Adopt Danny Klinefelter’s best farming practices

It’s a volatile world out there. Farm commodity prices may look good these days, but we recently faced flooding in Missouri, drought in Oklahoma, political threats to ethanol in corn states like Iowa, and relatively high input costs across the U.S. This might be a great time to take a look at Danny Klinefelter’s practical list of ways to become more efficient and enhance your bottom line.

“Most people farm or ranch because they love growing things, they love animals, they love being outside or they love being independent,” Klinefelter said. “Not as many enjoy the financial, marketing and people management sides of the business. But these days

, that’s where you need to focus.”

Klinefelter is a professor and economist with Texas AgriLife Extension at Texas A&M University in College Station, Texas. He keeps his hand in production agriculture as president of his family’s farm in Illinois.

You may not be able to adopt all of Klinefelter’s tips, and you’ll need to customize them for your own operation. But his list of best practices for farmers is gaining attention across the nation.

1. Match cost with revenues.
Too many producers treat costs and earnings as separate issues. Focus on managing the margin between costs and revenue by looking ahead a few months and locking in the price of future inputs like fertilizer and fuel, and locking in a price for products you’ll sell, like corn and soybeans. Purchasing market options may let you capture a profit and still benefit from future price changes.

“Too often, farmers wait to get a better deal,” Klinefelter said. “If you lock in a profit today and you make money, you’ve won!” Costs and prices are increasingly volatile. Klinefelter predicts that farmers will use more risk management tools including trading options, flex rents and insurance in the future.

2. Play "What if?"
Don’t limit yourself to considering most-likely outcomes. Plan for the worst. Start with the four Ds—What if someone dies, what if there’s a divorce, what if someone becomes disabled, or what if a key player departs? What if we’re hit with a disease outbreak? What if our lender will no longer finance us? What if input costs double again? Discuss solutions and develop a crisis plan when things are going well to limit the emotions involved.

Klinefelter uses insurance to illustrate the need for contingency plans. Farmers along the Missouri, Mississippi and other rivers this summer were covered if they purchased crop insurance in advance. But what if you weren’t able to plant because the fields were too wet? In Oklahoma and other southern states, drought was so severe that some crops failed to come up out of the ground. Will hail and other types of crop insurance cover crops that fail to emerge?
“While we don’t all agree on the cause, it’s safe to say that farmers have been facing more volatile weather along with more volatile markets,” Klinefelter said.

“We may be vulnerable to even more volatility as Congress grapples with the budget deficit—will farm payments and loan guarantee programs be cut?”

One solution—consider crop revenue insurance. “You might hate to pay the premium, but look at what could go wrong and ask yourself if you can afford it,” Klinefelter said.

3. Stay on top of your business.

“Business problems are like cancer—they eat away at profits,” Klinefelter said. “But if you spot them early, they’re often treatable. The best managers constantly monitor and analyze their performance. They’re more likely to spot problems and opportunities before it’s too late.”

For example, many farmers take last year’s cash flow budget and adjust it for next year. “Most lenders won’t settle for this,” Klinefelter said. “They know that farmers consistently overestimate projected earnings. The forecast you developed at the beginning of the year doesn’t include things that actually happened.” Each month, check projections against current cash flow. If this month proves worse than projected, you may need to adjust your expenditures.

4. Establish priorities - the 20:20 rule.

The 80:20 rule says that 80 percent of what we accomplish is produced by 20 percent of what we do. “Do first things first,” Klinefelter explains. “Most people never accomplish their goals because they focus on what they know how to do, what they like to do, what’s easiest and what’s urgent.”

Klinefelter cites this example of how to delegate: “In the past, many farmers sprayed all their crops. With today’s high input costs, most spray only when there’s a problem. Farmers love to monitor their fields, but it might pay to hire a professional scout to assess your needs.”  

5. Conduct autopsies.

Evaluate key decisions to avoid repeating mistakes. What went well and what went poorly? What did you overlook, and what assumptions led you wrong? What did you learn? What trends should you consider in the future? The objective is to avoid repeating mistakes. Debriefings to discuss how things went can help you develop a successor and improve communication within your team.

Klinefelter brings up a beef example. “Many producers specialize in Angus because of the meat quality,” he said. “But we’ve seen a trend toward crossing Angus with other breeds to gain qualities that help the offspring do better in particular geographic areas.”

6. Do little things better-the 5 percent rule.

“Studies show that the most sustained success comes from doing 20 things 5 percent better than from doing one thing 100 percent better,” Klinefelter said. “The most profitable producers tend to be only about 5 percent better than average farmers in terms of costs, production or marketing.”

He uses corn to illustrate this rule. Assume the seasonal average corn price was $7 per bushel. Others waited for prices to hit $8, but you locked in a forward contract for $7.35, just 5 percent higher than the average price. In addition, you might boost production by 5 percent by implementing precision agriculture, purchasing better seed genetics, hiring a scout to manage insects, installing tiling in fields to prevent erosion or implementing more timely irrigation.
“Little things add up,” Klinefelter said. “You might be surprised at the difference you can make in your profitability.”

7. Benchmark you performance

“Most producers don’t know how they compare to their competition,” Klinefelter said. “They think they’re average or a little above—but it’s not possible for everyone to be above average. It’s not enough to know how you compare to the average farmer—how do you stack up against the top 25 percent?”

Klinefelter brings up the example of the producer who farms 2,500 acres and uses the same amount of labor and equipment as a neighbor farming 4,000 acres. “They bear the same costs, but the farmer with less acreage generates less profit,” he said. “Benchmarking reveals the difference, and helps you focus on solutions.”

Say you employ three full-time workers on your soybean and corn operation. Benchmarking shows that your labor costs run higher than similar producers. You eliminate one full-time position and use part-time help during the busy season. “You might be able to hire a retired farmer who wants to supplement his income to cover Christmas or vacation expenses,” Klinefelter suggested.

You can access benchmark information from statewide farm management associations, agricultural accounting firms and ag lenders.
  
“Successful managers spend as much time analyzing what they need to stop doing as they do evaluating new opportunities,” Klinefelter said. Such analysis can lead to shedding assets, enterprises, people, or leases. 

A dairy farmer might opt to purchase or contract for replacement heifers—he may not be as efficient at raising young animals as an operator who specializes in the task. The same might hold true if you grow beef or pork.

Here’s an example for row croppers. Say you rent 20 different tracts of land. Have you compared the costs of farming each? Maybe you should quit farming the field 20 miles away.

“Look at your standard operating procedures,” Klinefelter said. “Maybe your grandfather did it this way, but you might be able to eliminate or combine steps to streamline your operation.”
 
9. Use accrual-adjustment income to evaluate profitability.

“Cash basis accounting is simple and it provides an easy way to manage taxes, but it’s a poor way to measure true profitability,” Klinefelter said. “Cash basis often lags accrual-adjusted accounting by two to three years in recognizing profit downturns and upturns. By then it’s too late to respond.” 

Klinefelter uses an example from his farm. One year his family decided to expand pork production and retained 300 females that the operation typically would have sold. Corn sales dropped as the farm fed the corn to the additional sows and their offspring. Profitability dropped on a cash basis, but accrual accounting showed that the farm produced more inventory than it sold.

You don’t need an accrual accounting system—simply prepare balance sheets that reflect the beginning and end of the period for which you’re measuring income. Include inventories, accounts receivable, prepaid expenses, accounts payable and accrued expenses. For more information, contact the Extension service, or visit the Farm Financial Standards Council website, www.ffsc.com.

10. Learn from the E-Myth principle.

The E-Myth, a book by Michael Gerber, talks about how most of us believe we can succeed as entrepreneurs, when in reality most small businesses fail. Gerber thinks most business owners begin with a fatal assumption—that if you understand the technical side of your business, you understand how to run the entire business.

Klinefelter suggests you apply this lesson to farming by learning more about the four constituencies that affect your operation—employees, buyers, suppliers and funding sources. “Find the top three things that frustrate them in dealing with a business like yours. Reduce those frustrations to become the supplier, customer, employer, borrower or tenant of choice.” 

For example, when you need equipment repaired during harvest, will your repairman serve you first? As Klinefelter puts it, “If you work with suppliers as a partner, they’ll treat you better than others during crunch times.”

If you rent land, find out what bugs your landlord. Maybe she’d appreciate you keeping the weeds down or plowing snow from her driveway. Perhaps she’d like to share in your profits. While most leases have moved toward cash rents rather than shares, Klinefelter sees a new trend toward “flex” or “bonus and disaster” leases that protect the producer during a tough year, yet reward the landlord when prices rise a specified percent above average at the time the contract was signed.

11. Form strategic alliances

Another national trend is that some farmers are joining forces. “To remain independent, many producers need to become more interdependent,” Klinefelter, explains. “Joint efforts can reduce costs and help you gain technical expertise and economies of scale.”

History is full of examples of farmers joining together. Farmers formed MFA Incorporated nearly a century ago to market products and to purchase inputs at attractive prices. A few years ago, corn growers got together to build ethanol plants. Today, producers continue to form alliances on a smaller scale to share equipment or to hire a chief financial officer, vet or nutritionist.

12. Join a peer advisory group.

Klinefelter recently held a two-day conference in Dallas to promote peer advisory groups, where producers discuss their operations with five to 10 other farmers they know.

“I’m pushing the concept for farmers because it has so much potential. And I see a trend toward more farmers and farm service organizations taking advantage of the idea.” 

The groups meet by invitation only, exclude direct competitors, and usually use an outside facilitator. Success requires trust, openness and the ability to accept constructive criticism. Your only expense—your time and the cost of gas to drive to the meeting.

Producers usually start out by discussing little things like how to speed up weight gain per cow, or comparing the cost of equipment. They work up to more meaningful issues. Ideally, trust will grow to the point where a farm accounting consultant will collect vital information from each participant into a matrix that protects the identity of each individual, yet allows participants to compare things like financial ratios, overall costs per acre and other important issues.

“Peer groups serve as an advisory board where no one has a fiduciary liability,” Klinefelter said. “They help you see the big picture and provide a benchmark for your performance. Once you shine a light on your weak areas, you can begin to make improvements.”