As harvest season approaches, you should have a good sense of your expected yields and the financial investments required to achieve them. To best prepare for next season, utilize this information with updated data on expenses and markets to calculate your true break-even point – defined as the value per unit where all expenses for the crop are covered by its revenue.
Calculating your break-even point for your farm and individual crops will empower you to make informed decisions on pricing strategies, crop mix adjustments and cost management. It can also influence your marketing strategy and help you develop a clear roadmap.
Break-even point formula
To find your break-even point for a specific crop, divide your total anticipated costs by your total production. For example, if you look at an acre of wheat, and your total anticipated variable and fixed costs are $840 per acre and you average 120 bushels per acre, then your break-even price for wheat is 840 / 120, which is $7 per bushel. Although calculating your break-even point seems simple, there are many variables that can be easily overlooked.
1. Calculate both fixed and variable costs
To create an accurate projection of your break-even point, each cost needs to be accounted for – even hidden costs such as depreciation and interest on loans or lines of credit.
Your costs should include but not necessarily be limited to the following:
- Seed and fertilizer
- Disease, weed and insect control measures
- Equipment expenses, including debt service, depreciation and maintenance
- Energy costs, including fuel and electricity
- Interest on all loans and lines of credit
- Family living expenses
- Land owned or rented including debt service and depreciation
- Labor costs, including wages and benefits
- Taxes, including income and property taxes
- A reasonable return to management
These costs need to be allocated as best possible to each crop. Once you have your total crop costs, you can determine the break-even point of that crop by dividing these costs by total production. This will generate the break-even price per unit for each crop. Often, the most challenging parts of determining the total costs are the allocation of equipment costs, payments and land costs. It may work well to complete these allocations by the percent of gross revenue for the crop or a similar equivalent.
2. Use your break-even point as a guide when choosing crops to plant
It can be challenging to choose which crops to plant each year. Rather than trying to predict the market, you can obtain better results by making consistent decisions based on financial data and assessing marketing options. Learning the break-even point for each crop can help you make planting decisions and select appropriate crop insurance coverage.
3. Use your break-even point to determine when to market and sell your crops
Because farmers are typically commodity price-takers, it’s important to develop marketing plans that will boost your profitability. Obtaining your break-even point is a critical first step in adjusting your marketing plans, coupled with current market price and options. Begin your marketing decisions as early as possible, well before you have made the determination of which crops to plant for the coming year.
Once you have solidified your planting scheme, begin immediately to sell the crop based on your break-even cost and its relationship to current market prices. For example, if you determine in October that you will plant wheat and your break-even price is $7 per bushel, begin watching the markets immediately.
Let’s assume the market price is $6.90 per bushel when you make that planting decision in October. Take the emotion out of selling by setting a price at which you will sell a certain percent of the crop, both for price increases and price decreases. You may set a target of selling 10% of anticipated production when the price hits $7.10 per bushel. When the price hits that target, sell.
Next, set another target for selling. You might determine that because of anticipated lower worldwide yields, you will sell another 10% when the price hits $7.50 per bushel. You will benefit if you set a trigger for price decreases as well. You may say that you will sell 15% of the wheat if the price drops to $6.95 per bushel. Naturally, you will want to sell only a comfortable portion of total expected production prior to harvest, such as 70% to 80%.
Studies show that 80% of agricultural producers sell their crop after the price peaks and is falling. Use a consistent, data-driven process to take the emotion out of selling. With knowledge of your break-even costs, even if you miss the “high” market price, you will know when you are making a profit. Remember the adage often shared by a fellow ag loan officer, “Pigs get fat and hogs get slaughtered.”
Each choice has its advantages and disadvantages on your overall marketing scheme established based on your break-even point. By using break-even analysis, you can determine if you’re selling at a profit and decide the best time to market your crop.
To bolster the health of your agricultural operation, understanding your break-even point is essential. You don’t have to complete this process alone – your lender can be a valuable resource as you make projections and fine-tune your numbers. By regularly calculating and reviewing your break-even point, you can make informed financial decisions and position your farm for success.
