Economics 101: Focus On Being Efficient To Ensure Profitability
February 1, 2016 What are the economic projections for this year in the specialty crop arena? What do fruit and vegetable growers need to do to ensure profitability?
American Vegetable Grower® magazine asked these questions and some others of Michael Gunderson, Associate Professor and Associate Director for Purdue University’s Center for Food and Agricultural Business. Gunderson
mentions the importance of understanding net farm income as well as the need to make investments to enhance productivity.
Q1 According to USDA’s Economic Research Service, national net farm income was forecast at $55.9 billion in 2015, down 38% from 2014’s level of $90.4 billion. What do specialty crop growers need to focus on to turn this around?
Gunderson: The national net farm income number is so broad that interpreting it for a specific commodity group can be challenging. A big portion of the decline is likely attributable to the decline in corn and soybean prices.
A valuable tool in understanding net farm income on specialty crop operations is a crop budget. Some specialty crops pose challenges relative to corn and soybeans because the specialty crops might be perennials. This will force producers to think more inter-mediate and long term relative to their row crop and livestock-producer peers. Specialty crop producers that are growing annual vegetables and fruits also should budget to be sure they are paying attention to the performance of key inputs. Attention to detail regarding how much an input influences productivity and its cost will be valuable in negotiating with suppliers.
Specialty crop producers might have more flexibility regarding marketing of crops. Entering into a contract that ensures costs are covered and a fair return is earned can mitigate marketing risks.
Q2 What kinds of trends are you seeing in agriculture, in general, and what kind of outlook do you project for this year?
Gunderson: In terms of outlook, the farm economy is likely to be similar to the period from 2000 to 2009. Farm income hovered around $60 to $70 billion. From 2010 to 2013, we saw a spike in net farm income that is unlikely to be sustained in the long run. Demand booms (China, livestock, and ethanol) and some pressure on supplies from poor weather in the 2010 to 2013 period raised prices and incomes.
As producers increased supply enough to catch up with increased demand, net incomes fell to more historically typical levels. This is likely to continue into the near future, which is, in some respects, a positive story. Or rather it could be much worse if we saw declines in net income similar to what occurred in the early 1980s.
Important global trends impacting agriculture include growing population, growing incomes, and shifting diets. We should hit 10 billion or so people on the planet. Many people have moved to a middle-class income that allows for purchasing power. This boom contributed to the run up in global agricultural commodity prices recently. The boom is slowing and global economic growth is not nearly as rapid as it was in the 1990s and early 2000s. This will slow the demand boom, but not eliminate it.
As incomes grow, consumers often become more choosey. Initially, they shift from a diet dominated by staples such as rice, potatoes, beans, and wheat to one more reliant on animal protein. This shifts the demand for feed grains as well.
On the production side, it appears technology is likely to increase the productivity of every input. Even if the yield per acre increases are slowing, there is still substantial benefits to be gained from improving the productivity of seed, fertilizer, and crop protectants. Fruits, nuts, and vegetables might have the greatest opportunity as it relates to mechanization improvements.
Q3 What are some of the biggest economic issues that will get in the way of profitability? How should growers navigate those issues?
Gunderson: Economics is all about supply and demand and the intersection of the two. Thus, the biggest issues that will impact profitability will either be too little demand or too much supply. Too little demand is unlikely to be an issue because, as noted, populations and incomes are on a steady, predictable upward climb. Producers respond to price signals from the market and shift supply. If demand outstrips supply by too much, prices rise, profits rise, and producers begin to produce more of that good until prices come down.
This is why economists like to say, “The best cure for high prices is high prices.” Unfortunately, producers often respond by growing too much, which keeps stocks-to-use ratios elevated and puts downward pressure on prices. Producers have increasingly timely data to improve decision-making as it relates to marketing and the needs of the market. They should make use of that information when making growing decisions.
Q4 How can growers enhance the competitiveness of specialty crops?
Gunderson: Producers need to be the most efficient and productive to be competitive. Thus, they will need to make investments into inputs that allow them to enhance productivity while paying attention to the cost of doing so. Using technology to improve data collection is a first step. Producers need to transform that data into insights and implications for their operations. Being sure to manage on a level that is closer to the plant rather than at a very broad level might offer opportunity for more competitiveness. Producers need detailed recordkeeping that will allow them to compete in a global economy.
Q5 What role will sustainability play for specialty crop producers this year?
Gunderson: Sustainability is still a bit tricky as I am not sure there is a mutually agreed upon definition of sustainability. That said, the most successful producers have been paying attention to the factors related to sustainability as long as they have been farming. Most producers understand the impact of making decisions that might enhance profits for this period at the expense of profits in all future periods.
More broadly, the most successful producers understand that the land needs to be productive now, but also for their children and grandchildren. So when the marketing folks get hold of the word “sustainability,” I suspect they are trying to just understand what producers have already been doing for a long time.
To the extent sustainability matters to consumers, it will have a big role for producers. Specialty crop producers are concentrated in USDA’s Fruitful Rim resource region. These producers already have long understood the value of sustainability production — particularly as it relates to water. As consumers become more specific about the information they want when making purchasing decisions, producers who have grown crops sustainably stand to benefit. The technology is increasingly able to collect and share information about growing practices with the consumer at a relatively low cost.
5 Tips To Stay On Track In 2016
Michael Gunderson, Associate Professor and Associate Director for Purdue University’s Center for Food and Agricultural Business, offers some pointers to help you follow the path that leads to profitability.
1. Use a budget.
2. Track revenues and expenses to the smallest unit of analysis that is practical — that is, manage at a per-acre level or smaller if possible rather than at a field level, he says.
3. Monitor the amount of working capital available. “Working capital is current assets minus current liabilities,” he explains. “For producers, this is likely mostly cash and inventories minus accounts payable and other short-term borrowings. 4. Producers should keep this working capital number at a level that is about 30% of revenues.”
4.Use a specification sheet when working with input suppliers (http://bit.ly/1Svbasr). Gunderson says to remember that a supplier offers many valuable products and services and the conversation needs to be broader than just price.
5. Lock in positive margins when possible rather than aiming for the highest prices possible.