Basic farm business review
Understanding your current financial position will help with business decision-making. Find out how to review your farm accounts and understand your business costs, profit and cash.
How to review your farm business’ profitability
If you are looking to grow or change your business, a good place to start is to review your farm accounts.
To undertake a basic business review, you will need your most recent copy of trading accounts. This process is called 'proportional analysis' as it shows where the proportions of the farms total income are spent how much is left over as net profit.
Take figures from your profit and loss accounts to fill out the below:
|Total income/sales incl. BPS (A)|
|BPS amount (B)||B/A x 100|
|Total variable cost/costs of sales (C)||C/A x 100||>35|
|Gross margin||(A-C)/A x100||>65|
|Labour (D)||D/A x 100||<15|
|Machinery (inlc. depreciation) (E)||E/A x 100||<20|
|Property and administration (incl. depreciation, excl. rent) (F)||F/A x 100||<10|
|Overhead costs before rent and finance||(D+E+F)/A x 100||<40|
|Rent and finance (G)||G/A x 100||<16|
|Total overhead costs||(D+E+F+G)/A x 100||<57|
|Net profit (H)||H/A x 100||>15|
|Net profit excluding BPS||
If you have a higher proportion of costs in any one of these areas, it can lead to a reduction in profit.
To investigate where the costs are higher, you can use our tool to benchmark your farm business allowing you to compare your farm type and system to other similar operators.
How does profit affect cash?
Taking your business review one step further will help you to understand the cash position. How much profit is retained in the business as cash?
Again, using your trading accounts complete the below:
|Loan repayments (K)|
Cash retained H+I-J-K-L-M
By adding back in depreciation and taking away the total figures for drawings, tax, loan repayments and reinvestments, you get a clear picture of the cash position of the business.
- A cash surplus can be used to invest in the business for example, in buildings, livestock or machinery
- A cash negative position can lead to an increasing overdraft which, over time, can lead to a decrease in the net worth of the business
If the table above shows the business is cash negative, but this is not shown in the balance sheet as a drop in net worth, it may be that cash has been introduced to the business from an external source, such as a family loan.
What do the results tell you?
Once you have completed the table above you are likely to see your business in one of three financial positions:
Each of these financial positions have different impacts on the running of the farm business.
If your business is profitable and generating cash, this is a strong position to be in. In this position, it is possible to expand your business.
Want to plan your reinvestments? Start by costing your investments. You may find our profit requirement templates useful for this.
Or to move your business forward, you may like to look at business planning to grow your business.
If your business is profitable but not generating cash, a review of the farm borrowings to reduce repayments will free up cash.
Understand more about different types of finance.
Businesses can go through one off cash flow stresses which can be caused by external factors such as market drops. Short-term planning will help to manage cashflow.
Alternatively, it may be worth looking at benchmarking to see if there are areas to improve performance and increase profit.
If your business is not currently profitable, compare the business accounts to previous years to see if this is a one-off or not.
If this not a one-off it may be necessary to review your business operations and possibly look at making changes for the future.