Financial Risk Management in SW Medicinal Herb Production and Marketing

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Financial Risk Management in SW Medicinal Herb
Production and Marketing

• Charles Martin, Ag Specialist
• NMSU Sustainable Agriculture Science Center,
  Alcalde, NM

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Acknowledgements

• New Mexico State University
• Western Center for Risk Management Education,
  Washington State University
• USDA/NIFA
• This material is based upon work supported by
  USDA/NIFA under Award Number 2010-49200-06203.

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Goals and Objectives

• Goal Fully understand the financial risks that
  producers participating in the project face and
  how the proposed producer results, if applied,
  will lead to producers making an improvement in
  their ability to manage those financial risks.
• Growers will need to describe accurately what the
  financial risks are, what creates the financial
  risks that your project is addressing, and be
  able to show their direct correlation to other
  session topics that will result in the improved
  ability of your producer participants to manage
  the financial risks you have identified in the
  Proposed Results section.
• Obtain a good understanding of financial risk
  management among growers and entrepreneurs.
• Demonstrate knowledge and understanding by
  development of a financial risk management plan.
• Proposed results implementation of the financial
  risk management plan.

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What is Financial Risk Management?

• Managing credit, market and financial instrument
  risks
• Debt/borrowing management/avoidance
• Managing Cash flow, (seasonality, storage,
  inventory), fraud risks, market volatility
  (price/inputs)
• Foreseeing/planning for delayed return on
  investment

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The Risk Management Process Step 1 Assess
Grower Circumstances

• Net worth
• Asset/liability ratio
• Liquidity
• Access to financing
• Understand the nature of financial risk

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Step 2 Identify risksStep 3 Develop a risk
management planStep 3 Implement your
planStep 4 Evaluate your results
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Identifying Financial Risks

• Capitalization (start-up, operating, expansion)
• Cash flow (perennials, seasonality, demand/sales
  fluctuations)
• Delayed return on investment
• Excessive production overhead/capacity
• Unforeseen/unexpected costs/losses
• Debt/borrowing

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Other (related) types of risks

• Marketing risks how much to grow, how much
  product to make? (keep records of sales, volumes,
  prices and dates)
• Unknown market volume and trends
• Crop losses interrupts cash flow, unable to meet
  payments

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Include Hidden/Indirect Costs!!

• Insurance
• Travel expenses
• Vehicle maintenance/repair/overhead
• Utilities
• Employee/workforce training

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Unforeseen/Unexpected Costs

• Vehicle /equipment breakdowns
• Accidents
• System failures/ power outages
• Family emergencies

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Market Risks/Opportunities

• Boom/bust cycles
• Seasonality (availability, demand)
• Limited niche market rapid saturation
• Can turn disadvantage to an opportunity (small
  entrepreneurs can respond more quickly to rapidly
  changing situations)

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Managing uncertainty
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Delayed Returns on Investment
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Know Your Financial Risks!

• Having a business plan
• Knowing your cost of production
• Knowing your break-even price (to cover variable
  and total costs)
• Managing cash flow
• Reducing/Avoiding Debt

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Financial Management Tools

• Business Plan
• Enterprise Budget
• Cost/Benefit Analysis
• Cooperative/Group Effort or Financing

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Start with a Business Plan

• Assessment of your enterprises capacity of
  making money
• Solve/fill in unknowns to the equation
  (sensitivity analysis)
• Work backwards from a target
• Compare to fixed/variable costs

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What is a Business Plan?

• business plan is a formal statement of a set of
  business goals, the reasons why they are believed
  attainable, and the plan for reaching those
  goals. It may also contain background information
  about the organization or team attempting to
  reach those goals.
• Business plans may also target changes in
  perception and branding by the customer, client,
  tax-payer, or larger community. When managing a
  business, a business plan, or B-Plan, is often
  confused with the term Marketing Plan. When the
  existing business is to assume a major change or
  when planning a new venture - a 3 to 5 year
  business plan is essential.

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Work Backwards

• Start with marketing, end with production.
  Marketing is THE big unknown.

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The Known, The Unknown, and The Unknowable

• Use dimensional analysis
• Solve for the unknown.
• When more than one unknown, plug in estimates
  (sensitivity analysis)

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An Iterative Process

• First an educated guess, then decisions based on
  info collected from others, then collected
  directly from ones own business.
• Experience is gained along the way.

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Assessing and Balancing Tradeoffs
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Avoid Debt with Compound Interest !
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Debt-Free Financing

• Cooperative investments
• Shared facilities, equipment, labor
• Incremental investing first by hand, then
  small-scale equipment, then larger
  equipment/facilities

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What about grants?

• Grants are not handouts or bailouts
• Not for capitalization
• Not a way to salvage a business
• VAPG Value-Added Producer Grant
• http//www.rurdev.usda.gov/rbs/coops/vadg.htm
• SBIR Small Business Innovation Research
  http//www.sbir.gov/
• NMDA Specialty Crop Marketing Grant
  http//nmdaweb.nmsu.edu/marketing-and-economic-dev
  elopment/hidden-files/Binder326.pdf

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Goatheads as a working example