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Balance Sheet Basics

2022 is in the books. You’ve talked with your tax representative. You’ve worked with the other members of your farm team to set a plan in place for the coming year, including a cropping plan, prospective capital purchases and, hopefully, discussed ways to increase efficiencies where possible. One very important step to take before moving too far past year end  is updating your balance sheet. This can be a great  way to improve your financial management.

What is a balance sheet?  
 In the most basic form, a balance sheet is a snapshot of your business at a specific point in time. Since it is a look at your operation at a point in time, for easy comparison,  it’s best to update the balance sheet at the same time each year.  For most farmers, the end of the year seems to be the best time to update the operation’s balance sheet.

Formatting a balance sheet
 Your balance sheet includes all assets and liabilities, normally listed in three categories: current, intermediate and long term. Typically, “assets” are listed on left side and the right side lists “liabilities.”

The “Current” category includes anything that  will be sold or turned into cash(assets), or any bill that requires payment (liabilities) within the next 12 months.

The “Intermediate” category lists    assets not typically sold in the coming 12 months, such as breeding  livestock, feed, machinery, vehicles, retirement accounts, etc.   In addition, this is where a loan with a maturity date between one and ten years is documented as a liability. As a general rule, it’s not recommended to make big changes in the value of items in this category from year to year.

The “Long Term” category lists any land, buildings, grain systems, etc. (assets).  Loans with maturity dates greater than ten years go under this category as liability.   

Taking a closer look
As mentioned above, these numbers on your balance sheet are helpful for improving your financial management.

Simply add up each column to total your assets and liabilities. The difference between the assets and liabilities is known as your “net worth.”  Since the balance sheet is done every year at the same time, you will, hopefully,  see your net worth increase from year to year.

The balance sheet also allows you to calculate what percentage of the business you own, versus what percentage your lender(s) own.  To calculate your ownership equity (QE), divide the net worth amount calculated previously, by the total assets.  Most lenders like to see a minimum here of about 50%.  Ideally, this number increases each year.  If you are planning to make a major purchase, owner equity is a very important consideration.  

Looking closely at the current assets and liabilities section, can tell you if you will be able to cover the expenses in the next 12 months, commonly referred to as “working capital.”  Current assets should be greater than current liabilities, hopefully with room to spare. If not, this signals your cash flow will be tight in the coming year.  Once your working capital is calculated you can determine working capital/cow, or working capital/crop acre.

These are some of the most important values determined from a balance sheet. When completed on a timely basis for several years, it’s fun to see the growth.  In order to see yearly growth, start completing a balance sheet while your business is young.  

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Senior Dairy Lending Specialist
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