Additionally, enterprise budgets can be useful in forward contracting and hedging decisions. Using enterprise budgets can help you determine if the prices offered in the forward contract or with the hedge will return a profit or a loss.
Basic structure
Revenue (including cash and non-cash revenue) is usually listed first. When reporting anticipated revenue, use futures prices (plus or less basis) or current forward contract prices to estimate output prices and use historical yields as estimates for output quantity (total production). Remember to include all revenue sources such as cull cows for cow-calf and dairy, or byproduct prices like straw for wheat.
What is an example of a non-cash revenue? Assume that you have a cow-calf and a backgrounding operation. Through this approach, you would count the calves you retain as non-cash revenue (the amount you could have sold them to someone else) for your cow-calf enterprise. The backgrounding operation would then count the calves as a variable cost. Variable costs are those expenses that only occur when production happens. Examples of variable costs could include fuel, feed, fertilizer, hired labor, and veterinarian costs. Recall purchased feed is valued at the purchase price, while raised feed should be valued at its opportunity cost, or the price you would have received had the feed been sold to someone else.
Fixed costs, also known as indirect or ownership costs, are those costs that would need to be paid even if there was no production. Examples of fixed costs include, but are not limited to, depreciation, taxes, rent or mortgages, and property and vehicle insurance. If there are multiple enterprises on a farm, consider allocating the appropriate proportion of the fixed expense to each enterprise. For example, you may use a tractor for peaches 40% of the time and asparagus for 60%. With this example, you would allocate the tractor’s depreciation to each enterprise according to those proportions.
Caution on profitability interpretation
There are many enterprise budgets available on the internet. However, it is important to note that the profit calculation may not be the same across tools. Some enterprise budgets may not account for the opportunity costs of your management, land, and capital. Opportunity cost is a way to assign an economic value to resources you use for which cash may not trade hands. For example, as the farm operator, do you write yourself a paycheck?
Suppose an enterprise budget reports “returns to land and management” as profit. Therefore, the opportunity costs for management time and land are not included in the budget. As such, the “profit” reported is the funds left to pay for the land use and your management time. However, other budgets may include estimates for these costs and thus would report a more accurate (and lower, all else equal) economic profit.
Sensitivity analysis
Enterprise budgets are forecasts and thus rely on assumptions. Given this, take time to test how sensitive your profitability projections are to different assumptions, such as outprice price, labor hours, and major input costs.
Related is the concept of break-even analysis. Sometimes production/yields or market prices are not what you expect them to be. When this happens, it helps to know the minimum price, or the lowest production level needed to pay bills or cover debt.
Source : msu.edu