economic tools to evaluate farm alternatives the goal: an economical conservation plan
TRANSCRIPT
Economic Tools to Evaluate Farm Alternatives
The Goal: An Economical Conservation Plan
Human Element in Natural Resources
• Soil • Water • Air • Plant • Animal • Human• Energy
Rubik’s Cube
• Solving natural resource problems is much like solving a “Rubik’s Cube”…
Why Farm or Ranch?
• Lifestyle• Income Business• Real Estate
Market
Farming Philosophy
Scoping
Stores
Money forHome
FamilyLabor
Church
In-Laws
Neighbors
Money for Retirement
Livestock Management
Farm Loan
Animal Habitat
Seed Costs
Fertilizer Costs
Taxes
Predator Management
Equipment
Death Loss
Commodity ProgramPayments
4H CLUB
Kids
Money for College
Hired Labor
Clubs (HomemakersFarm Bureau)
Pesticide CostsGrandfather
'sLog Cabin
FFA CLUB
Plant Management
Soil Erosion
NutrientManagement
Pasture management
Water Quantity
Water Quality
Soil Condition
Recreation
Fishing - Hunting
Banker
Electric Power Line
Neighbors
Seed Costs
The Social Environment
Equipment
The Business Environment
SPOUSE
SCHOOL
Kids
The Resource Environment
Taxes
Markets
Conservation Compliance
Landlord
The Planning Environment
$ $
$
FloodingSoil Erosion
Crop Yields
LivestockAir Quality
Cultural Resources
Irrigation
Wildlife
RecreationWater Quality
Farm Income
Pests
Fish HabitatGovernment
Water Quality
Farm Income Fish Habitat
SCOPING: Identify all problems & opportunities and focus on those to be considered in the planning process.
Income
Scoping• Identify significant issues to address• Provide a record of issues considered, but
found not to be significant• Provide a record of NEPA compliance• Reduces the number of alternatives
Production Possibility Curve
Economic Effects
• Land• Capital• Labor• Management • Profitability• Risk• Social Well-Being
What Changes?
Land Use
- Is the present land use suitable for the proposed alternative?
- Will land use change after practice installation?
- How will a change affect the operation?
- Will the action affect resources on which people depend for subsistence, employment or recreation?
- Will land be taken in or out of production?
Capital• Does the Producer have the funds or ability to obtain the
funds needed to implement the proposed alternative?
- What are the impacts of the cost of the initial investment for this alternative?
- What are the impacts of an additional annual cost for Operation and Maintenance (O&M)?
• What possible impact does implementing this alternative have on the client’s future eligibility for farm programs?
Labor
- The “Ability to Work” or Hire “Workers”
- Measured in Units of Time (Hours, Years)
- Includes the Landowner, Family, Hired Help or Other Trained Workers
Management Level- Does the client understand the inputs needed to manage
the practice (s) and the client’s responsibility in obtaining these inputs?
- Does the client understand their responsibility to maintain practice (s) as planned and implemented?
- Is it necessary for the client to hire a technical consultant to operate and/or maintain the practice (s)?
- Does the client have the knowledge to install and maintain the conservation plan?
Profitability
- The Benefits and Costs of the Operation
- Often Measured in Dollars
- Profitable if Benefits Exceed Costs
Risk- Will the proposed alternative aid/risk client participation in USDA
programs? How about regulatory action?
- What are the possible impacts due to a change in yield?
- Is there flexibility in modifying the conservation plan at a future date?
- What issues are involved with the timing of installation and maintenance?
- What are the cash flow requirements of this alternative?
- What, if any, are the hazards involved?
- Rather, will the conservation plan contribute to the minimization of cash flow disruptions or debt?
Social Well-Being
- Represents the current social, cultural and economic situation of both the client and local community
- A combination of the previous categories of Client and Community Well Being
Developing Alternatives
Cause and Effect
Why? __________ Cause Why? __________ Why? __________ Why? __________ Why? __________Resource Problem _____________ So What? _________ So What? __________ So What? __________ So What __________ So What? __________ Effect
Neighbors upset Less fish in lake, no swimming
State Fish & Game stocked fish in lake Violate local water quality ordinance
County fines/regulation, less tourist dollars
Loss of income
Cause and Effect
Farm Labor ShortageToo busy managing cows, feeding/milking
Don’t have time to redesign and move manure
Easy access, no gates, always been there Dairy manure stack near the streamNutrients & organics in surface water
Algae Bloom in Lake
Most resource problems are caused by Humans
Future With and
Future Without
Desired Future Condition
“Hea
lth
”
“Benchmark” Condition
“Historical” Condition
Alternative 2 Alternative 3
Future Without Alternative 1
Benchmark Condition The present condition or situation that is used as a point of reference to measure change in resource conditions resulting from conservation treatment.
Planning Concepts
Desired Future ConditionThe ecological, economic, or social condition one is attempting to achieve.
Historical ConditionCondition with little or no influence by humans.
Evaluating Multiple Alternatives
Time
Desired Future Condition
Future Without Alternative
Alternative 1
Alternative 3
Alternative 2
Future Without: Alternative – No Action, Projection of BenchmarkFuture With: Alternative 1 – Management/Vegetative Solution Alternative 2 – Structural Solution Alternative 3– Combination Structural/Vegetative
Benchmark or present condition
Con
dit
ion
ConservationEffects for
Decision Making
Conservation Effects for Decision Making
Conservation Effects for Decision Making
Benchmark
Condition
(Present Condition)
Conservation
Treatment
(Future Condition)
Impacts(Things that Change)
Decision
Maker’s
Values
“T” Chart
T
CONSERVATION TREATMENT EFFECTS INFORMATION
NAME – LOCATION – DATE CONSERVATION MANAGEMENT UNIT
CONSERVATION TREATMENT: RESOURCE PROBLEMS:
“+” POSITIVE EFFECTS (Benefits) “-” NEGATIVE EFFECTS (Costs)
+++++
-----
Benefit-CostAnalysis
Benefit-Cost Analysis
1. Estimate Costs
2. Estimate Benefits
3. Convert to “Like Terms”
4. Compare Costs and Benefits
Estimate Costs, Sprinkler System
Additional Costs• Side Roll Sprinkler
Equipment - $600/Acre
• Operation & Maintenance
$100/Acre/Year
Reduced Revenue• Lost Corners in Field
.10 Ton Hay/Acre
1.
Estimate Benefits, Sprinkler System
Reduced Costs• Lower Labor Costs
3 Hours/Acre/Year
• Financial Assistance
$300/Acre, Cost-Share
Additional Revenue• Alfalfa Hay Yield
2 Tons/Acre/Year
• Water Quantity
2 AcFt/Acre/Year
Sprinkler System
Additional Costs Equipment, Layout - $600/Acre, 10 Years, 9% $93/Acre/Year Operation & Maintenance - $100/Acre/Year
Additional RevenueAlfalfa Hay Yield - 2 Ton/Acre, $70/Ton $140/Acre/YearWater Quantity - 2 AcFt/Acre/Year
Reduced RevenueLost Corners in Field - .10 Ton/Acre, $70/Ton $7/Acre/Year
Reduced CostsLabor Costs - 3 Hours, $10/Hour $30/Acre/YearCost-Share Payment - $300, 10 Year, 9% $47/Acre/Year
Costs
Benefits $200/Acre/Year
$217/Acre/YearNet Benefit: $17/Acre/Year
PartialBudgeting
Partial Budgeting
• Systematically displays the Benefits and Costs
• Only “things that change” are considered
• Simplifies data collection• Use a “T” chart to display the
“effects”
“T” CHART
• Level I Qualitative Statements
• Level II Units of Measurements, Dollars
• Level III Economic and Financial Analysis
Pasture Improvement
Brush Control $50/Acre
Reseed Pasture $65/Acre
Discount Rate 7%
Time Period 10 Years
Weed Control $15/Acre/Year
Forage Increase 3 AUMs/Acre/Year
Forage Value $12/AUM
Forage Quality Improvement
Migratory Spring Goose Habitat/Grazing
Reduced Erosion (2 Tons)
Water Quality Improvement
“T” Chart Example“T” Chart ExamplePROBLEMS
Plant Productivity, Erosion, Profitability
SOLUTIONPasture Seeding, Brush
& Weed Control
CONSERVATION TREATMENT EFFECTSINFORMATION
NAME – H. Gordon, Rocking Raindrop LOCATION – Aloha, Oregon DATE – 7/12/2004
CONSERVATION MANAGEMENT UNIT – Pasture, Willamette Valley, Oregon
CONSERVATION TREATMENT:Pasture Seeding, Brush & Weed Control
RESOURCE PROBLEMS:Plant Productivity, Erosion, Profitability
“+” POSITIVE EFFECTS (Benefits) “-” NEGATIVE EFFECTS (Costs)
Forage Quality ImprovementReduced ErosionWater Quality ImprovementGoose Habitat Improves Bird Watching
Forage Increase
Goose Habitat Increases Trespassing
Brush Control Reseed Pasture
Weed Control
Level I
CONSERVATION TREATMENT EFFECTSINFORMATION
NAME – H. Gordon, Rocking Raindrop LOCATION – Aloha, Oregon DATE – 7/12/2004
CONSERVATION MANAGEMENT UNIT – Pasture, Willamette Valley, Oregon
CONSERVATION TREATMENT:Pasture Seeding, Brush & Weed Control
RESOURCE PROBLEMS:Plant Productivity, Erosion, Profitability
“+” POSITIVE EFFECTS (Benefits) “-” NEGATIVE EFFECTS (Costs)
Forage Quality ImprovementReduced Erosion, 2 Tons/Acre Water Quality ImprovementGoose Habitat Improves Bird Watching
Forage Increase 3 AUMs Year
Goose Habitat Increases Trespassing
Brush Control $50/AcreReseed Pasture $65/Acre $115/Acre
Weed Control $15.00/Acre/Year
Level II
CONSERVATION TREATMENT EFFECTSINFORMATION
NAME – H. Gordon, Rocking Raindrop LOCATION – Aloha, Oregon DATE – 7/12/2004CONSERVATION MANAGEMENT UNIT – Pasture, Willamette Valley, Oregon
CONSERVATION TREATMENT:Pasture Seeding, Brush & Weed Control
RESOURCE PROBLEMS:Plant Productivity, Erosion, Profitability
“+” POSITIVE EFFECTS (Benefits) “-” NEGATIVE EFFECTS (Costs)
Forage Quality ImprovementReduced Erosion, 2 Tons/Acre Water Quality ImprovementGoose Habitat Improves Bird Watching
Forage Increase 3 AUMs Year X $12/AUM = $36/Ac/Year Total Benefits = $36/Ac/Year
Goose Habitat Increases Trespassing
Brush Control $50/AcreReseed Pasture $65/Acre $115/Acre 7% Interest, 10 Years = .142 X $115 = $16.33Annual Installation Cost = $16.33/Acre/YearWeed Control $15.00/Acre/Year Total Costs = $31.33/Acre/Year
Level III
Marginality“The rate of change in one variable
when a small change is made in another variable”
FertilizerRate AUMs per
Lbs/Ac Acre0 3.00
10 3.2020 3.7530 4.5040 5.2050 5.6260 5.7570 5.8080 5.1090 4.00
Total TotalFertilizer Forage Profit
Cost Benefit $/Ac$0 $0.00 $0.00$5 $2.40 ($2.60)
$10 $9.00 ($1.00)$15 $18.00 $3.00$20 $26.40 $6.40$25 $31.44 $6.44$30 $33.00 $3.00$35 $33.60 ($1.40)$40 $25.20 ($14.80)$45 $12.00 ($33.00)
Max Yield = 70 Lbs Fertilizer Max Profit = 50 Lbs Fertilizer
Marginal MarginalCost Benefit
- -$5.00 $2.40$5.00 $6.60$5.00 $9.00$5.00 $8.40$5.00 $5.04$5.00 $1.56$5.00 $0.60$5.00 ($8.40)$5.00 ($13.20)
Economics of Pasture Fertilization
Fertilized Pasture Yields
Max Yield= 70 LbsMax Profit = 50 Lbs
0.00
1.00
2.00
3.00
4.00
5.00
6.00
7.00
0 10 20 30 40 50 60 70 80 90
Fertilizer Rate
AU
Ms
Fo
rag
e
($35.00)
($30.00)
($25.00)
($20.00)
($15.00)
($10.00)
($5.00)
$0.00
$5.00
$10.00
Do
llars
AUMs
Profit
Economics of Pasture Fertilization
More Tomorrow?
InvestmentAnalysis
(Time Value of Money)
Time Value of Money
• Total installation cost• Annual benefits• The loan payments• Years to “break-even”• Change in yield• Rate of return on
investment• Etc…
Farmers and ranchers want to know:
Time Value of Money• “Value” depends on when you receive something• “A bird in the hand is worth two in the bush”• We prefer $100 today over $100 next year
– Invest and receive “interest”– May not get $100 next year
Time Value of MoneyThe same is true for natural resourcesWe prefer 10 ducks today, rather than 10 next
year:- We may not be around next year- Ducks may be gone because of drought, flood or someone else shot them- Ducks could reproduce and we would have more than 10 ducks next year
Time Value of Money
• Time Period (Years)
• Discount Rate (%)
• Present Value ($)
• Future Value ($)
• Payment ($)
Time Value of Money
• Money has a time value attached to it
• $1 today = $1 + interest tomorrow• Comparison of $ today vs. $ future• Useful to compare $ in different
time periods • Use amortization and discounting
$
Years
Years
$
Years
$
Present Value• One-time value• Today• Installation Cost
Annuity• Average annual
values• Annual costs• Annual benefits• O&M costs
Future Value• One-time value• In the Future• Replacement cost
Amortization
• The payment to pay off a loan• Spread the cost of an
investment over it’s life• “Periodic” can be in years,
quarters, months
Amortization Example
No-Till DrillTime Period 15 Years
Discount Rate 8 Percent
Present Value $20,000
Payment ?
AVERAGE ANNUAL COST TABLE
PER $ OF INSTALLATION COST
LIFE % INTEREST RATE
YEARS 6 7 8 9 10 11 12 13
2 0.545 0.553 0.561 0.568 0.576 0.584 0.592 0.599
3 0.374 0.381 0.388 0.395 0.402 0.409 0.416 0.424
4 0.289 0.295 0.302 0.309 0.315 0.322 0.329 0.336
5 0.237 0.244 0.250 0.257 0.264 0.271 0.277 0.284
6 0.203 0.210 0.216 0.223 0.230 0.236 0.243 0.250
7 0.179 0.186 0.192 0.199 0.205 0.212 0.219 0.226
8 0.161 0.167 0.174 0.181 0.187 0.194 0.201 0.208
9 0.147 0.153 0.160 0.167 0.174 0.181 0.188 0.195
10 0.136 0.142 0.149 0.156 0.163 0.170 0.177 0.184
11 0.127 0.133 0.140 0.147 0.154 0.161 0.168 0.176
12 0.119 0.126 0.133 0.140 0.147 0.154 0.161 0.169
13 0.113 0.120 0.127 0.134 0.141 0.148 0.156 0.163
14 0.108 0.114 0.121 0.128 0.136 0.143 0.151 0.159
15 0.103 0.110 0.117 0.124 0.131 0.139 0.147 0.155
16 0.099 0.106 0.113 0.120 0.128 0.136 0.143 0.151
17 0.095 0.102 0.110 0.117 0.125 0.132 0.140 0.149
18 0.092 0.099 0.107 0.114 0.122 0.130 0.138 0.146
Amortization ExampleNo-Till DrillTime Period 15 Years
Discount Rate 8 Percent
Present Value $20,000
Payment $2,340/Year
(.117 X $20,000)
Present X Amortization = PaymentValue Factor (i, Yrs.)
$750 $750 $750 $750 $750 $750 $750 $750 $750 $750
-$5,000
-$6,000
-$5,000
-$4,000
-$3,000
-$2,000
-$1,000
$0
$1,000
$2,000
Years
Dol
lars
One-Time Cost and Annual BenefitsHow do you compare costs and benefits over different time periods?
$5,000 farm improvement creates $750/Year income benefit
-$5,000
-$648 -$648 -$648 -$648 -$648 -$648 -$648 -$648 -$648 -$648
-$6,000
-$5,000
-$4,000
-$3,000
-$2,000
-$1,000
$0
Years
Dol
lars
Amortize the One-Time Cost$5,000 One Time Cost = $648 Annual Cost (10-Year, 5% Interest)
$750 $750 $750 $750 $750 $750 $750 $750 $750 $750
-$648 -$648 -$648 -$648 -$648 -$648 -$648 -$648 -$648 -$648
-$5,000
-$6,000
-$5,000
-$4,000
-$3,000
-$2,000
-$1,000
$0
$1,000
$2,000
Years
Do
llars
Compare Annual Benefits to Annual Costs
The Annual Benefits are Greater than the Annual Costs
$750 Benefit - $648 Cost = +$102/Year
Discounting
Converts future values to a one-time present value
Present value is the value today, here and now
Net Present Value Analysis
$5,791
$750 $750 $750 $750 $750 $750 $750 $750 $750 $750
-$5,000-$6,000
-$4,000
-$2,000
$0
$2,000
$4,000
$6,000
$8,000
Years
Do
llars
Compared One Time Cost to One Time Benefit
Discount $750 Annual Benefit to $5,791 Present Value (10-Year, 5% Interest)
$5,791 Benefit > $5,000 Cost
-$6,959
-$2,500
$5,791
$750 $750 $750 $750 $750 $750 $750 $750 $750 $750
-$8,000
-$6,000
-$4,000
-$2,000
$0
$2,000
$4,000
$6,000
$8,000
Years
Do
llars
Compare “One Time” and “Future One-Time” Costs to One Time Benefit
Discount $2,500 Cost to $1,959 Present Value (5-Year, 5% Interest)$5,000 + $1,959 = $6,959
Benefit Cost Ratios
Measures the benefit of some activity per dollar cost
• Identify benefits and costs• Convert to like terms• Divide the benefits by the costs• If the B/C is greater than 1.00, the project is
economically worth doing
Benefit Cost RatiosFor example:• The forage benefits are $13/Acre/Year • Spend $10/Acre/Year on a pasture
improvement• The B/C ratio is $13 / $10 = 1.3
What if the benefits are not in "dollar" units ?• Improvement costs $100/year• Receive 120 additional ducks/year• B/C ratio is 120 Ducks / $100 = 1.20 ducks / $1
CostEffectiveness
Cost Effectiveness
“Least cost” installing 1,000 feet of terrace?
• Tillage equipment $3.00/Foot• Dozer $2.50/Foot• Road grader $2.00/Foot
The road grader is the most cost effective
Break Even Analysis
Break-Even Analysis
• Solve for:• “How much can I afford”• “How long to get my money back”• “Return on the investment”• “What net gain to pay expenses”
Break-Even Example – Forage Value
Value of Forage, Pasture SeedingTotal Treatment Cost: $60.00/AcreAnnual Treatment Cost: $6.11/Ac/Yr($60/Ac, 20 Years, 8% Interest)
Cost Divide by Forage Increase = Breakeven Value $6.11 1.00 AUM/Ac $6.11 AUM/Ac$6.11 .75 AUM/Ac $8.15 AUM/Ac $6.11 .50 AUM/Ac $12.20 AUM/Ac
Break-Even Example – Forage Cost
Breakeven Cost to Improve Pasture
Value Multiply Forage Increase = Breakeven Cost $12/AUM 1.00 AUM/Ac $12.00 /Ac $12/AUM .75 AUM/Ac $9.00 /Ac $12/AUM .50 AUM/Ac $6.00 /Ac
Financial Analysis versus
Economic Analysis
Financial Analysis vs. Economic Analysis
Economic analysis:• Is it Profitable?• Compare benefits & costs over the project's life
Financial analysis:• Is it Affordable?• Compare benefits & costs over the loan period
-$5,000
-$648 -$648 -$648 -$648 -$648 -$648 -$648 -$648 -$648 -$648
$5,791
$750 $750 $750 $750 $750 $750 $750 $750 $750 $750
-$6,000
-$4,000
-$2,000
$0
$2,000
$4,000
$6,000
$8,000
Years
Do
lla
rs
-$5,000
-$1,155 -$1,155 -$1,155 -$1,155 -$1,155
$5,791
$750 $750 $750 $750 $750 $750 $750 $750 $750 $750
-$6,000
-$4,000
-$2,000
$0
$2,000
$4,000
$6,000
$8,000
Years
Do
lla
rs
Economic Analysis: PV $5,000 = $648 Annual Cost (10-Year, 5%)
Financial Analysis: PV $5,000 = $1,155 Annual Cost (5-Year, 5%)
TaxConsiderations
Do Not Give Tax Advice!
Refer your client to a tax preparer or Internal Revenue Service (IRS)
Tax Considerations
Economic Data• Only use economic data that is useful to farmers
or ranchers• It is more important to know “where” to get
economic data, than to “have” economic data• Economic data is only good “today”
LandownerField Office Technical GuidePayment SchedulesNRCS State EconomistCrop/Livestock BudgetsUniversity/Extension ServiceOther Agencies, Conservation Partners, Etc
Class Exercise
The EndThe End
Class Exercise
Class Exercise: “T” ChartWheat Residue Management
Columbia Plateau, Oregon
No-Till Drill/2,000 Acres $15,000
Discount Rate 7%
Time Period 10 Years
Increased Herbicide Use $25/Acre
Crop Yield Increase 8 Bushels/Acre
Crop Value $4/Bushel
Crop Quality Improvement
Pheasant/Quail Habitat Improvement
Reduced Erosion (2 Tons)
Water Quality Improvement
CONSERVATION TREATMENT EFFECTSINFORMATION
NAME – H. Gordon LOCATION – Aloha, Oregon DATE – July 4, 2004SETTING – Wheat, Columbia Plateau, Oregon
CONSERVATION TREATMENT:Residue Management, Direct Seeding
RESOURCE PROBLEMS: Productivity, Erosion, Water Quality
POSITIVE EFFECTS (Benefits) NEGATIVE EFFECTS (Costs)
Crop Yield Increase 8 Bushels/Year X $4/Bu = $32/Year
Crop Quality Improvement
Pheasant/Quail Habitat Improvement
Reduced Erosion = 2 Tons
Water Quality Improvement
Total Benefits = $32/Acre/Year
No-Till Drill $15,000/2,000 Acres = $7.50/Acre Annual Cost (7%, 10 Years) $7.50 X .142 = $1.07/Acre/Year
Increased Herbicide Cost = $25.00/Acre/Year
Increased Risk of New System
Total Costs = $26.07/Acre/Year
Class Exercise: “T” Chart