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A griculture & B usiness M anagement Economic & Financial Considerations Due to Drought Jeffrey E. Tranel Agricultural & Business Management Economist jtranel@colostate.edu

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A Few Basic Questions? 1. Where were you on January 1, 2002?

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A Few Basic Questions? 1. Where were you on January 1, 2002? 2. How did you respond to the drought?

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A Few Basic Questions? 1. Where were you on January 1, 2002? 2. How did you respond to the drought? 3. Why did you respond as you did?

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A Few Basic Questions? 1. Where were you on January 1, 2002? 2. How did you respond to the drought? 3. Why did you respond as you did? 4. Where are you now?

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A Few Basic Questions? 1. Where were you on January 1, 2002? 2. How did you respond to the drought? 3. Why did you respond as you did? 4. Where are you now? 5. Now what should you do?

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Where Were You on January 1, 2002? Personally? Age. Health. Children. Retirement. Other.

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Where Were You on January 1, 2002? Personally? Managerially? On target. According to plans. Herd development. Properly stocked. Labor resource. Machinery, buildings, fences. Other.

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Where Were You on January 1, 2002? Personally? Managerially? Financially? Balance sheet. Net worth. Ratio analysis. Current with loans.

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How Did You Respond to the Drought? According to plans? Herd development. Herd size. Marketing.

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How Did You Respond to the Drought? According to plans? Feed? Purchased additional feedstuffs. Moved cows to another state. Sold excess feed.

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How Did You Respond to the Drought? According to plans? Feed? Cattle? Some cows. Deeper culling. Retained only very best females. Sold cows, kept heifers. Sold all cattle. Purchased cattle.

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Why Did You Respond As You Did? Personal situation. Goals (plans). Financial situation. Lender. Taxes. Pasture/Feedstuffs.

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Where Are You Now? According to plan. Wondering.

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Where Are You Now? Wondering. According to plan. Better off financially. Worse off financially.

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Where Are You Now? Wondering. According to plan. Better off financially. Worse off financially. Better off personally. Worse off personally.

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Where Are You Now? Wondering. According to plan. Better off financially. Worse off financially. Better off personally. Worse off personally. All fences and buildings repaired. Pastures rested.

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Where Are You Now? Lender accepted management plan.

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Where Are You Now? Lender accepted management plan. Taxes paid. Tax liability exists (1033e, 451e, other).

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Where Are You Now? Lender accepted management plan. Taxes paid. Tax liability exists (1033e, 451e, other) Retired. Out of ranching but still working.

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Financial Situation Due to 2002 Drought

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Remember: With no farm profits and no other income, there is no money for principal repayment, family living, investments, etc.

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Comment by Old Timer: My Biggest Tax Problem Is Not Paying Enough Taxes!

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Have Carry-Over Sales? If have carry over income and little/no profits, may want to recognize such income to offset current year expenses. rather than continuing to carry forward income. rather than pre-paying expenses.

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Other? Do not elect accelerated depreciation. Use other profits to offset farm losses.

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Livestock Producers Feed Assistance Program Such payments must be included in the year of receipt.

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Livestock Producers IRS Code Sections 451(e) and 1033(e). Requirements of taxpayer. Qualified farmer. Uses cash method of accounting. Sale would not have occurred except for drought.

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Tax Code Section 451(e) Primarily for sales of market/feeder animals. Allows for deferring recognition of forced sale income to the following year. Livestock sold due to drought, flood, or other weather related conditions. Area must be designated as eligible for assistance by the federal government.

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Tax Code Section 1033(e) Allows for the non-recognition of the gain on the sale of breeding livestock. Horses qualify if used for draft, breeding, or dairy. Poultry is expressly excluded from livestock. Animals sold in excess of normal numbers due to drought (involuntary conversion).

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Replacing Property Lost Due to Involuntary Conversion Replacement property must be purchased. The taxpayer's basis in the property is its cost. Replacement property acquired by gift, or tax- free exchange, is not eligible for deferral. Since the basis of the property is not cost. Must be similar or related in service or use. Functions in the same way. Breeding cow and dairy cow do not qualify.

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Replacing Property Lost Due to Involuntary Conversion If reinvestment in similar use property is not feasible because of soil or other environmental contamination, Livestock may be replaced by other property used for farming purposes. Toxic chemicals are the contaminant. Brucellosis infected cattle do not qualify (bacterial).

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Replacing Property Lost Due to Involuntary Conversion The converted property must be replaced within a two-year period. The period ends two years after the close of the first taxable year in which any part of the gain on the conversion is realized. Replacement of the converted property must be completed by the end of the period. Sales in 2002 = Replacement by 31 Dec 2004

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Contact A Tax Professional Competent. Understands your situation. Business. Finances. Business goals. Personal goals. Personality.

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Now What? * To restock or not to restock? * Possible solutions.

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Now What? * Restock. Herd back to original size. New herd smaller than original. Slowly. Quickly.

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Now What? * Re-stock slowly. Buy a few cows each year. Buy heifers rather than cows. Run yearlings, then cows. Convert to yearlings only.

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Now What? * Re-stock quickly. Full AUMs with cows. Full AUMs with heifers. Buy cows to replace open heifers. Buy heifers to replace open heifers. Yearlings then cows.

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How/What to Produce? and For Whom? Production environment. Marketplace.

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Cash Receipts Bureau of Economic Analysis Farm Income and Expenses

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Cash Receipts: Livestock and L/S Products Bureau of Economic Analysis Farm Income and Expenses

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Cash Receipts: Miscellaneous Income Bureau of Economic Analysis Farm Income and Expenses

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Total Receipts and Other Incomes Bureau of Economic Analysis Farm Income and Expenses Bureau of Economic Analysis Farm Income and Expenses

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Cash Expenses: Livestock Purchased Bureau of Economic Analysis Farm Income and Expenses

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Cash Expenses: Purchased Feed Bureau of Economic Analysis Farm Income and Expenses

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Cash Expenses: Petroleum Bureau of Economic Analysis Farm Income and Expenses

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Cash Expenses: Hired Labor Bureau of Economic Analysis Farm Income and Expenses

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Cash Expenses: Other Production Expenses Bureau of Economic Analysis Farm Income and Expenses

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Cash Expenses: Total Expenses Bureau of Economic Analysis Farm Income and Expenses

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July 2002 Cow Calf Returns & Cattle Inventory

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-$20

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Realized Net Income: Colorado, 1991-2000

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Colorado Agriculture Stagnant Income Growth - 2.9% Increasing Costs - 3.5% Declining Net Incomes

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Possible Solutions: Production Increase production Production/harvest practices Technology Precision farming techniques

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Possible Solutions: Marketing Marketing Long-term Profit vs. Short-term Windfalls Develop Market Plans and Strategies Marketing goals Available tools

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Possible Solutions: Marketing Consider alternative markets Contract production New markets for current products New uses for current products Shelf life enhancement Engineered products (characteristics) Processing Packaging

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Possible Solutions: Financial Understand Financial Situation-Financial Statements Liquidity Profitability Solvency Financial Efficiency Unit Cost of Production-Enterprise Budgets Know your costs Manage the costs

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Possible Solutions: Risk Management Enterprise Diversification Different crops Combinations of crops and livestock Different end points Different types-same crop Value-added/product differentiation Different income sources

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Possible Solutions: Risk Management Pricing Tools Forward Contracts Futures and Options Direct Marketing

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Possible Solutions: Risk Management Debt Management Debt reduction Refinance loans Adjust terms of the loan Debt consolidation Adjust payments dates

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Possible Solutions: Risk Management Debt Carrying Capacity - Rules of Thumb Cropland (Dryland) - $125-$150/acre Cropland (Irrigated) - $800-$900/acre Cow/Calf - $300-$400 per cow Dairy - $1,000-$1,200 per producing cow RULES OF THUMB Intended as a general guideline Many variables impact these numbers (market conditions, price cycles, interest rates, inflation, location, management ability, etc.)

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Possible Solutions: Risk Management Legal Estate planning Agricultural contracting Renegotiate leases Government laws and regulations

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Enterprise Diversification - What Is It? An increase in the number of enterprises and/or products sold. Additional ways to use available resources.

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Enterprise Diversification - Benefits Reduces dependency on the production and price of a single (or fewer) products. May reduce income variability. May increase net revenues. Increase net worth. Financial stability. Opportunities to expand and broaden investments. Taxes. Greater use of human resources.

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Enterprise Diversification - Costs May mean not being a specialist, (I run cows) but rather being a generalist. (I have a land resource producing cattle, hay, dudes, and elk).

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Enterprise Diversification - Costs May mean that the owner does not get to brag about having the heaviest calves or topping the sale. Reduced weaning weights in order to sell in a variety of markets. Moving calving and weaning dates to better fit off-ranch job schedule.

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Enterprise Diversification - Costs May have to expend some monies in the short-term in order to have long-term gains.

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Enterprise Diversification - Costs More Enterprises = More Management

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Enterprise Diversification - Costs May have to relinquish some control of business and/or daily life.

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Enterprise Diversification Commodities and Commodities. Commodities and Products.

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Enterprise Diversification - Examples Calves - multiple selling times. Calves, yearlings, fats. Cattle and sheep. Cattle and crops. Livestock and Dudes. Livestock and Wildlife. Ranching and 4-Wheeling, Camping, Agri- business, and Non-Ag Business.

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How/What to Produce? and For Whom? Marketplace. Production environment.

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General U.S. Population Information U.S. Population - 282 Million People 3rd Largest Population (China and India > 1 billion) Expected Annual Growth Rate - 1 % Median Per Capita Income - $21,684 Median Household Income - $46,738

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General Colorado Population Colorado Population - 4.2 Million People Ranks 25th of all the states Expected Annual Growth Rate - 2 % U.S. - 1% Median Per Capita Income - $24,203 U.S. - $21,684 Median Household Income - $59,747 U.S. - $46,738

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Ethnic Diversity - 2000 & 2025 Population Percentages by Race U.S. Colo. White 7466 8074 Black 1112 4 5 Indian 1 1 1 1 Asian 4 6 2 3 Hispanic 1115 1217

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Age - America Is Graying Median Age: 1988 - 28 years 2000 - 36 years 2050 - 50 years (projected)

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Households Are Changing Single person households Smaller families Two wage earner families

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Income - 1999 Poverty Rates U.S. Poverty Rate Lowest since 1979 (12.6 %) Highest Poverty - New Mexico (20.8 %) Lowest Poverty - Maryland (7.6 %) Colorado - 8.6 % (Rank 44th)

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Income-1999 Household Incomes Median Household Income U.S. = $39,657 Highest on Record Highest Income - Alaska ($51,046) Lowest Income - Arkansas ($28,398) Colorado - $46,950 (Rank 5th)

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Houses and shopping centers. Open spaces. Land trusts, conservation easements, etc. Non-agricultural Demand for Land.

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Tools For Decision Making? Partial budgeting. 1033e. (Excel Template, CSU) What to Do With My Cows. (Excel Template, CSU) Re-Stocking Your Herd. (Excel Template, UofA) Right Risk. Other.

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Typical Partial Budget Positive Outcomes Reduced Costs Increased Returns Total Positive Negative Outcomes Reduced Returns Increased Costs Total Negative Positive Negative = Net Impact

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1033e Decision Tool (An Excel Template)

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717 Articles 42 Categories 461,194 hits in 2002 717 Articles 42 Categories 461,194 hits in 2002 http://agecon.uwyo.edu/RiskMgt/Default.htm

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http://agecon.uwyo.edu/RnRinAg/Default.htm 34 Articles 7 Chapters 5 Sources of risk 34 Articles 7 Chapters 5 Sources of risk

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47 Articles in 6 Sections 29 Authors, 16 states National/Regional awards 47 Articles in 6 Sections 29 Authors, 16 states National/Regional awards http://agecon.uwyo.edu/Marketing/MngTCMkt/Default.htm

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WWW.RightRisk.org

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The Agriculture & Business Management Economists are dedicated to providing extension/outreach information including: - principles and concepts of production economics - financing methods and analysis - investment analysis - legal regulations on business activities - concepts of marketing and price determination. ABM Economists ABM Topics of Interest Presentations Farm Business Associations CSU Department of Agricultural and Resource Economics http://www.coopext.colostate.edu/ABM/

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