A Better Understanding Of The Purchase Decision

Deere 4930 sprayer

Changes in agriculture are making headlines. It’s because of bio and mechanical technologies, import/export issues, and the biofuels boom, as well as the impact on a host of areas including commodity prices, farmland values, operating costs, and more. Growers are weighing the benefits of increased capital investments that will help them prosper during this period. Because of these new developments, many in the industry are projecting brighter days ahead.

Despite rising costs in fuel, the sub-prime home mortgage fiasco, and the continued war in Iraq, retail sales in the agriculture/grower sector are up. According to the Association of Equipment Manufacturers monthly “Flash Report,” the sale of all tractors in the U.S. for August 2007 was up slightly compared to the same month last year. For eight months in 2007, a total of 155,541 tractors were sold, compared to 154,730 sold the first eight months of 2006.

As we can see, the number of buyers is up slightly. However, it is still apparent that capital purchase decisions can hinge on hope and are possibly inhibited by fear.

As your grower-customers evaluate what to buy and when, they may face nagging doubts. How long will the good times in agriculture last? Will things continue to get better? Just what are the particular immediate and potential long term effects of this period? Will this current cycle end with disappointment, like the one experienced in the 1980s?

In this environment of shifting expectations, there is much to be gained by understanding how your customers should evaluate capital investments. While customers have their own hopes and fears, you can play a helpful role in exploring more measurable costs and benefits that your products carry into the marketplace. As you gain a better understanding of how customers should properly evaluate purchase decisions with you, you might gain some valuable insights about them and cement your role as a trusted business partner. These insights may also uncover other opportunities to expand your own product and service offerings.

The Best Approach

So how should one approach a capital purchase? Let’s take a look at how America’s corporate community does it. Within the financial control structure of most firms, there is a formal procedure for budgeting and evaluating proposed capital spending. Corporate managers recommending investment in capital goods must demonstrate that the investment will build value for shareholders. There are many analytical approaches ranging from a simple break-even calculation to more robust methods. One of the most widely used and respected techniques is Net Present Value (NPV).

Managers argue that the proposed equipment or machine addition will produce a positive NPV. To arrive at the figure, managers must model (a fancy word for estimate) anticipated cash flows associated with the purchase. These expected revenues are sometimes referred to as incremental cash flows. These flows include incremental revenue brought in by the equipment itself, as well as incremental cost reductions associated with its operation. Examples of cost reduction include reduced labor, savings from fuel use, lower maintenance costs, and many other factors.

When both the positive and negative incremental cash flow have been identified, the impact of the purchase can be tallied. The sum of these future cash flows associated with the life of the equipment is discounted back to its present value. This discounting is done using a discount rate, generally considered to be a firm’s cost of capital. Discount rates vary by business. In the very simplistic example in the accompanying table, we used 10%. Remember, the project cash flows do not depend on where you get the money. Financing costs are reflected in the discount rate.

Being Positive

If the NPV of the project is positive, then it is generally considered worthwhile. If it is negative, the project is usually rejected. In our accompanying example, there was a negative NPV, in spite of some fairly substantial annual cash flows.

Making Right Decisions

The point of this exercise isn’t to turn you into a finance guru or turn your grower-customers into corporate middle managers. Making good capital purchase decisions rides on an understanding of opportunities to increase revenues or reduce costs. These decisions must also recognize the cost of capital. Assumptions need to be grounded in reality. Generating assumptions requires serious thought and analysis. Penciling in $4 per bushel of corn as far as the eye can see probably isn’t a reasonable assumption.

These techniques can be used to enhance learning and evaluation and to overcome fear and uncertainty about the true value of your product offerings. The wrong piece of equipment can put a strain on the business. But working with your customer through a process that critically evaluates the true costs and benefits of a purchase can make you a hero. 

Leave a Reply

Management Stories

StewardshipOhio Water Quality Project To Determine How Much Phosphorus Is Leaving Fields
July 27, 2015
Researchers with the College of Food, Agricultural, and Environmental Sciences at The Ohio State University are looking for farmers in Read More
ManagementFCI Trade Summit Update & Precision Tank Turns 50
July 23, 2015
Editors Dave Frabotta and Eric Sfiligoj discuss the upcoming FCI Trade Summit in Las Vegas, NV, and how Precision Tank Read More
ManagementUpdates On UAV Rules & Crop Conditions
July 16, 2015
CropLife’s Paul Schrimpf and Eric Sfiligoj provide updates on the ongoing UAV regulations debate and how the nation’s crops are Read More
StewardshipOhio Farmers Improving Water Quality Through Fertilizer Applicator Training
July 15, 2015
Since last fall, 6,586 growers and producers responsible for farming some 1 million acres of Buckeye State farmland have gone Read More
Top 100 Articles
CropLife 100Pinnacle Purchases California-Based Specialty Crops Retailer
July 20, 2015
Pinnacle Agriculture Holdings has successfully acquired California-based NH3 Service Co.  Operating as part of Pinnacle’s Performance Agriculture brand, the new locations Read More
Asmus Farm Supply liquid fertilizer facility features 20,000 square feet
CropLife 100Slideshow: Asmus Farm Supply Shows Off Its New Liquid Fertilizer Facility
July 15, 2015
Asmus Farm Supply, Rake, IA, recently added a new liquid fertilizer facility to its company operations. The new liquid fertilizer Read More
CropLife 100Wilbur-Ellis Feed Division Facilities Receive Safe Feed/Safe Food Certification
July 13, 2015
Wilbur-Ellis Co.’s Feed Division, a marketer and distributor of value-added feed ingredients for the aquaculture, livestock and pet food industries Read More
CropLife 100BRANDT Expands To Brazil With Acquisition
July 8, 2015
BRANDT has acquired a majority interest in Target Brasil Fertilizantes Ltda. through its Brazilian subsidiary. Target Brasil manufactures, distributes and Read More
Milan Kucerak, president/CEO, West Central
CropLife 100West Central Cooperative And Its New President Are A Match Made In Deviation
June 29, 2015
To appreciate just how unique West Central Cooperative is in the world of ag retail, an observer need only consider Read More
Winter Wheat
CropLife 100South Dakota Co-op Member Owners Vote No On Unification
June 26, 2015
The Boards of Directors for North Central Farmers Elevator (NCFE) and Wheat Growers (WG) have announced that member-owners have voted Read More
Latest News
StewardshipOhio Water Quality Project To Determine How Much Phosph…
July 27, 2015
Researchers with the College of Food, Agricultural, and Environmental Sciences at The Ohio State University are looking for farmers in Read More
FertilizerKoch Agronomic Services Launches N-TEGRATION Technology
July 27, 2015
Koch Agronomic Services, LLC (KAS) has launched  N-TEGRATION Technology, a process technology platform designed to enable production of enhanced efficiency fertilizers at Read More
HerbicidesExpert: IARC Herbicide Classifications Leading To Confu…
July 24, 2015
Few people in the crop protection industry had heard of the International Agency for Research on Cancer (IARC) before this Read More
ManagementFCI Trade Summit Update & Precision Tank Turns 50
July 23, 2015
Editors Dave Frabotta and Eric Sfiligoj discuss the upcoming FCI Trade Summit in Las Vegas, NV, and how Precision Tank Read More
Palmer pigweed seedhead in cotton
HerbicidesUSDA Deregulates Dow AgroSciences’ Enlist Cotton Trait
July 23, 2015
The USDA today issued its decision deregulating Dow AgroSciences’ Enlist cotton trait in the U.S. The USDA has now completed its Read More
Industry NewsVerdesian Life Sciences Showcases Versatile Product Por…
July 23, 2015
Technology has revolutionized agriculture by bringing farmers, retailers and distributors to the forefront of the digital age. To meet the Read More
FertilizerWSJ: Cf Industries Exploring Merger With Dutch Chemical…
July 23, 2015
U.S. fertilizer maker CF Industries is in advanced merger talks with Amsterdam-listed chemical company OCI NV, the Wall Street Journal Read More
HerbicidesNufarm Releases New Panther SC Herbicide
July 23, 2015
Nufarm has announced the availability of new Panther SC herbicide. Panther SC is the first liquid formulation of flumioxazin available Read More
EquipmentFarmLink Launches Farm Equipment Sharing Program
July 23, 2015
FarmLink has introduced a new online farm equipment sharing community – MachineryLink Sharing – leveraging this new economy business model Read More
HerbicidesCould The South’s Most Troublesome Weed Represent A Thr…
July 22, 2015
Palmer amaranth is undoubtedly the most troublesome weed in the southern United States, taking a devastating toll on both cotton Read More
Industry NewsH.J. Baker Hires New Director Of International Sales
July 22, 2015
Global Agriculture firm H.J. Baker announced today that Steve Langley has joined the company’s Crop Performance Division and Animal Health Read More
InsecticidesSyngenta Recommends Soybean Scouting To Prevent Economi…
July 22, 2015
Proper soybean insect pest control begins with scouting. As the warm weather continues, Syngenta encourages growers to implement a scouting Read More
Crop InputsH.J. Baker Launches Fall Sulphur Campaign
July 22, 2015
H.J. Baker has launched their “Keep Your Future Green – Use Tiger This Fall and Win Big” campaign. The campaign Read More
Central Valley Ag Randolph, NE
Retail FacilitiesStueve Construction Builds Fifth Facility For Central V…
July 21, 2015
Central Valley Ag partnered with Stueve Construction Co. to successfully design and build its Monroe, Oakland, Wakefield and Royal hub facilities Read More
FertilizerNew Research Could Lead To Less Reliance On Nitrogen, E…
July 21, 2015
Farmers often are required to apply nitrogen fertilizers to their crops to maintain quality and improve yields. Worldwide, farmers used Read More
Seed/BiotechMonsanto Targets Farmers, AFBF In Syngenta Takeover
July 21, 2015
As Monsanto Co. struggles to convince rival Syngenta AG to discuss a potential merger, the seed and agrochemical giant is Read More
CHS Building exterior
Retail FacilitiesSackett Helps CHS Expand Blending Facility, Improve Acc…
July 21, 2015
CHS needed a blend plant that could vastly expand their capabilities in St. Charles, MN. The A.J. Sackett & Sons Read More
Industry NewsH.J. Baker Adds To HR Team
July 21, 2015
H.J. Baker announced today that Barbara Sullivan has joined the company’s executive team as Vice President of Human Resources. Prior Read More