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

ManagementThink You Know Water? Take WinField United’s ‘Unchartered Waters’ Quiz Via NatGeo
March 22, 2017
Water is among our most precious resources, and arguably the hardest working, with just one percent available for human use, Read More
Corn Field
LegislationTFI Hopes Court Dismissal Is ‘Final Chapter’ Of Des Moines Water Works Lawsuit
March 20, 2017
The Fertilizer Institute (TFI) released the following statement from President, Chris Jahn on the March 17, 2017, federal court dismissal Read More
ManagementSnowstorms, Asset Sales, and Soybeans Prices
March 16, 2017
Editors Paul Schrimpf and Eric Sfiligoj discuss the weather, precision ag, crop protection company mergers, and commodity prices in this Read More
Management2017 Commodity Classic Review
March 10, 2017
Editors Paul Schrimpf and Eric Sfiligoj discuss what happened at the recent Commodity Classic in San Antonio. Read More
Trending Articles
AdjuvantsA New Weed-Control Era Begins: But First, One Last Obstacle
March 4, 2017
There is trepidation, there is reluctance, and there is excitement. Ag retailers feel it all about the new dicamba and Read More
LIFT Academy video screenshot
Crop InputsLIFT Agriculture Academy: A Q&A With West Central Distribution’s Dean Hendrickson
March 1, 2017
West Central Distribution recently launched its LIFT Agriculture Academy, a new, premiere training and professional development resource for West Central’s ag Read More
Farmer and aptop
Matt Hopkins10 Warning Signs Your Website Is Grossly Outdated
February 8, 2017
Your Website is often a visitor’s first impression of your ag retail business. A positive first impression can set the Read More
AgriSync
Matt Hopkins17 Agriculture Apps That Will Help You Farm Smarter In 2017
December 9, 2016
Ag professionals are working smarter, not harder, than ever before. Smart farming technologies have enabled them to reduce costs, maximize Read More
R4023 Sprayer, John Deere
CropLife 100Ag Retail Equipment Report: The Green Party Continues
December 7, 2016
In the annual race for sales in the ag retail equipment marketplace, the color schemes for participants are a little Read More
Mike Stern
Precision AgClimate Corp. CEO Talks Retailer Support For Digital Ag
December 1, 2016
CropLife Magazine’s sister publication, AgriBusiness Global, recently sat down with Mike Stern, CEO of The Climate Corp., following the Monsanto subsidiary’s Read More
Latest News
Pam Marrone
Crop InputsMarrone Bio Innovations Enters Biostimulants Market Wit…
March 23, 2017
Marrone Bio Innovations, Inc. is expanding beyond biopesticides and crop protection and into the biostimulant market by commercially launching Haven Read More
Nutrients for Life Foundation Teacher
FertilizerNutrients For Life Foundation Celebrates 10 Years Teach…
March 23, 2017
Those in agriculture know fertilizer is a vital ingredient to grow strong, productive crops. In fact, fertilizer is responsible for Read More
ManagementThink You Know Water? Take WinField United’s R…
March 22, 2017
Water is among our most precious resources, and arguably the hardest working, with just one percent available for human use, Read More
Corn Field
LegislationTFI Hopes Court Dismissal Is ‘Final Chapter’…
March 20, 2017
The Fertilizer Institute (TFI) released the following statement from President, Chris Jahn on the March 17, 2017, federal court dismissal Read More
Wheat Growers
Industry NewsWheat Growers CEO Dale Locken To Retire
March 20, 2017
CEO Dale Locken has announced that he plans to retire from Wheat Growers. Locken has served almost 15 years as Read More
Bayer Monsanto
Eric SfiligojBayer-Monsanto: Life, LibertyLink, And The Pursuit Of R…
March 20, 2017
As the calendar officially turns to spring, life is in full renewal mode. Flowers are blooming, birds are singing, and Read More
Corn Field
Crop InputsUltra Yield Micronutrients Acquires Kronos Micronutrien…
March 16, 2017
Ultra Yield Micronutrients, Inc. ”Ultra”, an affiliate of Cameron Chemicals, Inc., is pleased to announce that it has acquired the Read More
ManagementSnowstorms, Asset Sales, and Soybeans Prices
March 16, 2017
Editors Paul Schrimpf and Eric Sfiligoj discuss the weather, precision ag, crop protection company mergers, and commodity prices in this Read More
Soybean Field
Seed/BiotechBayer Invests $8.1 million In Soybean Advancement In Th…
March 16, 2017
Growers in Illinois and across the Midwest now have the added benefit of a state-of-the-art soybean research facility, increasing accessibility Read More
CHS
CropLife 100CHS Acquires Western Co-op Transport Association
March 16, 2017
CHS Inc., North America’s leading farmer-owned cooperative and a global energy, grains and foods company, has purchased Western Co-op Transport Read More
Young corn plants in soil
HerbicidesBest Management Practices To Control PPO-Resistant Weed…
March 14, 2017
Weeds resistant to the class of herbicides called protoporphyrinogen oxidase (PPO) inhibitors are spreading at a faster rate than weed Read More
Photo credit: The United Soybean Board/The Soybean Checkoff.
Eric SfiligojFungicide Resistance On The Horizon
March 13, 2017
For many years now, the agricultural market has struggled to keep ahead of an ever-growing number of herbicide-resistant weeds. According Read More
Management2017 Commodity Classic Review
March 10, 2017
Editors Paul Schrimpf and Eric Sfiligoj discuss what happened at the recent Commodity Classic in San Antonio. Read More
Farmer using AgriSync
ManagementMajor AgriSync Update Aims To Extend Ag Experts’ Power …
March 10, 2017
AgriSync announced a major update to its leading collaboration and service management tool for professional ag advisors and their farmer Read More
Agrible Pocket Spray Smart App
EquipmentNew Agrible Pocket Spray Smart App Alleviates Spraying …
March 10, 2017
There’s a new app to help farmers decide when to spray their fields. Pocket Spray Smart is a free iOS Read More
BPIA logo
Crop InputsBiological Products Trade Association Changes Name, Exp…
March 9, 2017
The Biological Products Industry Alliance (BPIA), formerly the BioPesticide Industry Alliance, is the new name of the rapidly growing U.S.-based Read More
BBI MagnaSpread Salford BBI
Equipment14 Fertilizer Spreaders For 2017
March 9, 2017
Application equipment manufacturers stressed flexibility and accuracy with this year’s crop of fertilizer spreaders. From AGCO’s TerraGator TG9300B and Case IH’s 810 Read More
Sonny Perdue
LegislationARA: Sonny Perdue Confirmation Delay Simply A Paperwork…
March 9, 2017
It’s been seven weeks since the White House named former Gov. Sonny Perdue (R-Ga.) as the nominee for the next Read More