At previous times, we have discussed how to utilize scenario planning in projections for cash flow as well as income. At this year’s TEPAP (The Executive Program for Agricultural Producers) conference in Austin, Texas, one producer raised an interesting point regarding scenario planning. He asked, “Regardless of enterprise, what are the worst-case scenarios for which we should plan for over the next four years?”
Well, in order to entertain this question, one must recognize the years of 2008 to 2012 were unusually profitable times; an economic aberration. In fact, such profits have happened only three times in the last one hundred years; World War I, just after World War II, and the 1970s. These periods of exceptional profit are commonly known as economic super cycles, and clearly not repeated often.
Now in context, let’s consider some of the possibilities for scenario projections and the worst-case scenario. First, the profit picture will be very similar to the economic period of 2004 to 2008. While farm businesses made profits, the spikes in the cycle only occurred with a Black Swan or other unusual event. In this environment, the worst-case scenario would be increased costs such as, feed and fertilizer, that do not adjust to current prices. This squeezes the profit margin of the business, and can result in a negative cash flow.
Another worst-case scenario would be for interest rates to increase 300 to 400 basis points or 3 to 4 percent. This could be particularly devastating for producers with intermediate and long-term debt on variable interest rates; or whose operating money, which is often on a variable rate, is a large part of their overall debt. Regardless of enterprise, interest rate sensitivity should be included in scenarios for business planning.
A trade embargo or the continued strong dollar are both factors that could create worst-case scenarios. Further, those that are tied to the consumer marketplace are vulnerable to food issues; local, regional and global. In the event of some type of issue with food safety or supply, the marketplace may lose confidence in the product or provider, which could also be extremely difficult on exports, depending on the situation.
Of course, a 30 to 40 percent decline in land values would be a worst-case scenario to those utilizing equity to refinance operating losses. This tool is meant to be a temporary bridge while the producer and operation adjust business practices back into the black. However, a producer’s ability to adjust practices could be impaired if land values decline.
While these scenarios could affect any enterprise, some of them would be more difficult depending on the business and financial situation. As you approach scenarios in your business planning, consider the top factors that could most impact your bottom line. Certainly, this is not an exhaustive list, but in answer to the TEPAP producer’s question, it highlights some of the areas to consider.