This past week we reviewed the U.S. Department of Agriculture’s latest farm-income projections and noted sector-wide incomes are expected to increase again in 2020. Also current projections reflect an increasing trend in farm income since 2016, with levels at more than the long-run inflation-adjusted average.
While all that is positive, farm income is only a single measure of the farm economy. The USDA’s projections also include a look at sector-wide financial conditions. This week’s post considers the continued deterioration in farm debt and working capital.
Farm debt increasing
Figure 1 shows total U.S. farm debt during the past 10 years. Overall there has been a steady if not persistent increase in total farm debt. Total farm debt for 2020 is expected to reach $425 billion, an increase from $300 billion in 2012. During the past 10 years total farm debt has increased at an average rate of 4 percent annually.
Figure 2 shows real inflation-adjusted farm debt since 1960 – categorized into real estate and non-real estate. There are several insights that can be gleaned from Figure 2, but in the context of this week’s post consider the trends in each category in recent years. Non-real-estate debt has been mostly unchanged. On the other hand real-estate debt has increased sharply. Since 2010 total farm debts have increased by 28 percent; the vast majority of that increase at 82 percent was real-estate debt.
Working capital decreases
Another measure from the balance sheet is working capital. Working capital is often the front-line defense of a farm’s risk-management plan. It’s helpful to consider working capital because it gives us an idea of the financial position of the operation. Working capital measures by taking the operation’s current assets minus current liabilities.
As farm incomes decreased so did working capital. Sector-wide working capital in 2012 was more than $160 billion. The USDA is projecting working capital in 2020 will decrease to $52 billion.
Working capital can also be measured as a percentage of gross revenue. One way of thinking about that ratio is, “for every $100 of gross revenue, how much financial cushion or working capital is there?” Figure 4 shows that measure since 2012. When farm income and working capital were both inflated, the ratio of working capital to gross revenue was 37 percent. More recently the ratio has been closer to 15 percent. The ratio is expected in 2020 to reach 12 percent. For every $100 of projected revenue, the sector will have only $12 of working capital. In other words many producers will find the current portion of their balance sheet to be very tight in 2020.
A ratio of working capital to gross revenue at 12 percent is poor. The University of Minnesota classifies a working capital ratio of 10 percent or less as “vulnerable” and a ratio of more than 30 percent as “strong.”
While one could debate the appropriate level of working capital – especially at the sector-level – it’s the trend that’s most concerning. We wonder when working capital will begin to stabilize.
Wrapping it Up
While farm income is increasing, it’s always tricky to use a single measure to fully summarize the state of the farm economy. The trend toward more debt and less working capital points to troubling realities. Producers are utilizing new debt and burning working capital to bridge financial shortcomings. Even though sector-wide incomes as measured by the USDA have tended to increase, producers rely on that income to satisfy other financial obligations such as family-living expense and debt service.
In short, even though farm income has increased – a welcome positive sign – the improvements have likely not been enough to satisfy all financial obligations.
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