These days it’s not uncommon for wheat prices to jump £5/t or more in a day – and settle right back where they started before the six o’clock news. And with rising production costs squeezing arable margins ever tighter, those all-important market rallies really can mean the difference between a profit and a loss.

But for busy arable farmers, the reality of higher fertiliser costs can easily slip off the radar – until the bill has to be paid and the overdraft is struggling to cope.

Together with experts from Savills Agribusiness team, Farmers Weekly has created the Virtual Farm – a set of business management accounts representing a commercial arable business of 2000 acres.

This allows us to anticipate possible shifts in input prices, grain values and other variables, to identify the pinch-points for cash accounts and production profits, and form strategies to help manage these events.

It’s broadly representative of a commercial arable farm in the top 25% of the industry. It’s an efficient, well-managed business, but faces depreciation and investment issues like any other arable enterprise.

We’ve deliberately avoided setting it in a particular part of the country, where topography, climate and soils would distinguish it – but because we hope most farmers will be able to identify with it we’ve described it in terms of yield instead.

Video: See how the Virtual Farm could help your business

Real data

As you would expect from any set of business accounts, the model farm has a full profit and loss account, gross margins and projected cash-flows. The budgeted figures are based on data collected from Savills’ client base of managed farms as well as real-world data from grain futures and industry benchmark data for key assumptions.

It also has a “dashboard” which allows us to manipulate prices, costs and incomes and determine the exact consequences of farm management decisions on cash and profits.

“This is a fully dynamic model,” says Savills’ head of rural research Ian Bailey. “We can experiment with sensitivity analysis and look at strategies to mitigate the effects of the volatility we’re now seeing.”

Ammonium Nitrate

“So one area we have looked at in some detail is nitrogen fertiliser, especially ammonium nitrate, as it looks likely that farmers will see costs at least £20/t higher for the 2011 crop’s fertiliser.

“But we’ve also looked at a scenario where AN jumps £50/t – to account for any unforeseen hike in world gas prices or global demand shifts. So we’ve used the Virtual Farm to explore what these two price increases will do to production profit – that’s profit before Single Payment, rent and finance are included – so we can get an idea of how this will affect a standalone arable business.”

A price shift of £20/t on AN fertiliser – assuming we paid £180/t for it this year, – will hit production profits by 7% on our Virtual Farm. In real terms, that means our cash account will have to find another £8250 to cover next season’s fertiliser purchase. Luckily, the effect on production costs of a first wheat crop is manageable – although it does add £1.35/t.

“In effect, we’ve got to produce an extra 80t of wheat to cover that cash cost,” says Mr Bailey.

The Farmers Weekly/Savills Virtual Farm is broadly representative of a commerical farm in the top 25% of the industry.

Adding £50/t to our fertiliser costs – a delivered price of £230/t for AN – has much more severe consequences, leaving a £20,000 hole in our Virtual Farm’s cash account. “That would mean that at a wheat price of £104/t, we’d effectively need to grow another 200t of wheat to cover this cost. That’s about 10% of our farmed area,” says Mr Bailey.

Savills agribusiness consultant Robert Hall remembers the challenge of absorbing drastically higher fertiliser costs in 2008. The same strategies may not work today, he says. “Farmers’ abilities to finance fertiliser purchases and cover any unexpected increases are going to be tougher.

“The terms and availability of credit are tighter than ever before and while many might expect to be able to take delivery in October and pay in December they may be faced with the reality of delivery in June or July and payment within 28 days.

“That’s going to hit at a time when cash-flow is squeezed tightest – before the farm can realise any harvest sales – and the last thing the farmer wants to have to worry about is juggling cash-flow at a time when they need to be in the field harvesting or planning next year’s cropping.”

For our Virtual Farm, that’s as far as it goes. But in reality, it’s clear that these figures mean efficient, targeted use of nitrogen is ever more important.

Wheat price +/-£5/t

A sudden shift of £5/t in wheat prices – up or down – isn’t uncommon these days. But how many growers can put a figure on exactly what this will mean for their businesses?

In a bid to be representative of a large proportion of arable units, the Virtual Farm only has sufficient storage for 75% of its total combineable crop production. This mean we are forced to be harvest sellers, at least for a portion of our crop.

The rest of our sheds are emptied throughout the season, selling 25% in each quarter. No season is going to see prices flatline and as prudent sellers will take advantage of market rallies where they can, we’ve assumed an average wheat price of £104/t, with a £5/t increase in the winter and £3/t in late spring.

“A £5/t shift in wheat price has a surprisingly marked effect. It can mean a gain or loss of £20,000 in output,” says Mr Bailey.

“We live in volatile times,” says Mr Hall. “A £5/t difference in wheat price either improves our production profits by nearly 20% or has a £20,000 cash-flow impact.

“Even for an arable business of this scale, that’s significant. Increasing overdrafts quickly is not always possible or prudent with increased finance and arrangement costs.

“It’s clear for this Virtual Farm as for a real arable business that it’s important to manage cash-flow as carefully as the crops in the field. To find yourself £20,000 short somewhere is a big hit for most farm businesses to take.”

Yields +/-10%

“Through our client base we see a wide range of yields across a wide range of soil types,” says Mr Hall. “Attention to detail can have massive yield benefits, and our Virtual Farm shows what even a modest difference in yields can have on the business.”

Profits

A 10% increase in yields on our Virtual Farm means an extra £36,000 in output – but finding ourselves 10% lower than we thought affects our production profits by 35%. And that shortfall in tonnage will add £7.30/t to our first wheat production costs.

“In the strange growing conditions we’ve seen this year we could easily see a 10% difference on the average of the last three years’ yields.

“In the dry autumn, a lot of wheat crops were drilled at low seed rates in September that didn’t start growing until October. Then with a long, cold winter and relatively dry spring no one can be quite sure what we’re going to see in terms of yields but one has to assume there will be a degree of negative impact,” says Mr Hall.

• If you’d like to see how a particular factor affects the business, email your suggestion to fwbusiness@rbi.co.uk