Tips on effective risk management as input costs climb

We are living in a world where there are more reasons than ever before for farmers to plan, budget and manage risk.

The massive hikes that farmers have seen in fertiliser, fuel, machinery, labour, and energy costs mean that producers are operating in a higher-risk environment than they have ever experienced.

Recent figures from AHDB’s Agricultural Price Index shows that fertiliser costs are more than 150% higher than the year before and around a third up on where they were at the beginning of this year. Meanwhile, electricity costs have quadrupled.

“While farmers make decisions about managing risk every day, as the stakes get higher it is worth taking a bit of time to stand back and perhaps approach it in a slightly more organised way,” says Jonathan Armitage, head of farming at Strutt & Parker.

“Some of the considerations will be second-nature to well-organised, progressive farmers, but thinking them through in a structured way in terms of their relationship to risk makes you think about the consequences of something going wrong in a way that you may not have before.”

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Production risks

Most farmers adopt production risk management strategies in an informal way. For example, choosing the most suitable varieties for your location, drilling on the right day and paying absolute attention to the agronomy of the crop are the best approaches to mitigating the production risks posed by pests, diseases and the weather. 

Having a broad rotation of crops and varieties can also help to spread risk, as will producing for specific markets.

However, this will be a year when the costs of drilling crops in sub-optimal conditions will be felt most keenly, so it will be important not to be tempted to try to maul crops into the ground in less-than-ideal conditions. Plans will need to be flexible and growers will need to be willing to adapt as the situation changes.

Choose any contractors wisely. You want to be dealing with someone who is well-financed and well-staffed.

Knowing when to write off a crop and not spend any more money on it will also be increasingly important.

Financial risks

The financial risks that different farming businesses may be willing to take will differ – reflecting factors such as your current level of borrowing, whether you are a tenant who will have to pay the rent come what may, and your requirements for living expenses.

Being on top of your financial risks involves identifying and quantifying the risks you face and working out the potential impact on cashflow and profits.

Look at what happens to your cashflow and profits if, as is expected, interest rates rise. Consider a sensitivity analysis to examine the impact of say a 2% rise in interest rates on both cashflow and profits.

It will be more important than ever for farmers to have cashflow forecasts for the next 18 months and be on the ball about revisiting them on a regular basis.

The level of working capital investment that will be required over the coming months is sufficiently high that it could cause cashflow complications that will be a real threat to the future of some businesses.

Remember, for arable farmers harvest 2022 is looking like it will be a profitable one for growers who bought their inputs before the big price rises took effect.  This means there could be some big tax bills to pay next year.

Input price risks

If buying fertiliser at £850/t for next season on the basis of a forward wheat price of £270/t, then you can reduce your exposure to risk by forward selling a proportion of the harvest 2023 crop to lock in that margin.

Fixing a price in such circumstances can be a sensible risk management decision – even if it does turn out you could have got a higher price by holding back.

Consider your level of exposure to commodity price changes on a crop-by-crop basis – for most people the biggest exposure is to changes in the wheat price – and make sure your day-to-day decisions and sales strategy are in line with what that analysis shows. It may sound obvious, but make sure you prioritise the enterprises that are likely to make the most money.

Debt risks

Manage the risk of bad debts closely by knowing your buyers and keeping an eye out for any changes in business practices – such as late payments – which might signal they are suffering cashflow problems. Limit exposure by managing collections and payments and obtain appropriate credit insurance if necessary.

Policy/legislation risks

Have a think about any bits of legislation that we know are around the corner which will have an impact on your business. For example, a business which is highly reliant on irrigation could start planning for changes to water abstraction charges and licences.

Some changes will be imminent – such as the cuts to BPS payments being implemented in England – while others may be some way off, such as considering what would happen if one of your major customers started to require suppliers to be carbon neutral.

Personnel risks

Having the right people in place is critical for the success of a business and finding good staff for arable farms is getting harder and harder.

Consider now what would happen if one of your staff members was unavailable for work because they had resigned, was ill or retired. Who might be able to fill the gap in the short term? What about the long term?

Ensure you have a contingency plan in place and share knowledge around the family and any staff, so the business is not completely reliant on one person.