Developing Realistic Projections
In a typical business operation growth comes from additional advertising and promotion. People tell others and the business grows – usually quite a bit the first year or so and then it tends to level off into steady slow rate from there. Of course, different businesses can react differently depending on the market acceptance of a new product or service, but a predictable growth rate is commonplace for many startups. Agriculture businesses however are a lot different.
Production agriculture and the associated businesses are restricted by certain parameters that constrain growth. If you own 200 acres of production land, you don’t typically have 202 the next year. Land is added chunks at a time. If you are processing from a region you don’t normally take on additional regions without extensive increases in processing capability. Most agriculture businesses are not accustomed to even steady growth; they normally have good years and not-so years with fairly constant average. Growth happens by significant leaps forward when new production capabilities are added or new markets are secured. Within these parameters are still the fluctuations in output and prices that normally accompany agriculture related business.
So given these many challenges, how can you realistically make short and long range predictions? Agriculture enterprises have always struggled with this uncertainty – it’s just part of the nature of the business and everyone has to contend with unpredictable weather, fluctuating prices and fickle consumer demand. You can cope however with a little realistic planning. Base your budgets on the low end of the averages. From one year to the next prices and production goes up and down, but on years when prices are low production tends to be high, the opposite is also common. Prices tend to be high when overall production is low. The two competing functions tend to mitigate the effects of one extreme condition or the other. Occasionally local high production is accompanied by record high prices. These are good times for the producers – not so great for processors that are selling to a resistant consumer. Of course at times prices for raw products are lower. For the production agriculture community these are hard times. On the other end, the retail consumer enjoys the lower prices and tends to increase consumption.
If you are producer you battle weather, insects and disease. Even with these challenges, the yearly output is fairly predictable. Crop insurance can offset disasters. If production is going to increase dramatically it will require additional land and equipment. You can also estimate these events with reasonable accuracy. Seldom do farmers add acres without careful consideration.
Ag producers must rely on the output from the farming community they serve. The fluctuations that the farmer contends with are the same factors that ultimately determine how much processing is done. As with the production side, the processor can find a realistic average production and price to base short and long-range plans upon. Processors can usually only increase output by adding capacity and gaining new input customers. This required new buildings, equipment, storage and transportation. Agriculture processing is normally a time sensitive situation where additional capacity requires additional labor as well.
Prices for most consumer products such as laundry detergent or storage bags tend to be pretty constant. Our electricity, garbage and taxes tend to creep up over time, but do so at a very predictable rate. Agriculture prices however are subject to global supply and demand. Because most agriculture products are perishable they are difficult to store for long periods of time without additional processing. As a result Ag products tend to have very fluctuating prices. To counter some of these uncertainties ag producers and processors can utilize forward contracting. Futures contracts as we commonly call them are a way to mitigate the fluctuations in prices. Fluctuations in currency prices can be covered the same way. Over the years many people in agribusiness have embraced the forward contracts as insurance against unexpected events, such as weather impacting the businesses ability to compete.