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Does reporting the average disadvantage the farm sector?

- Thursday, March 05, 2015

One of the key message coming out of the recent ABARES outlook conference was that average farm cash income for Australian broadacre farms is projected to be around $114,000, a decrease of 8.5% from the previous year. But given some of the other information released at the conference, there are real questions about whether reporting the average, when it comes to farm performance, is actually disadvantaging the sector.

One of the key roles of ABARES each year is to conduct surveys of farm financial performance. It does this by surveying and analysing annual financial performance data from around 1,600 farm businesses, selected so that they adequately represent the Australian broadacre farm population in terms of farm size, farm enterprises, and geographic location. 

An important statistic that is calculated from this data and reported each year is the average farm cash income of broadacre farms. This number is calculated by deducting farm cash costs from farm cash revenue, with 'costs' such as owner/operators drawings and debt repayment excluded. In effect, this number represents the cash profit the farm business has generated for the year.

It doesn't take an accounting degree for people hearing that statistic to quickly work out that, after living expenses and perhaps repaying a bit of debt, there is precious little left as a reward for the average farm family's efforts over twelve months.

But the problem is that the reported 'average farm cash income' statistic is simply an indicator of relative changes in farm profitability from year to year, and does not really represent the 'average' income generated by Australian farm businesses. In many respects it is the "All Ordinaries Index" for the farm sector, and just as the All Ordinaries Index is not the average price of shares traded on the Australian Stock Exchange, so the 'average farm cash income' statistic is not the average cash income earned by farm businesses in Australia.

The reason this is the case revolves around the definition of what constitutes a farm business in Australia. There are actually three different definitions (which says something about the state of agricultural statistics in this country). The Australian Tax Office reports that there are about 180,000 businesses involved in agriculture, the Australian Bureau of Statistics reports there are 115,000 farm businesses (based on the ATO definition which is a farm business which generates at least $5,000 worth of agricultural production annually), and ABARES estimates there are 53,300 broadacre farm businesses which generate more than $40,000 in annual agricultural output each year. 

Leaving aside the different definitions and concentrating on the ABARES data (which is the only available financial data), the problem with the 'average farm cash income' statistic arises from the fact that the size distribution of broadacre farms does not resembles a 'normal' curve, with most farm businesses distributed either side of the 'average'. Instead, as has been pointed out by ABARES recently, there is a very large proportion of smaller farms included in the population, with almost 50% of farms accounting for just under 10% of total agricultural output. At the other end of the scale, the 10% of farms with more than $1 million in annual output now account for more than 50% of the total value of agricultural output, and the proportion of output accounted for by these farms is steadily increasing.

 

Given that, as a rough rule of thumb, net cash income is approximately 30% of gross farm returns, this means that these 50% of farms at most generate around $60,000 of net income for the farm family to live off and to repay debts. 

It is difficult to believe that the vast majority of these are viable farm businesses. The following graph confirms that conclusion. It shows that for the 30% of broadacre farms with annual output valued at less than $100,000, net farm income is now less than $5,000 per annum and has been steadily decreasing in real terms for the past twenty years, while average earnings from off-farm wages are approaching $40,000 per annum. This confirms that these farms are predominantly run as part-time enterprises, with the owners deriving their main source of income from full-time employment off-farm.

The people involved in this group of farm businesses are critically important to the economic and social capital of regional communities, but to include their farm returns when calculating the "average" of all farm businesses is a bit like including the golf earnings and numbers of all amateur and weekend golfers when calculating the average income of professional golfers in Australia.

The result is a very distorted perspective of the financial performance of farms that are run as a full-time professional business, and one that has the potential to create an image that the sector is composed of 'ma and pa farmers' as one prominent Australian commented recently. This, in turn, has the potential to contribute to negative community perceptions about the professionalism of farmers in Australia, which potentially impacts on career choices and even decisions by investors and the banking sector.

The challenge of separating "lifestyle farming" from "business farming" is not one that is unique to Australia. The United States Department of Agriculture has grappled with this challenge in compiling statistics for the US farm sector. Its approach has been to adopt a standard 'typology' for US farms, which can be used to better segregate the farm sector and to produce more meaningful statistics about farm business performance. 

Australia has a much smaller farm population, so it is probably not justifiable to create a system of farm typology as sophisticated as that used by the USDA. However, even a simplified farm typology system that enables s better separation of the financial performance of lifestyle and business farms would be an improvement on the current system of reporting farm income.

 
Comments
Tim Findlay commented on 06-Mar-2015 10:37 AM
Great article Mick. The focus on simple averages in farming performance ignores vital information about farm size, efficiency and risk profiles.

The comparison to the All Ords works well. That index, as we all know, is a market capitalisaton-weighted index - the amount of shares (read size of farm), as well as their share price (farm income) dictates what moves the index. America's Dow Jones Industrial Average is a price-weighted index - movements in highly priced shares move the market more than penny stocks, and so on.

The ABARES 'average' is like a price-weighted index - with a gigantic skew to smaller 'penny stock' farming businesses.

However, it would indeed be unhelpful to throw large business farms and small lifestyle farms in together for an adjusted 'weighted average' statistic of farm income. No real view of risk management processes, efficiency or scale can come from this.

A better version would start with delineating between those types of business so apples and apples can be compared.

Twitter: @TimFindlay

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