Field Crops Farm Business Analysis WorkbookDOWNLOAD FILE
February 6, 2020 - Author: Roger Betz, Michigan State University Extension
Balance Sheet Instructions and Explanations
The balance sheet or net worth statement is a snapshot of the financial position of the farm business at a given point in time. Everything the business owns and owes is listed on the balance sheet. It provides a summary of how funds have been invested in the business (assets) and the financing methods (liabilities) used at a given point in time. Accurate and detailed balance sheets are needed to accomplish the following:
- Analyze the financial performance of the business.
- Secure credit and financing from lenders
- Monitor financial progress over time
- Make financial projections
- Understand the financial risk position
- Provide information for Estate Planning
The first step in building an accurate balance sheet is to select the date that the balance sheet represents. It needs to be consistent from year to year. December 31st is the preferred date as this corresponds to the end of the previous cash accounting year and the beginning of the next. Accurate balance sheets for the beginning and end of the cash accounting period enables adjustment of cash accounting for inventory changes that occurred during the year. This is essential to understanding the farm’s financial performance.
The next step is to decide what business entity the balance sheet represents (partnership, individual or the whole farm). Clearly identify the person(s) or entity being described at the top of the balance sheet and be consistent each year. Within the balance sheet, it is important to keep separate farm from non-farm assets and liabilities.
Assets are all the things owned or coming to the business as of the date of the statement. There may be a liability against the asset. This will be accounted for in the liability part of the Balance Sheet
Current Farm Assets
Current assets are cash or other assets that are
expected to be realized in cash or consumed (feed, etc.) in production during a business year.
All supplies on hand should be priced at their cost. Growing crops such as wheat or alfalfa, should be listed at the actual cash costs invested to date.
See appendix 1 for information on calculating the quantity of crops in storage and pricing corn silage and haylage.
Government payments should reflect payments yet to come as a result of past activities, not future activities. A crop under loan can be valued and listed with crops held for sale only if offset later by a loan against it in the liability section.
The Market Value and Cost Value values are the same for current assets.
Valuation Methods for Intermediate and Longterm Assets
Values for intermediate and long-term assets should be determined using both their Cost Value and their Market Value. The Cost Value is the purchase price minus the depreciation taken to date. This should be consistent with income tax records. The Market Value is the amount that would be received if the asset were sold on the open market. It is important to use consistent values from year to year.
This formula may be helpful to help be consistent from year to year on Market Value: “beginning value” PLUS “purchases made during the year” MINUS “cash sales” TIMES “90%” (The 90% can be changed to reflect the years of the asset. 90% would be a 10% or 10 year life. 85.71% would be 7year life and 95% would be 20 year life.)
Lenders want to see the Market Value of term assets so they can determine ability to repay the loan if they had to foreclose. The accrual income statements (over several years) should be used to determine ability to repay without foreclosure.
There is significant value in both Market Value and Cost Value balance sheets. Market Value only can be very misleading in determining profitability and monitoring financial progress over time. Net worth calculated from a Market Value balance sheet is affected by inflation or deflation as well as actual earned income. The Cost Value balance sheet is not affected by inflation or deflation and is more useful in monitoring the businesses financial profitability and progress since only the changes in net worth resulting from earnings are included. There is space to enter both the Cost Value and the Market Value of term assets in the worksheet.
Intermediate Farm Assets
Intermediate-term assets are those resources that support production. They are not intended for immediate sale. Such assets are expected to have a useful line of 1 to 7 years. They include machinery and equipment (marketable value and undepreciated value; be consistent year to year), breeding livestock, and securities not readily marketable.
Long-Term Farm Assets
Long-term assets include items of a more permanent nature, such as farmland, buildings and improvements, and non-farm real estate. Land should be listed separately from farm buildings and improvements.
Non-farm Assets are those assets not used in the farm business. These could be profits taken from the business for personal use. Personal residence, house hold items, retirement funds and cash value of life insurance typically are non-farm assets.
Liabilities are all obligations that are owed as of the
statement date. Do not change the classification of a liability as it matures. Make sure principal and unpaid accrued interest are separated. The principal balances should not include unpaid interest. Accrued unpaid interest is listed separately. Statements from lending institutions should be used to verify balances.
Current Farm Liabilities
Current liabilities are those due and payable on demand or within the operating year. Commodity credit loans should be added to this section. If a CCC loan is entered, make sure the product is listed on the asset side of the balance sheet as well.
It is important to separate and understand the difference between borrowed money and unpaid bills. In cash accounting, unpaid bills have not yet been claimed as a tax-deductible expense.
Intermediate Farm Liabilities
Intermediate liabilities and debts are against intermediate assets. These typically are due within 7 or 10 years. Loans for machinery and equipment purchases and breeding livestock tend to fall into this category. Leases, such as on silos and machinery, should be added here.
Long-term Farm Liabilities
Long-term liabilities are against long term Assets. Typically these are land contracts and mortgages on land and buildings. These typically were set up originally with 10 or more year to repay.
Non-Farm Liabilities are those liabilities against non-farm Assets.