Over the past weeks, we have covered several aspects of farm financial management and emphasised the importance of bookkeeping. Now we move further by looking at the health of your statement of financial position as an agribusiness. One of the ways to determine the health of your business is to look at your working capital position, which determines the liquidity of the business and its ability to meet its short-term obligations.
Managing the farm’s working capital is a day-to-day activity that ensures that the agribusiness has sufficient resources to continue its operations and avoid costly interruptions due to lack of funds availability. This involves several activities related to the firm’s receipt and disbursement of cash.
Simply stated, the working capital is the amount of your ‘net’ liquid assets on your farming operation’s balance sheet. Working capital measures, the liquid funds that a farming operation has available to meet short-term financial obligations. Looking at your farm’s balance sheet it is the difference between the current assets and current liabilities over a given period of time. What do I mean by the current assets and current liabilities?
Current assets are assets that can be turned into cash in a year or less, which include cash, accounts receivables, grain inventory, livestock, and pre-paid inputs. Current liabilities are liabilities due to suppliers or creditors within one year, which includes operating loans from banks, accounts payable, and accrued interest. Working capital is basically calculated by deducting current liabilities from current assets.
Having strong working capital ensures that you are able to position yourself to take advantage of unpredictable growth opportunities in the market and also make strategic investments in the business. Businesses that are able to maintain a strong working capital are those that are able to remain profitable. If your farming operation is losing the money you make, this will burn working capital and affect your ability to meet the cash flow demands and keep all the bills paid.
Thus, to ensure a healthy working capital and consequently your farming operation liquidity, you have to ensure that your farming operations are profitable. There are mainly two common ways to increase your liquidity; increase your current assets or decrease your current liabilities while keeping an eye on your inventory.
The next column will have an in-depth look at how you improve your working capital position and liquidity.