“The Business of Beef ” is a regular series produced by the Bush Agribusiness team for Beef Central readers. 

DURING September and October, we met with our producer business groups and many individual clients to discuss their most recent year’s business and production performance and look at what could be learnt from it to inform future management.

This eclectic bunch of profit focused producers have $0.8 Billion of assets under management and run over 125,000 AE (1,000,000 DSE) of livestock with performance equivalent to the top 25  percent of the wider industry.

The 2021 financial year was generally a good year for our clients, following a drought-affected year in 2020, although the influence of drought has continued into 2021 for some.

From these discussions there were a couple of key themes which we thought warranted an opinion piece for consideration by the wider industry; capital allocation and yield compression.

Capital Allocation

Capital allocation is always important for businesses, and better performing businesses have more capital to allocate, and usually maintain rational reinvestment, through the full cycle. However, at this point in the beef price cycle there are some large profits being generated, and this looks like it will continue, for the current financial year at least. This is excellent for businesses and the industry and with it comes the luxury of choosing how and where to allocate that additional capital.

Many producers would have needed picking up off the floor when their accountant told them their estimated tax bill for the year and will have then rapidly brainstormed strategies to reverse this anomaly. Others will have relished the opportunity to further their status as preferred supplier to the ATO. We advocate the latter approach; it builds more wealth and results in healthier businesses in the long term.

Maximising after tax profits, which isn’t the same as minimising tax, is the key to long term wealth creation and should be a core financial objective for all businesses. After tax profits are gold as you can, within reason, do whatever you like with them.

How capital is allocated at this stage of the cycle will have significant implications on the health of businesses throughout the next cycle, and for generations to come. The capital allocation process should be a rational one that takes a long-term view, quantifying the costs and benefits of the various alternatives, and not be driven by tax aversion or neophilia. There are many options for capital investment, and how it is best allocated will be unique to each business, but the options could be largely grouped within the following four;

• Reinvest within the business
• Grow the business
• Pay down debt
• Invest off-farm

The current land and livestock values have changed the sums for reinvestment within the existing business, a cost benefit analysis of land development or improved pastures may produce a more favourable result to what it would have a few years ago. Investing in the business to reduce labour or increase operating efficiency usually pays good dividends.

Growing the business through purchase of additional land is very difficult to make work at the current prices being paid. If the neighbouring block comes up for sale and can be run with existing labour and equipment then it may be worth a look, but otherwise you may be better positioning yourself for future opportunities (look up Warren Buffett’s quote on fearful vs. greedy). I’d love for anyone to explain to me how spending $10-$15,000 per beast area is a rational investment, without reliance on the greater fool theory.

Paying down debt may seem unappealing at current interest rates, but is worthy of consideration. Making serious inroads into debt is easier now than at other parts of the cycle, and there are two key benefits. The first is that it positions the business and the balance sheet to be able to take advantage of opportunities that may present themselves in the future, when others may be fearful. The second is that paying down debt reduces your exposure to future interest rate rises, which may be coming sooner than previously thought.

Investing off-farm, providing it is done well, reduces your exposure to agriculture and better positions businesses and families for succession and retirement.

Yield Compression

The 2021 financial year performance of our client base was similar, in total profits generated and per animal unit profits, to what was achieved in 2017. However, the return on assets has close to halved since then, a function of land values nearly doubling in that time.

This is what is referred to as yield compression, where the increase in the value of the asset base means an equivalent profit equates to a lower return as a percentage of assets.

Increasing land values are a double-edged sword; on the positive side they increase the wealth and borrowing power of land owners, as well as providing a more lucrative potential exit strategy for those looking to leave the industry. On the flip side, the increased land value makes no contribution to the working capital of the business, as the land has to be sold to realise the increased value, it also makes rational purchases harder for businesses looking to grow.

The increase in land values has improved, and dominated, total business returns in recent years, but will result in reduced operating returns in the future. Yield compression also affects the amount that businesses can leverage their asset base with debt, this will be particularly relevant as interest rates increase.

Conclusion

This is a great time to be in agriculture, the future looks very bright. Rational business managers acknowledge that we are somewhere near the top of the cycle at the moment and that cattle prices, land prices and interest rates can’t all stay at current levels. They are using the current profits to position the business for the next cycle. Other producers believe the current conditions are the new norm and will likely miss this opportunity to position their business for the future. The latter group may well provide buying opportunities for the former in the future.

We’re fortunate to work with, and learn a lot from, profit focused producers who demonstrate the performance that can be achieved in the long term from a rational approach to business management and a focus on the fundamentals. I am talking about sensible, sustainable profit here, not profit at all costs with little regard for animal or environmental welfare.

If you are a profit focused producer who wants to better understand business performance, you’d already have a copy of the Australian Beef Report. If you don’t, or you know someone who would like to improve their knowledge of profitable production, then there are copies of the 2020 Australian Beef Report available for sale. Much of the content of this report is timeless, such as the Pastoral Panel, the chapter on managing the natural resource base and the fundamentals of long-term beef business performance. We are offering these copies at a pre-Christmas discount rate of $195, express posted to you. This is very sensible capital allocation, and a tax deduction!

Visit www.bushagri.com.au/abr and use the discount code beefcentral.