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Alternative Financial/Organizational Structures: How Should I Organize and
Finance My Farm Business?
Objectives
• Identify criteria for choosing a financial/organizational structure
• Describe the options– Legal organization– Business arrangement– Leasing options– Equity– debt
Financial/Organizational Structure of the Farm Firm: Choices and Options
• Legal organization• Business arrangement• Leasing options• Equity• Debt
Financial/Organizational Structure Alternatives
Legal Organization
Business Arrangement
Leasing Options Equity Debt
•Sole proprietorship•Partnership•Corporation•Land trust•Cooperative
•Independent•Contract•Subcontractor•Joint venture•Franchise•Licensing
•Real estate lease•Facility/equipment•Capital/fin-ancial•Leveraged•Sale-Leasebacks
•Sources–Initial capital contributions–Retained earnings–Stock–External equity
•Business Practices
–Payout policy–Family transfers
•Loans–Maturity–Interest rate–Amortization arrangements–Collateral–Conversions
•Bonds–Convertible–Callable–Zero coupon
Organizational Structure and ROELeverage
Ownership 26% 50% 70%Mix of rent, Mean 17.0% 20.1% 24.9%
share, own Std. Dev.
5.3% 7.1% 10.0%
All owned Mean 9.9% 10.7% 12.3%
Std. Dev.
2.4% 3.5% 5.5%
Rent Mean 25.6% 30.7% 37.9%
$110/acre Std. Dev.
11.8% 15.2% 20.0%
Share Mean 20.3% 23.9% 28.9%
(50/50) Std. Dev.
5.8% 7.5% 9.8%
Financial Performance of Pork Production Units
Financial Structure
0% Debt 40% Debt 80% Debt
Pork Production Business Arrangement
Mean Return on
Equity (%)
Prob-ability
of Default
Mean Return
on Equity
(%)
Prob-ability
of Defaul
t
Mean Return
on Equity
(%)
Prob-ability
of Defaul
t
Independent farrow to finish
17.0 0.0 23.5 0.05 56.5 0.26
Efficiency and marketing incentive contract
10.4 0.0 12.5 0.00 23.1 0.33
Death loss incentive only finishing contract
11.3 0.0 14.0 0.00 27.6 0.11
Legal Organization
• Sole proprietorship• Partnership– General– Limited
• Corporation– Regular– Subchapter S
Business Arrangement
• Independent producer• Contract producer• Subcontractor• Joint venture• Strategic alliance• Franchise agreement• Licensing
Contracting Options
• Marketing agreements• Profit/Loss sharing• Profit/Loss sharing with provided resources• Flat fee plus efficiency bonuses
What Do End Users Want From Producers?
• Cost competitiveness• Consistent quality• Timely delivery• Predictability/reliability• Flexibility/adaptability• A qualified supplier
What Do Producers Want From End Users?
• Equitable reward and risk allocation • market presence/position• Dependability• Access to innovation– products– markets– technologies
Benefits of Networking
• Capture proven technology• Capture real economies• Improve product quality and market access• Utilize production, marketing, and information
systems
Limitations of Networking
• Commitment of people• Joint responsibility• Formal business procedures• Loss of markets and suppliers
Networking Questions:
1. Who to partner with?2. How do I identify?3. How to negotiate?4. How to govern?5. How to manage?6. How to finance?7. How to exit?
Leasing Options
Real Estate Lease– Cash lease– Share lease– Flexible cash base– Shared appreciation lease
Leasing Options
• Facility/Equipment operating lease• Capital/Financial lease• Leveraged lease• Leaseback
Equity
Sources– Initial capital contributions– Retained earnings– Valuation Equity– Stock
• common stock• preferred stock
– “External” equity/contributions– Warrants or options– Venture capital
Equity
Business Practices– Payout (dividend or withdrawal) policy– Intrafamily transfers– ESOPs and stock options– “Buyout” policies
Debt
Loans– Maturity– Interest rate– Amortization arrangements– Prepayment features– Security/collateral– Conversion of terms
Debt
Loans– Shared appreciation mortgages– Reverse mortgages– Interest rate strips, futures, options, swaps
Conclusions – Financial/Organizational Structure
• Critical strategic decisions• Significant impact on ROE• Numerous alternatives• Diversification