Financial Planning and Budgeting

Financial planning, an important aspect of any marketing plan and management audit, is an ongoing process in the running of a farm retail market. Financial instruments such as the enterprise budget, profit and loss statement, balance sheet, cash flow and pro forma statements have varied uses. Much has been written on this subject for the farm market.

This section covers a select few of the budgeting and financial instruments. For more information refer to financial planning and budgeting in the selected references section.

The Operating Statement

The operating statement shows the results of business operations over a specific period. Operating statements assist financial institutions in deciding whether a business is likely to repay a loan and are generally prepared once a year. A sample operating statement (profit or loss) is given in Table I at the end of the chapter. This statement, as well as the following balance sheet, cash flow statement, and pro forma statement, are used in the New Farm Market case study (Appendix A).

The Balance Sheet

The balance sheet identifies a firm's capital assets balanced against liabilities plus owner's equity. The term balance sheet refers to the fact that total assets must equal total liabilities (including owner's equity), as shown in Table 2.

Cash Flow

The operating statement presented herein indicates a net operating income of $5,000 for year one. When the expenses of the market were examined one item was found not to be a cash expense; that item was depreciation. Depreciation is a way to account for a major expenditure made in a previous period, such as a new piece of equipment. This bookkeeping transaction allows the operator to eventually recoup the original cost of the investment.

Since the amount of money listed under depreciation is not paid out during the period covered by the operating statement it identifies the amount of money available during the period. While this isn't new money, during lean years it is available for use. Most business operators are familiar with the term "living on depreciation." Therefore, depreciation can become another source of funds for the market during the year. The combination of net profit and depreciation is known as cash flow.

Market Operating Net Income      5,000

Depreciation       + 7,000

Cash Flow      $12,000

Financial institutions are interested in cash flow for debt service. Essentially, the cash flow of a market is the amount available for debt service used to pay interest and principal payments on current and long-term liabilities (Table 3).

Pro Forma Statements

The pro forma statement is simply a projection of the balance sheet and the operating statement into the future. Pro forma statements help to give an indication of a firm's future earnings and problems. A positive pro forma statement is an indication that the business is in a good financial position for continuing operations (Table 4).

Enterprise Budget/Break-Even Analysis

A budget is a projection of revenues and costs, usually over a growing season. The enterprise budget is useful when a decision is pending regarding the selection of a crop. While the budget doesn't guarantee the success of a new enterprise, it serves as a gauge for determining potential profitability.

Perhaps the best way to demonstrate the enterprise budgeting process is to present the format used to record costs and revenues. Costs can be grouped into two categories, variable and fixed costs. Variable costs are generally thought of as cash or out-of-pocket costs and vary throughout the production process. They can be controlled by the manager and must be covered in a production period. Examples of variable costs include seed, fertilizer, plants, pesticides, fungicides, irrigation, mowing, interest, land rent, boxes, bags, advertising, and labor (Table 5).

A fixed cost is incurred even if an input is not used during the course of business operations. A fixed cost remains constant, regardless of the level of production or sales. Depreciation, insurance, property taxes, and interest are generally considered fixed costs. Some costs are both fixed and variable. Since taxes are also considered out-of-pocket costs, they may appear in the cash costs section of the budgeting process. The distinction between fixed and variable costs is that variable costs can be controlled by the manager in a production period; fixed costs cannot (Table 5).

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