Managing in a margin squeeze

We’re finding ourselves in a “margin squeeze.” However, there are always ways to improve profitability.

North American Potato Market News / Paris, Idaho

Danny Klinefelter, an extension specialist at Texas A&M, wrote “Top managers are in a continuous improvement mode. They’re never satisfied because they know there is, or soon will be, a way to do better …Rather than looking for a way to do one thing 100 percent better, they focus on doing 100 things 1 percent better, day in and day out.”

Sometimes it’s easy, as farmers and ranchers, to get so busy keeping up with day-to-day operations we miss opportunities to improve profitability. There are certain times of the year when I easily get stuck in this rut. It seems like everything on the to-do list should have been done yesterday. Now is not a good time to get stuck. Now is a good time to make changes.

In our farm and ranch management classes, we talk about the six factors affecting profit. Small, frequent changes in these six areas are usually what it takes to improve profitability. Here are some examples, but there are many possibilities.

1. Number of production units: Increase or decrease the number of acres you farm or number of cows you manage to operate as efficiently as possible. It’s all about fully utilizing production assets such as machinery, equipment, labor, etc. We need to spread those costs over enough acres or cows to reach the “efficiency sweet spot.”

Usually, we think expansion is the best way to improve efficiency, but sometimes downsizing and specializing can increase efficiency as well.

One option is to take an inventory of your machinery and equipment and sell those under-used assets to generate some cash. Consider doing some custom work for your neighbors to generate some extra income and lower your per-acre fixed costs. The more acres you can put under your equipment, the lower your own cost of production.

Also, consider hiring certain custom operations and eliminate your need for expensive machinery or equipment all together.

When times are good and prices are high, we tend to become top-heavy and over-invested in some production assets. Now is a good time to shed some of those capital consumers and become lean, mean and efficient. To reach the profitable balance, we may need to increase or decrease our number of production units.

2. Production per unit: Increase or decrease the yield per acre or production per cow. Remember, more is not always better. Maximizing production is not the same as maximizing profit. As farmers and ranchers, we have the instinctive desire to wean bigger calves and break record crop yields.

I’ll admit, it’s a lot of fun to brag down at the coffee shop or sale barn. To keep things in perspective, profit should be our main focus. In other words, we could all wean 900-pound calves, but at what cost? Would those 900-pound weanlings be profitable?

We can look at this point, “production per unit,” from both extremes, and neither are consistently profitable year-in and year-out. Both strategies – maximizing production and minimizing costs – can work when prices are high, but we can lose our shirt when prices are low.

To maximize production and make a profit, all the stars have to align; any hiccup along the way will result in a loss. Likewise, minimizing production costs in the extreme will result in low crop yields, light calves and open cows. We have to find that sweet spot of efficiency – the point where marginal revenue equals marginal cost.

There are hundreds of decisions we make each year that affect production. Things like what to plant, when to plant and harvest, how much to fertilize, what vaccination program to use, what genetics to select, and the list goes on and on. When margins are tight, managing production per unit may have the greatest impact on profitability.

3. Value per unit: Increase the value of the crops and livestock we produce. This means producing what buyers want and are willing to pay for. Marketing is all about quality and reputation. A good reputation and relationships with buyers can take time to build, but they make marketing a more profitable and pleasant experience.

In my estimation, only about one out of 50 farmers or ranchers really enjoys marketing. We enjoy the production side of things, but selling what we produce is not what we love to do. This can be observed at the sale ring. Try sitting in the back sometime and watch for the guys wringing their hands and sweating. We all hate that gut-wrenching feeling inside when it comes time to negotiate a price with the buyer.

The only way to become a better marketer is by being proactive – getting out of our comfort zones and actively selling.

All through college, my professors said farmers and ranchers are “price-takers” – almost like we were some kind of victims. Yes, we probably are price-takers, but who isn’t? What industry gets to set their own price? The consumer is king, no matter what industry we’re in.

If we produce what our consumers want or need, they will be willing to pay for it. Selling for a profit takes effort and creativity, but there are always things we can do to increase the value of the crops and livestock we produce.

4. Enterprise mix: Find the right mix of enterprises. Can we improve profitability most by specializing or diversifying? The answer will vary for each operation. Good managers can be successful at either option.

Specializing in one enterprise can give us the ability to focus management and fine-tune efficiencies. Each business has a comparative advantage. We can take a close look at the resources we have available and identify what advantage we have over our competitors. Focusing on what we do best can keep us profitable in down markets.

Diversification can also be a good way to spread out market risk, but it takes a broader range of management skills. If diversification is our strategy, we can choose enterprises that complement one another such as cow-calf, replacement heifers, feedlot, feeder hay, corn silage and feed barley.

Flexibility is the main advantage of a diversified operation. If we know our markets and strategically adjust resource allocation to the more profitable enterprises, we can usually remain profitable as a whole, even when one or more enterprises are less profitable.

5. Operating costs: These are variable costs for the inputs we purchase to produce. Feed, seed, fuel, fertilizer, irrigation, chemicals, repairs and labor are some of the big ones. There are usually no big changes we can make here, only lots of small adjustments.

It’s all about gaining a little efficiency with each input. Things like taking soil samples before we fertilize, keeping irrigation equipment in good repair, testing feed and calculating a least-cost balanced ration.

6. Ownership costs: These are the fixed costs we have to pay even if we decide to go fishing every day instead of farming. Costs for land, machinery, equipment and buildings. These costs are difficult to adjust in the short run. Spreading out equipment costs over more acres is one of the main ones. Negotiating an equitable land rent, hiring a custom harvester or refinancing term debt are options worth considering.

When profit margins are tight, there’s no silver bullet to stay in the black. But there are a likely 100 things we can do 1 percent better. Hopefully this long-winded article will give you some ideas.