This year’s high prices and income levels have made some individuals lax in their long term financial management. During periods of high volatility it is important to maintain high quality liquidity levels.  Liquidity is a financial measure of how well the farm can meet its current obligations by using its current assets.

Farm income in 2011 is forecast to be nearly 20% above the 2010 level and to be the second-highest level in the past 35 years. Along with the increase in commodity prices, input costs have increased greatly the past few years. Crop production budgets for 2012 resemble those of 2009 when prices fell after input costs increased. With that in mind, farmers and ranchers should take steps to strengthen their working capital position to withstand the ups and downs of net income. Working capital is a measure of business liquidity; it is the difference between current assets and current liabilities. One test of working capital is the percentage of projected sales. With today’s uncertainty, a strong working capital ratio is 30% or greater.

The cost to grow an acre of corn increased from $350 in 2007 to over $600 in 2012.  A farm with 1,000 acres of corn requires access to an additional $250,000 in capital to grow the same acres of corn. Recent wide swings in farm income and general economic uncertainty increase the need to maintain a strong working capital position.  Uncertainty leads to concerns of a downturn in the farm economy and the ability for farms to meet cash flow requirements. Liquidity can provide the reserves to meet these needs. The recent years, strong income provided the opportunity to build a strong working capital position. Take the time to analyze this past year and perform some what-ifs to test your cash flow.

If you are considering long-term investments before the end of the year, take the time to perform some due diligence and do some shock tests to your cash flow projections and balance sheet. Purchases of machinery will reduce your tax burden, but may be costly if prices collapse.

Interest rates are cheap and high land prices provide equity, thus making long-term investments tempting right now.  Before proceeding, sharpen your pencil, do scenario testing, and do not dig yourself into too deep of a hole.