Is it time to double down on dairy markets?
Simon Jette-Nantel, Center for Dairy Profitability
November 16, 2020
Dairy farming is increasingly characterized by growing farm sizes and more levels of uncertainty. Strategic decisions about growth, expansion, and technology adoption are becoming evermore crucial for dairies.
Financial analysis would tell you that higher levels of business risk such as income fluctuations triggered by unexpected changes in yield, prices, or any other production and marketing factors will be compounded by financial risk like higher debt. So, in a world where business risk is at its highest, the decision to borrow more money to invest will elevate your risk exposure and it can be a daunting one. But in a world where some degree of consolidation and technological updates seem necessary, significant investment may be unavoidable. It means doubling down on your dairy business.
What to do? First, be aware of the risks involved and take every measure possible to manage it. Do not underestimate the value of risk management and planning. Being on top of the game when it comes to refining your risk management plan is a premium skill to have in that type of environment. Anything that can be done to efficiently lower the level of business risk . . . including managing price and production risks such as herd health, feed efficiency, labor efficiency . . . will make it that much easier to access capital and to pull the trigger on investment projects even if that implies taking on significant debt.
Second, it’s about efficiency and productivity. There is no way around it, borrowing to invest in a poorly performing business is not a recipe for success. Most success stories come from businesses that were performing well before they even expanded or reinvested.
The rule of thumb is that your business should generate an average return on investment that is at least as high as the interest rate you pay on debt. The good news is that current interest rates are at an all-time low. If you can achieve a decent rate of return on your investment over the next five or 10 years, the interest rate on that loan you took in 2020 to 2021 may end up looking great. It may end up allowing you to grow your equity and meet you goals faster than you would have otherwise.
Final financial thoughts Our current economic system forms a rather unforgiving selection process. It makes winners and losers. Luck plays a role in this. But knowledge, skills, and planning also play a large part. Be aware of the risks involved, the level of risk you are willing to live with, and focus on what you can control.