financial records to drill down and find out how you are really doing. Even if you don’t have a lender and do not use a financial consultant does not mean you should not conduct your own financial analysis to find out where and how operations could be fine tuned. Economist Tina Barrett of the University of Nebraska outlines the five new yardsticks http://www.agecon.unl.edu/Cornhuskereconomics/2009cornhusker/7-8-09.pdf that have been developed by the Farm Financial Standards Council to determine the financial health of a business.

A measure of liquidity that was adopted is working capital (which is assets minus liabilities) divided by gross farm income. It is called working capital to gross income, and measures operating capital available against the size of the business. You might have a Current Ratio of $1 million; but if working capital was only $25,000, that would not allow financial flexibility. It would show that you could not finance many of your own needs from your own bank account.

If working with a lender, he or she may be interested in your EBITDA score, which is your earnings before interest, taxes, depreciation, and amortization. If the lender wants you to repay a loan quickly, EBITDA will indicate how much money is available for debt repayment.

Since debt repayment capability is the key to success in getting a loan, the Farm Financial Standards Council added three new ways for farms to be graded on their repayment ability.
1) Your capital debt repayment capacity measures all sources of money that would be available to repay a loan. It would include farm and non farm income; after payment of family living expenses and taxes, with depreciation, and interest added back in.
2) The replacement margin measures those operations which have little borrowed capital on their books. It shows the amount of cash available for new principle and interest payments.
3) The replacement margin coverage ratio divides the capital debt repayment capacity by the sum of principle and interest payments plus the cash contribution in the replacement margin. That ratio indicates if there is enough income generated to cover term debt repayments and the cash contribution for new equipment.

Barrett says “The best improvement for these ratios is going to be for operations that don’t borrow much money, but do need to have a measurement for cash available for replacing equipment. In the past, the Repayment Capacity measures have not worked well in these situations.”

Summary:
Farm operations would be difficult to improve if they could not be measured, and the 16 measurements of the Farm Financial Standards Council have been expanded to 21. The new yardsticks provided more analysis capability for farm operations that currently do not have much borrowed money on the books, but need a way to show they have the capacity to repay borrowed money should it be needed.