At all production related event or activity that is uncertain is a production risk. Agricultural production indicates an expected outcome or yield. Changeability in outcomes from those expected creates risks to your ability to attain financial goals.
Cultivators have three choices in dealing successfully with production risks.
1) They can control or minimize risk through management practices by doing a well job of what they currently do.
2) They can decrease production variability by making changes such as integrating, diversifying, applying advanced technology, etc.
3) They can handover production risk to someone else through purchasing insurance, contracting, etc.
Over time, enhancements in technology and crop production practices have helped decrease agronomic risks and increase yields.
For decades, agricultural risk was identical with crop production risk. Reducing variability in expected yields has been a major focus of risk management. Over time, enhancements in technology and crop production practices have assisted decrease agronomic risks and increase yields. For example, genetic engineering has produced new plant varieties that are disease and drought resistant; commercial fertilizers have improved yields; effective herbicides and insecticides were developed controlling weeds and insects; and, a whole host of improved production and management practices have been disseminated. Not only is yield variability still a formidable production risk, but the consolidation of agriculture is also impacting the whole agricultural production sector. These structural shifts mean that farmers are vulnerable not only to the vagaries of weather, but are also vulnerable to external economic forces that exacerbate traditional production risks.
STRATEGIES FOR MANAGEMENT
Farmers have three options in dealing with production risks.
The first is to continue farming or ranching as already, but try to minimize or control risk through management practices. This contains such things as timeliness in performing operations, practicing preventative maintenance, and monitoring production activities more thoroughly to ensure problems are detected early enough to take corrective measures. The second option is to reduce production variability. Generally, this means reconfiguring the operation by adding or changing enterprises through integration or diversification, and applying improved technology as suitable. Remaining flexible is important to being able to respond to changing economic conditions more simply. A big part of falling production variability is to actively plan and make a contingency plan for unwanted events.
The third alternate in managing production risk is to transfer some or all the risk to someone else. Contracting and insurance are two effective tools to transfer risk.
1. CONTROL OR MINIMIZE RISK
There are many examples of how risk can be minimized or controlled through improved management practices. Chemical and fertilizer usage can help to control or reduce the variability in production. Irrigation is very effective in minimizing the effects of little rainfall or drought. Health and nutrition programs can decrease variability in livestock production.
Timeliness of operations has a huge impact on most production activities. It is often the key to success.
Practicing preventive maintenance is also a method of managing production risks by diminishing the likelihood of negative events taking place. Many risks are hard to anticipate. The use of basic control and feedback strategies is important.
2. REDUCE VARIABILITY
Diversification is an effective way of dropping income variability. Effective diversification arises when low income from one enterprise is offset by satisfactory or high incomes from other enterprises. It typically decreases large year-to-year variations in income and may ensure adequate cash flow for meeting debt obligations, production costs, and family living needs. However, getting knowledge about an alternative business, expertise on new crop production practices, or information on equipment for a new crop may be costly. Expanding into new areas or experimenting with new enterprises will increase capital investment requirements. For instance, diversification can contain different plant types, different combinations of crops and services, different end points in the same production procedure such as different selling sizes, or different varieties of the same plant.
Through crop diversification, farmers may initiate another marketing method, providing a way to improve profitability. For example, direct marketing of the diversified crop to customers is becoming more common, including farmers’ markets, roadside stands, and community supported agriculture arrangements.
The benefits of diversifying income sources depend on the variability of returns faced by a producer. Diversification to help counter negative fluctuations in farm income can also be achieved by having several income sources, such as custom hire services, additional on-farm businesses, off-farm employment, investments or savings.
Farmers normally attempt to maintain flexibility in the use of farm assets and operating procedures as a production response to the variability. Increasing specialization of production facilities and equipment limits flexibility amongst enterprises. Farmers are more likely to maintain flexibility in their marketing and financial decisions than in the type and size of production activities. The costs associated with flexibility in production need to be compared with the potential benefits.
Vertical integration includes all the ways that output from one stage of production is transferred to another. For example, a nursery that offers landscaping services using their own nursery stock is vertically integrated.
To a certain degree, vertical integration runs counter to the concept of specialization. The early farms of pioneer settlers were totally vertically integrated. Every aspect of the production process was connected and performed on the single farm. Modern farms are a blend of integration and specialization. For example, a dairy farm may integrate feed production, milk production, and replacement heifer production. It may also integrate into the production and sale of finished products through direct or traditional retail markets. However, some dairy farmers may specialize to superior degree on milk production and elect to purchase all their feed and replacement heifers. Integration depends on market opportunities, assets available, and the skills and knowledge of the managers.
There are uncountable opportunities to apply fresh technology in managing production risk on the farm. This contains the physical technology often referred to as precision agriculture. Precision agriculture takes benefit of advances in computers and mechanical engineering to make well, more efficient, machines and equipment.
Biotechnology research continues to advance on many fronts with the goal of making crop production more competent. Scientists are developing plant varieties that can withstand environmental tensions such as flood, drought, frost, or extreme temperatures. An interrelated area of research is adapting crops to regions where they are not normally grown because of climate, altitude, or rainfall. Biotechnology is also being used against plant pests such as insects, weeds, and diseases. Biotechnology is being used to develop diagnostic tests for a wide range of viruses and diseases.
The key to applying technology in managing risk is to do so in a way that lowers total farm risk. Sometimes new technology may increase risk, or the increased cost for the corresponding reduction in risk is prohibitive.
3. TRANSFER RISK TO SOMEONE ELSE
A contract is typically defined as a written or oral agreement between two or more parties involving an enforceable promise to do or refrain from doing something. In agriculture, contracts between farmers and agribusinesses specify certain conditions related with producing and/or marketing an agricultural product. By merging many market functions, contracting generally reduces participants’ exposure to risk. In addition to specifying certain quality requirements, contracts also can specify price, quantities to be produced, and services to be provided.
Farmers enter into contracts for many reasons, including income stability, market security, improved efficiency, and access to capital. Retailers enter into contracts to control input supplies, improve responses to consumer demand, and expand and diversify operations. These reasons reflect efforts to bring a more uniform product to market.
Production contracts can take many forms, depending upon the commodities being contracted and the economic needs of the parties entering into the contract. Normally, producers give up some management independence and decision making for a more stable income and less variability.
Insurance can be an effective and efficient mechanism of transferring large risks to someone else. To be insurable, an opposing event must be significant enough to cause economic hardship to the insured if it occurs. Further, there must be a sufficient number of adverse events or potential quality loss to allow a reasonably close calculation of the likely loss. Also, the potential loss must be accidental and unintentional and when an adverse event occurs, the amount of loss must be observable and measurable.
Insurance is the means of protecting against unforeseen loss. The risk can be passed off by purchasing insurance from an insurance company, or it can be self-insured. With self-insurance, there are no premiums to pay, but in the event of a loss, the operator tolerates the full amount of the loss.
The three types of insurance that all workers should carry are:
1) Property and casualty insurance;
2) Health, life, and disability insurance; and,
3) Liability insurance.
Crop insurance is a very significant type of property insurance that can be used very effectively in combination with marketing plans to also decrease marketing risk. Crop insurance can guarantee a level of production, thus removing the risk linked with forward pricing or selling products that are yet to be produced. Crop insurance will offer the money to deliver on a commitment should the insured crop suffer a loss prior to harvest. Through the effective use of crop insurance, producers can improve their financial management and secure operating loans.
Medical expenses due to an illness or injury can cause economic havoc on a family. Farmers are more likely to be disabled than killed in accidents. A good disability policy is as important as life insurance and is a good risk management tool.
A liability policy guards a farmer against claims or lawsuits brought by persons whose property or person has allegedly been injured by the farmer’s carelessness.
December 20, 2017