When starting and maintaining an operation, it’s important to know your business’s financial position. A helpful tool to monitor your financial position is a balance sheet. The balance sheet can show your progress year-over-year and is something your lender may ask for on an annual basis.
A balance sheet, also known as a financial statement, contains assets, liabilities, and equity at a specific point in time.
Assets are anything that is owned by an operation or an individual and have a cash value. Liabilities are anything that is owed by an operation or an individual to a debtor. The equity of an operation is determined by taking total assets minus total liabilities.
Understanding assets and liabilities
When completing a balance sheet; you’ll want to break down assets and liabilities into “current” and “noncurrent” sections.
Current Assets are assets typically liquidated over the next 12 months. Some examples of current assets are cash and cash equivalents, accounts receivable, prepaid expenses, inventory (crop and/or market livestock), and supplies on hand.
Noncurrent Assets are typically thought of as long-term investments and will most likely not be liquidated in the next 12 months. Some examples of noncurrent assets are machinery and equipment, vehicles, buildings, real estate, long-term investments/retirement accounts, goodwill, and intangibles.
Current Liabilities are liabilities an operation will typically incur over the next 12 months. Some examples of current liabilities are property taxes, income taxes, payroll expenses, rent payments, accounts payable, current portion of principal payments, and accrued interest.
Noncurrent Liabilities are typically thought of as long-term obligations and not due within the next 12 months. Some examples of noncurrent liabilities are loans for machinery and equipment, vehicles, buildings, real estate, leases, and any deferred liabilities.
Keeping your balance sheet accurate
While the value for some assets will be straight forward; valuing other assets can be more challenging as market values are constantly changing. When valuing assets at market value, it is best to be realistic and not overstate values.
Here are some questions to ask yourself when updating your balance sheet when the market value is ever changing:
- Crop inventory – Do you have any contracts in place? Do you anticipate the current market price to remain steady? Is the market at a high or a low?
- Machinery and equipment or vehicles – What is the condition of your equipment compared to recent sales? What is equipment selling for in your area?
- Real estate – What kind of soil type is your ground? Is it tiled? What are recent sales in your area for similar ground?
Additionally, it’s important to have a detailed balance sheet. When referring to a detailed balance sheet; every category should list all specific items and a current market value for each item.
Some examples:
- Crop inventory – Itemize out each commodity (corn, wheat, oats, etc.) by appropriate measurement and market value.
- Livestock inventory – Itemize livestock by milking, heifers, calves, or by age, group/size and value each group by market value.
- Machinery and equipment or vehicles – A complete list of all machinery and equipment owned will ease the process of updating the balance sheet on an annual basis with items sold, traded and purchased.
To monitor the progress of an operation, it is best to update the balance sheet at the same time every year, which matches the business’s tax year end, typically Dec. 31. Updating the balance sheet every year will allow one to monitor how assets, liabilities, and equity changed from the previous year.
Eventually, trends can be seen when comparing year over year balance sheets, which may assist in making management decisions.
How to use it
Once you have your balance sheet completed; how do you know if your operation is healthy? For starters, these two basic items, focused on equity, are critical in understanding your operation’s financial status:
-
Assets – Liabilities = Owners’ Equity
- Owners’ Equity / Assets = Owners Equity %
The amount of equity an operation has may vary based on the size and type of operation. If your equity is increasing, then you are most likely trending in the right direction. If your equity is not trending upwards or not where you’d like to see it; then debt paydown may be a focus before any other major purchases.
When your equity is lower than you’d like or not trending in a direction you’d want to see; then you can work with your business team and financial experts for assistance. Every operation is different, and the level of equity will vary, but most lender’s standard for Owners’ Equity is 50% or higher.
Getting started
There are plenty of online resources to get your balance sheet started, including this template.
GreenStone’s team of experts are here to help you every step of the way with knowledge, resources, and experience. We are committed to supporting our young, beginning and small farmers as well as our established farmers. If you have any questions, contact your local branch today!
This article was originally published in Michigan Farm News.
Tags
Request for Information | Apply Now | Young, Beginning & Small Farmer - Financing Options
