Cropping decisions must take account of their impact on the whole business, warns adviser Gary Markham.

He fears too much emphasis is being placed on comparing net cost of production with market prices. This could lead to poor decisions on rotational change, including some people considering fallow, he says.

“Calculating total cost of production per tonne may be an interesting academic exercise but is of little value in making business decisions,” says Mr Markham, of Churchgate Accountants.

“This is particularly relevant as we head into the Cereals event when minds will be focused on planning future cropping. 

See also: Cereals 2015 preview of crop plots

“Many farmers are hearing others say that they are considering not growing oilseed rape and being influenced to coming to the same conclusion based on a negative total cost of production.

“The simple point is that if a crop is not grown, many of the so-called fixed costs are not saved – they are still left in the business. For example property, administration including farm insurance, labour – subject to some overtime and many machinery costs, excluding fuel.”

The cost of production approach, especially where fallow is being considered, runs the risk of some farms making even bigger losses than they would otherwise face, says Mr Markham.

“The key message is to calculate the margin after variable production costs as a contribution to the fixed costs of the business and not to make decisions based on total cost of production/tonne.”

A partial budget and not cost of production should be used to make decisions such as these, says Mr Markham.

This evaluates the financial effect of incremental changes in a business, for example by comparing the introduction of or increase in one enterprise with the reduction in another. The extra income generated and costs saved by a decision are measured against the reduction in income and extra costs incurred by taking an  alternative route.

A partial budget only includes resources that will be changed.

They can also be used to calculate the net margin a tonne or an acre for a crop as a contribution to the fixed costs of the business – after accounting for seed, fertiliser, sprays, fuel, agronomy and other costs directly associated with growing the crop (see table).

Taking data based on several thousand acres of cropping from Churchgates’ 2014 harvest benchmarking survey, Mr Markham illustrates how this approach can help with typical cropping decision-making in a loss-making business.

“The table shows that oilseed rape has a negative cost of production of £28/t. Therefore is the conclusion not to grow it and save this overall cost per tonne of £28?

“If the land is left fallow, the cost of production argument might lead someone to conclude that the loss will be avoided and the business overall loss will reduce.”

However, a partial budgeting exercise based on actual 2014 crop prices shows:

• OSR makes a contribution of £152/t to the fixed overhead cost of the business
• OSR makes a contribution of £211/acre to the fixed overhead costs of the business
• Therefore if OSR is not grown and any land left fallow, this will result in a greater overall loss to the business because the fixed costs are spread across a lower acreage.

“The business would still be making a loss on its OSR acreage, but it would be reducing the loss compared with fallow because the OSR crop is contributing £211/acre of the £245/acre fixed costs which would be there whether the crop is grown or not.”

All of the figures in the table assume that the acreages and systems on this example farm are unchanged for the 2016 harvest.

“If any structural changes were being considered, for example labour, machinery or a significant change in the acreage farmed, then this would give the opportunity to examine the fixed cost base but that is a different consideration and exercise.”

Within the constraints of the agronomy and the RPA rules, based on the 2014 prices, wheat area should be maximised, followed by spring beans, followed by OSR, says Mr Markham.

*Gary Markham is director of farms and estates for Churchgates accountants. He won the Farmers Weekly adviser of the year award in 2014.

Calculating production costs