By Miguel Saviroff, Extension Educator, Somerset County
The Income
Statement is a tool performance evaluation form a management point of view. The
Accrual Income Statement offers a more accurate picture of farm business
profits and financial position. It shows the farm’s net income for the
production year. Usually, the production or fiscal year is made to coincide
with your calendar year. The net income is defined as your farm returns from
sales, minus total production expenses as they happen along the year. Any gain
or loss on the sale of capital assets should be added to this amount. The following
is the format for the Cash Based Income Statement:
+Total Revenue
- Total Expenses
Net farm income from operations
+ Gain (or – Loss) on sale of
capital assets
Net Farm Income.
Here’s a
simple example of a Cash Based Income Statement:
Table 1.
Income Statement
|
||||
Description
|
Quantity
|
Price
|
$
|
|
Crop Sales
|
20,000 bu
|
$5/bu
|
100,000
|
|
Livestock
Sales
|
2500 cwt
|
$120/cwt
|
300,000
|
|
Gross
Income
|
400,000
|
|||
Cash
Expenses
|
260,000
|
|||
Net Cash
Income
|
140,000
|
|||
Depreciation*
|
35,000
|
|||
Net farm
Income
|
105,000
|
|||
* Note1:
depreciation, a non-cash expense, is required by IRS to be recorded in
cash-Basis and accrual basis Income Statement.
Net income
can be cash-basis or accrual adjusted. Cash-based includes only
cash receipts, cash expenses, and depreciation.
In farming,
due to inventories of crops and livestock, accounts receivable, accounts
payable and prepaid expenses, produced or incurred in one year and sold, used
or received the following year, we are more interested in the accrual adjusted
income statement. In this format, farm sales are accounted only in the year
when a crop was harvested or livestock was finished and ready to sell, no
matter if the product started growing or was being raised in the previous
production cycle. Likewise, the only expenses considered are those associated
with the products harvested or finished in the current production year.
Year-end accrual adjustments to cash basis income statement will create your accrual
income statement; all you need is a beginning and an ending balance sheet for
the year.
Table 2
outlines the process for adjusting cash basis income to approximate accrual
income.
Table 2. Adjusting cash basis records to approximate accrual
basis records
Cash basis
|
Adjustments to cash basis
|
Equals accrual basis
|
Cash
Receipts
|
-
Beginning inventories
+ Ending
inventories
-
Beginning accounts
receivable
+ Ending
accounts receivable
|
Gross
Revenue
|
Cash
disbursements
|
-
Beginning accounts payable
+ Ending
accounts payable
-
Beginning accrued expenses
+ Ending
accrued expenses
+
Beginning prepaid expenses
- Ending prepaid expenses
+
Beginning supplies
(fuel, chemical, seeds, etc.)
- Ending supplies
+ Beginning investment in growing crops
-
Ending investments in
growing crops
|
Operating
expenses
|
Depreciation expense
|
No
adjustment made (see note 1)
|
Depreciation expense
|
Cash net
income
(pre-tax)
|
Accrual
adjustment net income (pre-tax)
|
|
Cash income
and Social Security taxes
|
-
Beginning income taxes and
S.S. taxes payable
+ Ending
income taxes and
S.S. taxes payable
- Beginning current portion
of deferred tax liability
+ Ending
current portion of
deferred tax liability
|
|
Cash Net
income (after tax)
|
Accrual
adjusted net income (after- tax)
|
Source:
Adapted from Financial Guidelines from Agricultural Producers, Recommendations
of the Farm Financial Standard Council, 1997.
When you
make adjustments, an increase (beginning to ending) in assets, such as
inventories and account receivable will have a positive impact of change on the
year’s Net farm Income. In the same way, an increase in an accrual-type
liability item will cause a negative impact (decrease) in Net Farm Income.
Cash to
accrual income adjustment of $ 5,000 is illustrated below for crop sales:
Table 3
Cash
receipts from Crop sales this year
|
$
100,000
|
less: Beginning crop inventory (produced in prior year)
|
-$20,000
|
plus: Ending crop inventory (current year
production)
|
+$25,000
|
equals: Accrual crop revenue
(approximate value of current year
production)
|
$105,000
|
The
beginning inventory value is subtracted from cash receipts, because it is
already sold or consumed by the farm livestock during the year, and the sales
are included as cash receipts. The ending inventory value is added to cash
receipts, because this is the current year’s production that has not yet been
sold or consumed.
The process
for accounts receivable is the same. Beginning accounts receivable are
subtracted from cash receipts because this amount was collected during the year
and recorded as cash receipts. Ending accounts receivable are added, because
they represent production during the year that is ending although payment has
not been received yet.
Table 4
shows an $8,000 year-end adjustment for accounts receivable.
Table 4
Cash
receipts from crop sales
|
$100,000
|
Less:
Beginning accounts receivable
|
-$25,000
|
Plus:
Ending accounts receivables
|
+$ 33,000
|
Equal:
Accrual crop revenue
|
$108,000
|
There are
several adjustments to cash disbursements or expenses, including account
payable and accrued expenses. They are often the largest expense adjustments,
and accrued interest will be the largest accrued expense.
Table 5
shows a -$2,000 adjustment of accrued interest expenses. They are expenses that
helped produce income during the accounting year but for which no cash has yet
been spent.
Table 5
Cash disbursements
for interest paid this year
|
$40,000
|
less: Beginning accrued interest (interest owed
but not paid in prior year)
|
-$10,000
|
plus: Ending accrued interest (interest owed but not paid in
current year)
|
+$8,000
|
Equals: Accrual interest expense
(approximate cost of borrowed funds)
|
$38,000
|
Once you
have calculated changes in inventory ($5,000+$8,000-$2,000), you can compare
Income Statements: cash basis (left) and accrual- adjusted basis (right). The
farm appears to be profitable on a cash basis. However, after adjusting the
cash basis income statement, it increased from $105,000 to $116,000 for the same period.
Table 1. Cash
vs. Accrual Income Statement
|
||||
Description
|
Quantity
|
Price
|
$ Cash
|
$ Accrual
|
Crop Sales
|
20,000 bu
|
$5/bu
|
100,000
|
|
Livestock
Sales
|
2500 cwt
|
$120/cwt
|
300,000
|
300,000
|
Gross
Income
|
400,000
|
400,000
|
||
Cash
Expenses
|
260,000
|
260,000
|
||
Net Cash
Income
|
140,000
|
140,000
|
||
Depreciation*
|
35,000
|
35,000
|
||
Accrual
Adjustment
|
+11,000
|
|||
Net farm
Income
|
105,000
|
116,000
|
||
Many farmers
leave out these adjustments from the calculation of net profit without
realizing they are understating the “Bottom Line.” Using some financial tools
such as FINPACK relieves you from many calculations that are done internally by
the program. For any assistance in figuring out a close figure for your real
profitability, contact Miguel Saviroff at Penn State Extension at 814-445-8998
Extension 144.
