Farm Credit Services of America (FCSAmerica) and Frontier Farm Credit are co-sponsoring a webinar series, Two Economists and a Lender. Our latest installment featured Agriculture Economic Insights (AEI) co-founders David Widmar and Brent Gloy, and Ryan Martenson, FCSAmerica VP commercial lender. The webinar recording from May 23 is available. Explore upcoming webinars.
In this episode of Two Economists and a Lender, Brent Gloy and David Widmar are joined by commercial lender Ryan Martenson. The conversation focuses on common traps that agricultural producers fall into as they expand their operations. Drawing on his experience advising businesses and teaching on the topic, Gloy puts these traps in three general categories: financial, family relationships and management issues. Below are edited excerpts from the webinar.
Financial Traps
Underestimating working capital needs. I think everybody has a pretty accurate estimate of their initial capital costs, Gloy said. Hopefully we plan for cost overruns because they inevitably happen, delays inevitably happen. But the one that's more subtle is accounting for increased working capital needs. If it's a big expansion, say adding a lot of finished livestock, it's easy to forget about increasing working capital needs.
Most times, working capital problems shouldn't lead to business failure, he said. But if it happens along with a bunch of other issues at the same time, not understanding your new working capital needs can be a problem.
Profitability assumptions. I often hear people say, ‘I want to expand because I want to improve my profitability,’ Gloy recounted. Almost every time I've seen this, the expansion fails to improve profitability in the short run. It almost always reduces it.
Why is that? Well, there's lots of new problems, lots of new things, lots of things attracting our attention. Said another way: The benefits of good management trump scale. Every time. If a business isn’t managed well, adding to it is not going to work well. But scale with good management is a sure recipe for success.
Related to profitability assumptions, Gloy said, is unrealistic planning: We're going to operate at capacity right away; yields are going to be at least as high as we are already achieving. This usually doesn't happen right out of the gate.
No contingency plan, or no plan to speak of. What happens if we have a significant delay or the pricing or production is different than we anticipated? Sometimes we get these big and idealistic assumptions. But most projects do not go according to plan, Gloy said.
Communication with lenders is important here. If the lender isn't informed until the crisis point – Oh, we have a payment due, and we have no money to make it. We better call the lender. – that's a sure recipe for disaster. It’s going to create a whole host of questions and concerns, and it's going to raise everything up the flagpole really rapidly. Whereas if the lender is already informed, it can be a lot easier to get the money.
Almost every time I've worked with somebody who is in financial distress, the first question is: How big is the magnitude of the problem? Gloy said. You get the honest answer in very few circumstances. Everybody wants to downplay how bad it is. But don't deny the problems that are going on, because they will just manifest themselves later.
Assuming that an expansion will improve profitability is only slightly better than no planning. ‘Hey, we've got money in the bank, and we’ve got lots of credit reserves. Let's just go do it and figure it out.’ Management's job, Gloy said, is to figure out how to make your expansions or your business decisions work.
Family Traps
Reading from different pages of the plan. If everybody isn’t on the same page, and everything in the business isn’t going to plan, you will drive not only your business but also your family into the ditch. Gloy likens it to a sporting event. Despite a good game plan, things don't go well. The good teams buckle down, figure out how to work together to overcome the problem.
But when everybody isn’t on the same page, the first comment is: I told you this was never going to work. I told you this was a bad idea. The stress level is going to go up, up, up from there, Gloy said. Things can get dysfunctional really fast.
Be it family, business partners or management teams, get everybody on the same page.
Communication and work-life attitudes. A lot of us, and I put myself in this category, don't communicate as well as we should about the business, Gloy said. We run it, we do it, everything is fine. But once you have trouble, poor communication can really get exposed.
Problems also tend to expose seriously different attitudes about work-life tradeoffs. An expansion takes a lot of time, creates a lot of managerial tension and causes stress. For some of us, that's fine because we love business and we love working, Gloy said. But we have to realize that not everybody on our management team and our family may be willing to make the same work-life tradeoffs.
If there's a little bit of stress before an expansion, there will be a lot of stress after, especially around those work-life tradeoffs. If I wake up in the middle of night thinking about something, Gloy said, something's got to change because I like my sleep and I really like to get it. It took me a long time to figure that out. Underestimating that personal stress can be a real problem.
Management Traps
Expecting too much. If we have a good management team, we want to give them a lot to manage, Gloy said, but we want to do that right up to that point where they don't become overstretched. If we get too many expansion projects going, we can get distracted, and it can cause problems.
An associated problem is thinking, ‘Hey, we've got a good team. These people will figure it out. We'll grow into the expansion.’ That usually doesn't work very well, Gloy said. It's not a good way to go into that expansion.
Poor delegation. You’ve got someone who is really good and can manage a lot. But eventually, Gloy said, they hit a wall and they’re not good at delegating decisions to activate others. Things can quickly come tumbling down when too much of the business is held in one person’s hands. Make sure the business is sustainable if a person isn’t there.
Distractions. Sometimes expansions distract management from what it’s good at. Management has to learn a whole new business, Gloy said. That will take time.
Avoiding the Traps
Everybody is familiar with a post-mortem – an autopsy to figure out what went wrong. Widmar suggested that producers conduct a pre-mortem to plan for an expansion. Think about growth traps as pain points in the operation or critical fail points and create plans and processes around them.
Next do a self-assessment. What biases are you and those around you prone to? Have everyone think about it and do their own self-reflection, Widmar said. This can be an honest conversation so everybody on the team can recognize where they are and where those around them are.
Finally, ask your trusted advisors what they have seen others struggle with and what you can do to improve.
