Management Notes ...
Preparing a Balance Sheet
The financial distress was a consequence of a
Quick Notes... number of factors which were in place during
the 1970s, but reversed direction in the early
All businesses (including agriculture) should 1980s. These factors include but are not
prepare a balance sheet each year based on a limited to:
recommended set of guidelines to insure
uniformity of reporting. 1. Inflation (increasing land values
A balance sheet or net worth statement is a 2. Favorable foreign exchange rates.
summary of the assets and liabilities, and 3. Strong export market (strong
owners equity (net worth) as of a specific international market).
time. 4. Low "real" interest rates (negative
real rate in 1974 and 1975).
5. Increased commodity supplies
(capacity was expanded by
The critical need for enhanced financial 20 percent in the 1970s).
management skills and techniques in
production agriculture became apparent in the The financial distress among farmers/ranchers
1980s. The decade of the 1980s, particularly and agricultural lenders was rooted in the
the period 1981 through 1987, saw the inflationary decade of the 1970s, and
financial position and conditions of many subsequent adjustments from that period to
operations deteriorate. Many producers were sharply different economic conditions in the
faced with insufficient cash flow, declining 1980s. Throughout the 1970s, farmers and
asset values, rationing of capital by ranchers faced rapidly expanding exports,
agricultural lenders, voluntary or forced accelerating inflation, and low to negative real
liquidation, foreclosure (total or partial), and interest rates (the nominal interest rate minus
bankruptcy. The stress of the financial the inflation rate). Farmers and ranchers
situation was felt throughout the responded by borrowing heavily to invest in
agricultural sector - including lenders, retail new equipment, adopt new production
trade and the service sector. The technologies, and purchase increasingly
financial stress was documented by loan expensive land. Farm debt rose an average of
delinquencies and losses, inadequate securities more than 10 percent a year. Yet land values
for loans, reduced business volume, and other rose even faster, providing the economic
income flows within the rural/regional incentive for producers and lenders to expand
Colorado State University, U.S. Department of Agriculture and Colorado counties cooperating.
Extension programs are available to all without discrimination.
No endorsement of products is intended nor is criticism of products mentioned.
and roll over debt. Debt/asset ratios of farms Task Force
declined over the 1970s. The following paragraphs, selected from the
publication Recommendations of the Farm
By the early 1980s, the factors that had given Financial Standards Task Force, clearly
rise to the expansion had reversed direction. outline the need for standardization of
Worldwide recession weakened international financial reporting in agriculture (2). Since
markets; the value of the dollar rose rapidly this chapter adheres to the recommendations
against major foreign currencies, further of this document, it is important that the
dampening export demand; and inflation was background be established.
slowed by stringent control of monetary
growth. Real interest rates, which had been "During the decade of the 1980s, forces were
low or negative throughout the 1970s, jumped set in motion that substantially changed the
to unprecedented levels of 8 to 10 percent. methods of analyzing financial strengths and
Agricultural commodities in foreign and providing credit to production agriculture.
domestic markets were too plentiful to sustain Through most of that decade the farm
the prices that had prevailed during the 1970s, financial industry was in turmoil caused by an
causing commodity prices and producer unforeseen run-up in interest rates, record
incomes to drop significantly. Land values, levels of farm debt, large fluctuations in farm
which depend on both current farm income income, a rapid decline in the value of farm
and prospects for future income growth, also assets, and insufficient or under-utilized
begin to decline. The debt levels that some methods for analyzing the true profitability of
producers had assumed over the 1970s were various farm enterprises.
no longer sustainable. Agricultural operations
whose solvency depended on continuously This environment created an increased interest
rising land values or who pursued an in farm financial education and sophisticated
aggressive expansion strategy were pushed financial analysis techniques. The demand
toward insolvency. Moreover, even those brought about a rapid expansion in the number
producers who pursued more cautious of products and services available for this
financial strategies in the 1970s, but suffered analysis. Because each new system utilized
from the 1980 or 1983 droughts or other its own specific method for analyzing farm
natural disasters, faced financial stress for a operations, it was often difficult for
different reason. agricultural producers, lenders, or farm
financial experts to conduct comparative
The need for enhanced financial management analysis between farming operations.
skills and techniques became critical to many
agricultural producers. Many efforts were The lack of standardization in farm financial
undertaken in the public and private sector in analysis caused problems in understanding
an attempt to fulfill this need. This need, and using data for decisions, and was often
coupled with the growth and development of cited as a substantial barrier to the
the micro computer, resulted in many products accessibility of funds from capital markets.
that were helpful but often incompatible. In The magnitude of the problem was
the following section, discussion related to the underscored when Congress passed the 1987
standardization of financial reporting and Agricultural Credit Act. During the debate on
analysis and its evolvement through efforts of this legislation, experts testified that the lack
the Farm Financial Standards Task Force of uniformity in analyzing farm operations
(FFSTF) is presented. would prohibit the establishment of privatized
secondary markets for agriculture. Thus,
History of The Farm Financial Standards when the legislation was enacted, it contained
provisions for the government to sponsor a Statement of Cash Flows
secondary market for agricultural real estate Statement of Owner Equity
Further, it is extremely important that the
At the same time that Congress was working statements be prepared on a consistent basis,
on the 1987 Agricultural Credit Act, the i.e. cover identical time periods. The task
National Commission on Agricultural force did not develop specific formats for
Finance, appointed by President Reagan, was these financial statements; only recommended
examining the farm financial industry. This general guidelines to ensure uniformity of
Commission cited a need for standardization reporting. As such, financial analyses (ratio
of agricultural credit analysis and farm and comparative analyses) is more uniform.
financial statements. Their report claimed The following is a brief description of each of
that, without standardization nationwide, the the financial statements and the type of
agricultural industry would have difficulty management decisions for which each of the
learning how to analyze the financial strength statements can be used.
of their operations, and agricultural producers
would probably pay a premium for borrowed Balance Sheet
funds as a result. In this section, the foundation of the balance
sheet will be laid. The balance sheet can be
Thus, the overwhelming evidence from all derived from the fundamental
sectors seemed to indicate that agricultural accounting equation:
producers, lenders, financial analysts, and
agricultural economists could make better Assets = Owner's Liabilities + Owner Equity
financial management decisions by uniformly OR
Owner Equity = Assets - Liabilities
defining the data, criteria, and measures that
are most useful in addressing specific farm
Traditionally, the balance sheet is arranged
financial questions. In response to this issue,
such that assets are listed on the left side and
the Executive Committee of the Agricultural
liabilities and owner's equity on the right side.
Bankers Division of the American Bankers
The balance sheet has historically been the
Association (ABA) formed the Farm Financial
primary (and often only) financial statement
Standards Task Force (FFSTF)."
used for agricultural lending. Until the events
of 1980s demonstrated the necessity of more
The following discussion provides an
financial information for proper financial
overview of the recommendations of the
management, the balance sheet was relied
FFSTF. The minimum set of financial
upon as the means to evaluate potential
statements are discussed as well as the
recommended financial measures of
performance analysis. Each financial
The balance sheet must balance, hence the
statement is presented and discussed briefly.
name balance sheet--total assets equal to total
It is recommended that the reader acquire a
liabilities and net worth (owner equity).
copy of the FFSTF recommendations to gain
What items fall under each of these
categories? The following definitions aid in
The minimum set of financial statements
classifying both assets and liabilities.
recommended by the FFSTF include:
Current assets: Items that are held for sale,
cash on hand, savings, inventory of products
that could be sold, and financial instruments improvements). Working assets include
that are readily convertible to cash (e.g., machinery, equipment and breeding stock.
shares in IBM). Others include stock in Farm Credit Services
or other similar entities that have value but are
Current liabilities: Items that are due and not readily marketable. Often life insurance
must be paid within the next year. This would policies with cash value are placed in this
include outstanding feed, fertilizer, wages, category. Recreational and personal assets
fuel bills, etc. Also included are accrued may or may not be listed.
interest and principal payments on operating
notes, machinery, livestock loans, real estate Non-current liabilities: Account for the
mortgage payments and lease payments due loans for machinery, equipment, livestock or
during the next year. real estate and other financial obligations that
have a term greater, than one year. Thus, any
Non-current assets: Tend to be the working liabilities that have been amortized for more
assets and real estate (including buildings and than one year would be listed in this section.
The balance sheet is structured as follows:
Current: ________ Current: ________
Non-Current: ________ Intermediate: ________
Net Worth: ________
Total Assets: ________ and Net Worth:
Balance sheets are normally prepared for
separate entities even in a sole proprietorship.
GAAP guidelines in traditional accounting
support that the business be reported
separately from its owner. The exception is
agriculture where producers and lenders prefer
a consolidated or combined statement. A
combined statement includes both personal
and business assets and liabilities.
Notes... (For More Information) Contact: Norm Dalsted, Dept. of Ag. & Resource Economics,
Network CSU, (970) 491-5627 Norman.Dalsted@colostate.edu
(Updated August 2008)