Cost Control Strategies

The run of record low interest rates coupled with record high grain prices, livestock prices and rainfall, has come to an abrupt end. Margins on all production systems have reduced significantly, particularly for livestock enterprises. As such, clients need to monitor their expenditure closely, particularly on discretionary items not linked to business productivity.

Purchases of Machinery and Infrastructure

Prior to making any purchase it is very worthwhile to conduct a cost-benefit analysis, even for small purchases (small amounts all add up). This is especially important for “great deals” which may become available, which may not actually be a wise purchase decision if the item cannot be utilised appropriately. The purchase of machinery and infrastructure should normally be planned well in advance, with the aim of meeting strategic needs. Examples of potentially poor purchases include investing in large grain storage the year after a particularly large harvest, or purchasing a road grader to fix roads during a shortage of earthmovers. Capital expenditure must fit into the business’ long-term strategic plan.

An alternative strategy is taking advantage of counter cyclical stages in the demand for machinery, which can lead to significant cost savings when changing over machinery. Currently, a good strategy is delaying the purchase of overpriced machinery. It is expected that discounts on new machinery will be offered because of lower demand, due to the end of the instant asset write off and reduced purchasing power of farmers. However, it is important to be mindful of any additional costs of running older equipment, through increased R & M and potentially reduced reliability.

Setting a budget for discretionary purchases can be a simple way of limiting unnecessary expenditure. Personal expenditure should come from a personal bank account into which is paid a wage or drawing from the business account. This provides clarity and accountability on the level of consumption over time. This allows business profits (after stakeholders’ labour) to be distributed as a profit share, if and when a profit is actually made.

Numerous small purchases such as tools and subscriptions can accumulate to significant sums over time. Other larger discretionary items such as custom ute trays on “top of the range” vehicles, add additional cost to the business with very little benefit. The use of a simple cost-benefit analysis can help improve decisions regarding purchases, both large and small.

Risk v’s Reward – The Value of “Insurance”

Farming is often considered a speculative occupation with little certainty of production or profit. This is in addition to some of the biggest operational decisions growers make which are also speculative, when the benefit of the expenditure made will be determined by seasonal conditions. Examples of such decisions include:

• Fungicide applications

• Seed dressings

• Late Nitrogen applications

• Very high herbicide rates

• Residual chemical applications for long term flystrike prevention

• Increased harvest capacity to reduce the likelihood of weather damage

• Owning a windrower to guarantee correct timing

• Straight sowing pasture compared to undersowing

All of these decisions can be very valid in the right circumstances and can be highly profitable. However, in other circumstances these investments can be entirely wasted. The key to making more good decisions than bad, is to understand both the risk factors involved and the likelihood of those factors coming to fruition, plus the potential financial consequences when things do go wrong. Often the fear of making the wrong decision and incurring a production loss encourages growers to over apply inputs targeting maximum production, not maximum economic production. When combining the cost of the operation, plus the likelihood of the situation where protection is required occurring, it often makes more economic sense to moderate input usage.

It is also important to remember that the solutions to last season’s problems won’t necessarily be the appropriate solutions to the current season’s problems. This becomes an issue as generally people respond most strongly to recent experiences, while older experiences are less influential in their decision making.

Efficiency of Operations and Input Usage

Chemical, fertiliser, labour, genetics, machinery and fuel inputs make up a very large proportion of annual cropping production costs. Optimising the use of these resources is critical in maximising profitability. The use of soil tests, weed seed herbicide resistance testing, in addition to other measurements, helps optimise the usage of fertiliser and chemicals, reducing the likelihood of wasted applications. The use of Variable Rate Technology (VRT) is fundamental to matching inputs to the requirements of a specific location within paddocks. More information on the benefits of VRT can be found in the following article.

Ensuring that investment in new crop genetics leads to greater production and that rams/bulls are mated at the correct ratio to minimise the cost per head of progeny, are significant factors in Cost of Production. The production system needs to be able to capture the increased genetic potential of the new genetics to realise the value.

Operationally, ensuring machinery is well set up and is operated in the most efficient manner is important, not necessarily the most productive. Examples of inappropriate operation of machinery include driving headers too fast which can cause an increase in grain losses, while spraying with incorrect nozzles or using an inadequate water rate can reduce efficacy and increase spray drift. Correctly calibrating, setting up and operating machinery can increase the time operations take, however improving the result achieved will normally outweigh this additional cost.

Opportunity Cost of Unsold Stocks

Retaining stocks for future sale can lead to unexpected costs. One of the largest and most often overlooked cost is the additional interest that accrues while the value of the stock is unrealised. As interest rates have increased significantly, the value of the interest has increased substantially. For example, if barley worth $300/tonne was stored for nine months after harvest, and the grower was paying 6% interest on an overdraft account, the holding cost would be approximately $13.50/tonne in additional interest. This is in addition to warehousing, storage, shrinkage or wastage plus other expenses incurred. With livestock, delaying sales can lead to increased costs due to additional shearing and animal health expenses as well as deaths. It is important to be aware of these costs, when the decision is made to retain stocks and that the expected benefit of the delay is significantly greater.

Minimising unnecessary expenditure will be a key requirement to ensure profitability through the expected downturn in future trading conditions. Reassessing machinery changeover criteria, particularly for less critical pieces of equipment can lead to significant savings, while setting a budget for discretionary items. To maintain profitability, it can be tempting to reduce the number of factors which can negatively affect production, however it is important to identify likelihood and cost of these “insurance” decisions.

Optimising the use of inputs and managing operational tasks well, is a key method of reducing costs. Factoring in all the costs, both explicit and implicit of unsold stocks is necessary when deciding whether to delay sales of stocks. With sound decision making processes, businesses will be in a significantly better position to manage the upcoming period of tight trading margins.