The thing is, you’re going to eat anyway, and probably wear clothes too. When a farmer doesn’t build a salary into their business model, they’ll still spend money on their personal needs and desires. The money just gets sucked out some other way.
Of course a salary can take some getting used to, says Julia Shanks, consultant and author of The Farmer’s Office. But Shanks says it’s as important to include how you’ll pay yourself in your budgets and your cash flows as it is to plan your equipment expenses or any other cost factor.
Shanks, based in Massachusetts, works with farmers and other food-based businesses to help them understand their numbers and achieve financial sustainability. She says there are many ways and opportunities for farmers to build their compensation into their business plan.
To start with, they should build the value of their time into their cost of production.
“Your time isn’t free; there is a value to it,” says Shanks. “Number one is building in the value of your time, because if you don’t build it into your cost of production and your pricing structure, there won’t be money to pay yourself.”
It’s important to assign a realistic labour rate for the work that you do, because that’s the rate you will have to pay either to yourself or to someone else you hire to do the work.
“I think sometimes farmers say if I’m doing it myself my time is free. However, when your business grows and you hire somebody, you want to have that already built in,” says Shanks. “You don’t want to suddenly have your cost of production double because you are having to pay someone to do the work, and you haven’t allowed for that.”
Building that labour in from the start ensures the business can expand, and also provides some coverage in case something unforeseen happens.
“If you break your leg or something happens and you can’t do the work yourself, you have built in the cost of having to pay someone else to do it,” says Shanks.
Is a cash draw a good idea?
Some business owners prefer to take cash draws from the company instead of a regular salary, maybe thinking that they will only take money as needed or as the company has cash available.
Is this a good strategy?
Possibly, but it all comes down to having a proper cash-flow budget, says Shanks.
“We all know the cyclical nature of farming,” she says. “The swings in cash flow are wild, so if you don’t have a cash-flow budget, then how can you guarantee, if you take $1,000 now, that you are going to have enough cash to operate the business later? If you create a budget, then you can say, alright this is when I can afford to pay myself and not create a cash crunch for the business.”
Don’t muddy the waters
No matter how farm owners remunerate themselves, it’s important to have a goal of what you would like to earn over the year, but it’s something of a philosophical debate says Shanks.
“There are a lot of people that would argue to decide what profit you want to make and then figure out what the business model looks like to get you there.”
The important thing is to base the business plan and projections on the core farm business, she says.
“If you’re trying to understand the true health of your business, you want to be able to compare the revenue from your core operation to your expenses from your core operation,” says Shanks.
“If you have a side business, or you’ve got grants or insurance proceeds mixed in there, it’s really hard to see how your core business is doing. Maybe you’re doing custom work or you have a side landscaping business, and if that gets mixed in, you can’t really see how you are doing as a farmer.”
She cites the example of a client who was raising alpacas, spinning the wool, then knitting and selling hats in her farm store. “It was a total passion project. She was losing money, but she loved knitting and the alpacas, and they were a draw to bring people to the farm. So she had to understand that it wasn’t a revenue stream, it was a marketing expense and a hobby,” says Shanks.
“That’s fine, but don’t kid yourself into thinking that if you just work harder, you’ll make it work.”
What’s a realistic labour rate?
How do you figure out a realistic labour rate? Start by looking at what others in the area are paying.
“Maybe you don’t have employees but the farm next door has, so what are they paying?” asks Shanks. “I know that a lot of farmers feel, ethically, it’s important to pay a living wage, and minimum wage is not a living wage, so a lot of farm owners are paying more than that.
“You need to decide, what’s the hourly rate that you want your employees to make and then add an additional percentage for payroll taxes and Workers Compensation or other insurance costs.”
Profit is different
It’s important to understand the labour rate you pay yourself is not your desired profit, says Shanks. “You might build in a labour rate of $15 an hour, but your desired profit may be the equivalent of $40 an hour, so then you need to make up that additional $25 an hour from the profits — what’s left over after covering your cost of production and overhead.”
There is also a concept called profit per hour, which isn’t the same as determining how much profit you want to earn per hour and building that into the pricing structure, but is more about evaluating different opportunities.
An easy example is from the hort sector. You might have two options: selling direct and through farmers markets, or going through a local co-op.
Maybe going direct creates a $1,000 profit because you are able to charge a higher price, but it takes 20 hours of your time, so the profit per hour is $50.
By contrast, the lower price at the co-op might mean your total profit is only $650, but delivering there only takes 10 hours, so your profit per hour is $65.
“Which is better?” Shanks asks.
“That’s looking at different opportunities to make the most value of your time. If you have limited time, then you want to make the most of each hour. If dollars are more important than anything else, then maybe it’s just the net dollars that you think about.”
That may be a lot easier to build into the business plan for a grain farmer who has little control over things like the cost of seed and inputs or the market price of the commodities he or she grows. Then it becomes a different calculus, and a much harsher situation as a price-taker, says Shanks.
“The question is, what are your sunk costs (money already spent and not able to be recovered) and what are your production costs?” says Shanks.
As an example, if a farmer’s cost to produce 59 bushels of wheat per acre is $200 and fixed costs are another $180 per acre, they must be able to sell the grain produced for around $6.50 per bushel to cover those costs.
“If the price is $4.50 a bushel, you might as well stay in bed because you’re giving up $2 a bushel, but the flip side of that is if you’ve already produced it, it’s either you lose $380 an acre or $265 per acre,” says Shanks. “The question is, at what point is it a sunk cost? If you don’t sell it to this market at a loss, can you sell it somewhere else, or if you don’t sell it at this market then you’re eating the cost.”
What commodity farmers can look at is managing their fixed costs, says Shanks.
“Do you need to re-evaluate your insurance policy or your equipment? Do you have idle equipment that you could sell that’s just costing money to insure or maintain? Don’t just look at the production costs, but also the overhead costs.”