Title: Partial budgeting (an aid in farm business planning)
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 Material Information
Title: Partial budgeting (an aid in farm business planning)
Translated Title: Circular / Florida Agricultural Extension Service ; no. 323 ( English )
Physical Description: Book
Language: English
Creator: Alston, Clifford
Publisher: Florida Agricultural Extension Service, IFAS, University of Florida
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Bibliographic ID: UF00049914
Volume ID: VID00001
Source Institution: University of Florida
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Full Text
Circular 323


PARTIAL

BUDGETING


(AN AID IN FARM


BUSINESS PLANNING)


Clifford Alston




Florida Agricultural Extension Service
Institute of Food and Agricultural Sciences
University of Florida, Gainesville































































First Printing March 1968
Second Printing February 1969


COOPERATIVE EXTENSION WORK IN AGRICULTURE AND HOME ECONOMICS
(Acts of May 8 and June 30, 1914)
AGRICULTURAL EXTENSION SERVICE, UNIVERSITY OF FLORIDA
and
United States Department of Agriculture Cooperating
M. O. WATKINS, DEAN







PARTIAL BUDGETING

An Aid in Farm Business Planning

Clifford Alston
Economist, Farm Management

Farm budgeting is a technique for assembling and organizing information on prices, costs,
technology, etc., in order to help make sound decisions with respect to the management of farm
resources. As such, it can be an aid in dealing with three general types of decisions that the
manager of a farm business must face: (1) those concerning the quantities of various products
to produce, (2) those with respect to the methods of production to be followed, and (3) those
having to do with the marketing of the products produced. Each type of decision is related
to the objectives of the farm business manager, and they all involve prices, costs, etc. (i.e. net
returns). Probably the first two types represent the principal managerial decisions faced by
an individual farmer. A budget deals with the future and usually operates within the frame-
work of lack of perfect knowledge of what will happen.
Two kinds of budgets are used complete and partial. A complete budget, which includes
all items of costs and returns, is usually made when:
1. There is a major change in resource use, such as a shift from ranching to dairy farming.
2. For credit.
3. Hired management submits proposals for the future to his employer.
4. A person enters the business of farming.
Partial budgets include estimates of only the changes in costs and returns associated with
variations in organization of enterprises (or resources), or operation. Thus, partial budgets do
not show the net income from the whole farming system, but do indicate the probable difference
in net incomes from alternative plans. Which of the two types of budgeting is most appropriate
depends upon the kind of problem to which it is being applied. When the use of any resource
is changed, a maximum of four possible effects may by noted. These are:
1. Costs of some items may increase (increased costs).
2. Revenue from some enterprises may decrease (decreased receipts).
3. Costs of some items may decrease (decreased costs).
4. Revenue from some enterprises may increase (increased receipts).
Thus, a partial budget can be used to handle all situations that arise from a proposed change
in the use of resources.
Most farm business managers use a budgeting process in reaching decisions. It may be
done mentally when driving to town without any formal procedure. He may actually figure
carefully in his office or home whether a proposed change is profitable. Sometimes a decision
to make a change in the use of resources is reached without figuring whether it will be profit-
able or not; often these decisions result in costly mistakes. At other times, the budget does
not include all of the relevant items affecting the change in costs and income.
The objective of this publication is to show how partial budgeting may be used to reduce
the guesswork of day-to-day managerial decisions. It does not attempt to explore all alterna-
tives open to the manager.
As stated previously, a change in resource use can have four possible effects. A partial
budget includes these and is set up as follows:

A B
Increased Costs $ Increased Receipts $
Decreased Receipts $ Decreased Costs $


Total A (Added Costs) $ Total B (Added Income) $
Total B (Added Income), $ minus Total A (Added Costs), $
$ = Net change in farm income.






If the total of B (Added Income) is greater than A (Added Costs), it would pay the farm
manager to make the change.
Success in the use of partial budgeting as an aid in making decisions depends on several
items, but three are of great importance: (1) explore various alternatives open to the farm
business manager and then select the systems to be budgeted, (2) assemble all relevant infor-
mation on resource requirements for each alternative to be budgeted, including production or
yield expectations, and (3) assemble information on prices for resources and products and
estimate future prices for products. With these three types of information, expected changes
in costs and returns can be calculated for each alternative change in the use of resources that
the farm business manager is considering. Some illustrations of the use of partial budgeting
follow.

BUDGET
Drop a Laying Flock
A farmer has a 4,000 bird laying enterprise on his general farm. During the past year
total expenses have exceeded total income from the laying enterprise and he is considering
whether he should drop the enterprise. He has no alternative use for the laying houses or
poultry equipment. The farmer would eliminate costs of machinery operation, but feels that all
building costs would remain constant. With the following information on costs and returns we
wish to determine if he should drop this enterprise.
Expenses-Per dozen eggs Other Cash Costs (none fixed) .22
Feed 21.350 Depreciation on Machinery and
Hired Labor 2.00 Equipment 2.06
Machinery & Equipment Operation .60 Depreciation on Buildings & Fences 1.65
Building Repairs .40 Depreciation on Layers 8.01
Taxes (none on layers) .33 Interest on Layers .50
Utilities .47 Interest on Other Investment 1.19
Insurance Buildings .28
Supplies 1.04
Litter .10
Medicine .20
Income-Per dozen eggs Total Expenses 40.40
Manure and Sacks .790
Eggs 36.01
Total Income 36.800

Using this information, a simple comparison between continuing and dropping the layer
enterprise now in production follows:
A B
Increased Costs Increased Receipts
None .009 None .009
Decreased Receipts Decreased Costs
Sacks and Manure .799 Feed 21.350
Value of Eggs 36.01 Hired Labor 2.00
Machinery & Equipment Operation .60
Utilities .47
Supplies 1.04
Medicine .20
Litter .10
Other Cash Costs .22
Depreciation Layers 8.01
Interest on Layers .50

TOTAL A (Added Costs) 36.800 TOTAL B (Added Income) 34.490
TOTAL B, 34.499 minus TOTAL A, 36.809 = -2.319 per dozen, net change in farm
income.






In the above illustration, Total Added Income (B) is less than Total Added Costs (A) and
the farmer would have a larger net farm income by keeping his laying flock.

BUDGET
Raise Heifers or Buy Replacements
A farmer is purchasing his replacements at a cost of $320 per heifer. These heifers are as
good as those he might raise. He has limited land, but could rent adjacent land for $10 per acre
if he decided to raise heifers. He has adequate machinery and buildings for the heifer enter-
prise. The farmer has been selling his heifer calves for $10 each. One-half of the additional
labor would be hired. The farmer estimates total costs per heifer for raising replacements as
follows:*


Pasture 2 acres per heifer
Rent Pasture
Fertilizer
Machinery Operation Pasture
Machinery Depreciation Pasture
Milk
Feed Purchased
Labor
Veterinary
Breeding



Using this information a decision on
follows:
A
Increased Costs
Labor
Rent
Fertilizer
Machinery Operation Pasture
Feed Purchased
Veterinary
Breeding
Supplies
Taxes
Interest on Investment
Machinery Operation Heifers
Death Loss

TOTAL


Heifer Calf
Milk


Decreased Receipts


TOTAL


$ 20
30
5
4
12
179


Supplies
Buildings Depreciation
Taxes
Interest on Investment
Machinery Operation Heifers
Machinery Depreciation Heifers
Death Loss


Total $322

whether to buy or raise replacements would be made as


None


$ 17
20
30


Increased Receipts


Reduced Costs


Purchased Heifer


$ 0


$320


7
2
1
12
2
7

$285

10
12

$ 22


TOTAL A (Added Costs) $307 TOTAL B (Added Income) $320

Total of B, minus Total of A, $307 = $13 per heifer, net change in farm income. In the
above illustration, the farmer should raise his heifers because he can make a saving of $13 per
animal by raising his replacements.
*This budget and the others that follow have omitted the concept of compounding costs or discounting revenue. For
instance a $5000 cost today is equivalent to $7385 compounded at 5 per cent per annum for 8 years. Also an income
of $161 five years hence is worth $100 today if discounted at a rate of 10 per cent per annum. The author feels that
this concept, although important, should be presented in a separate publication rather than injecting the idea at
the present time.







BUDGET
Keep Old Tractor or Buy a New One
A farmer has a two row tractor that is five years old, and is considering whether to trade
for a new four row tractor. A tractor driver is employed at $2.00 per hour, and the present
tractor is used 900 hours per year. The new tractor would be used 475 hours to accomplish
the same amount of work, cost $5000, have a useful life of 8 years, fuel consumption @ 38
cents per hour, repairs @ 2 per cent of the cost, interest @ 6 per cent, grease and oil @ 7
cents per hour, and insurance and taxes at $40 per year.
The old tractor has been depreciated to $900 and needs an overhaul that will cost $400.
The life of the tractor with the overhaul is estimated to be four years. Fuel consumption is 37
cents per hour, repairs at 10 per cent of present value plus overhaul, oil and grease @ 10 cents
per hour, and insurance and taxes @ $20 per year. It is estimated that crop income can be
increased $300 per year with the new tractor because of timeliness of the work. Housing for
the two tractors will be the same. Interest on investment is estimated @ 6 per cent.


A
Increased Costs
Labor (475 hours x $2)
Depreciation ($5000 8 yrs.)
Interest on Investment
(6% x $5000)
( 2 )
Fuel (475 hours x 38 cents)
Repairs (2% x $5000)
Grease & Oil (475 hours x
7 cents)
Insurance


B
Increased Receipts


$ 950
625


Decreased Receipts


None


Crops


Decreased Costs
Labor (900 hours x $2)
Depreciation ($1300 4 yrs.)
Interest on Investment
(6% x $1300)
( 2 )
Fuel (900 hours x 37 cents)
Repairs ($1300 x 10%)
Grease & Oil (900 hours x
10 cents)
Insurance


Total A (Added Costs)

Total B, $3037 minus Total A,
new tractor.


$2079

$2079 =


90
20


Total B (Added Income) $3037

$958 net change in farm income from buying a


BUDGET
Use Custom Work or Own Machinery


A common decision for many farmers is whether tc
on a custom basis. A partial budget can be set up as e
be used to determine the acreage needed to break even
Total Annual Overhead Costs
Custom Rate per Acre less Operating Costs per Acre


own a machine or hire the work done
explained previously, but a formula can
as follows:


= Break Even Acreage


$ 300


$1800
325


39
333
130






Overhead (fixed) costs include such items as depreciation, interest on investment, taxes, in-
surance, non-operating repairs, and housing. The custom rate per acre can be obtained from the
person performing the service.
Assume a farmer is considering whether to purchase a corn picker which costs $4000. It has
no salvage value, and is depreciated over 8 years or $500 depreciation per year. Interest at 7
per cent would be, 7% x $4000, or $140 per year. Insurance, taxes, non-operating repairs, and
2
housing amount to $60 per year, or total fixed costs of $700 per year. The custom rate is $12
per acre.
Operating (variable) costs include such items as labor, repairs, fuel, oil, and grease. Assume
these amount to $4.00 per acre. Subtracting $4 from $12 for custom work leaves $8 per acre,
the amount saved in cash costs per acre by owning a harvester rather than hiring the corn
picked.
The above information, plus the formula, can be used to determine the number of acres
needed to purchase a combine as follows:
Overhead Costs $700
Custom Rate @ $12 per Acre less Operating Costs per Acre @ $4
$700
S or 87.5 Acres needed to break even.
$ 8
In justifying ownership the farm manager should consider some other alternative such as:
1. Loss in quality or quantity of crop if custom harvest is used.
2. Greater return from investing limited capital elsewhere.
3. Possibility of doing custom harvest for others.
4. Ownership of machine by two or more farmers.

SUMMARY
Illustrations contained in this publication are intended to show how partial budgeting can
aid in farm decision making. Actually, a manager with two alternatives can use a partial
budget so a complete list of illustrations could not be prepared. Using this method takes much
of the guess work out of many farm management decisions. If the decision between two altern-
atives is obvious, partial budgeting can be done mentally. In any event, the partial budget can
be an aid in avoiding costly mistakes.




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