Preparing the sector for expansion

The next decade will see considerable change in the Irish agri-food sector as growth and expansion of production are more of a focus than at any time over the past three decades.

Ambitious growth targets for all sectors have been detailed in the Food Harvest 2020 report and the planned removal of the EU milk quota in 2015 offers the dairy sector the first real opportunity to expand production since the quota regime was first introduced.

At AIB we have seen strong demand for credit for on-farm investment both for expansion purposes and general upgrading of facilities. It is our expectation that this investment will continue to be strong over the medium term.

In any business the main driver of expansion is to increase profitability. Investment involves risk and without a satisfactory return there is really no point to it. At the outset, it is essential to determine what the proposed investment or expansion will be worth to your business’s bottom line when complete.

For expansion to be profitable, the existing farm business must be competitive. A farmer should examine if the business could be more efficient. Is there scope to increase gross output or to reduce variable costs? If so, this should be planned and achieved prior to undertaking expansion, as any existing inefficiencies will be multiplied with expansion. It’s important that plans are made to maximise any return from investment and this may mean postponement until the business is primed for expansion.

It is also important to analyse what level of investment per cow the farm can sustain. Expansion can increase profitability on efficient and well-run dairy farms provided the cost of expansion is not excessive.

When undertaking any on-farm investment, it is important to take a multi-annual (three- to five-year) view of the farm financial performance. Projections should be based on the average performance over the period and not on high prices at the top of the cycle or low prices at the bottom.

All assumptions used in financial and production plans should be realistic and based on actual farm performance. In business, it is true that the best indicator of future performance is past performance.

Cost overruns are common with farm investments, as developments can often take longer than originally planned. Careful planning and detailed costings, which include a buffer for unforeseen issues, are essential to avoid significant overruns occurring.

Capital expenditure or overruns are often financed from farm cashflow, particularly in profitable years. This can place pressure on finances, especially if income decreases or if costs increase significantly. Similarly financing long-term assets such as farm buildings over a short term will place significant pressure on cashflow, particularly during periods of reduced income. It is important to factor into the cashflow budget the cost of increasing dairy stock numbers organically from within the herd.

A management strategy must be in place for the key risks outlining how you plan to deal with them. When discussing finance with your bank, it will need to see plans in place to mitigate the identified risks.

AIB’s regional agri-advisers, which support branches and business centres in providing services to farmers, have listed the following details of a good farm financial proposal:

* Up-to-date financial information, including current bank statements and the latest set of accounts;

* A full understanding of the business. The farmers will know their costs of production and can comment on any extraordinary items such as high feed costs or high drawings;

* Three-to five-year cash flow projections for the expanded business

* They have factored in a period of time, two to three years, for the expansion to bed in and for the cash gain to become evident;

* The farmer will have quotations from suppliers for the work being carried out and have built in a buffer in the budget for overruns that may occur;

* Accurate details of the tax implications of their proposition;

* They have analysed the repayment capacity of the proposal to ensure their business can generate the cashflow necessary to meet repayments;

* They will be putting an element of their own capital into the proposal;

* They have the support of a professional such as a Teagasc adviser, farm consultant, or accountant.

* Dr Anne Finnegan is agri strategy manager with AIB.