By Eric Madsen
Machinery and equipment are some of the largest investments you, as a grain farmer, will ever make. What’s more, it’s not a one-and-done-proposition. Keeping equipment in good working order is an ongoing expense. According to ag economist William Edwards, costs related to machinery align with a farm’s profits. How and when equipment is replaced can mean a bottom line difference of thousands of dollars.
It’s always important to scrutinize repairs and replacements. Just because a piece of equipment needs to be repaired, doesn’t mean we automatically send it in to be fixed. It’s important to look back at each individual equipment item on our balance sheet and really ask whether the repair costs have gotten to the point where replacement is justified.
Here are some general considerations:
• Could we adjust our equipment management strategy to become more productive or more efficient at a lower cost?
• Could more work be done on-farm to become more profitable than outsourcing labor or specialized services?
• If we have a large equipment line that has a great deal of debt to run our cropping enterprise, perhaps we need to evaluate outsourcing and/or reducing our equipment line to make the operation more cash efficient.
A few years back, trading for new equipment was very popular and helped farmers avoid costly breakdowns in the field, take advantage of tax benefits and stay current with technology. Times — and margins — have changed, however, and that means a lot of operations are finding themselves cash-strapped, making new purchases out of the question.
For those lucky enough to have working capital and in a financial situation to make either choice, there are trade-offs to consider.
Thinking about repairing your equipment? Here is a look at the pros: No new loan payments for cash flow; may only need to spend $5,000 on a repair compared to $60,000 trade price; tax deductible; and if you can do the work yourself, will likely be very advantageous. As for the cons: May have to be constantly fixing; may be less reliable; loss of time with in-season repairs; overall value will decrease the older/more hours the equipment is used; at some point equipment doesn’t depreciate any longer; and the cost of the repair could be as much as the value of the piece of machinery.
As for replacing equipment, here are the pros: Warranties on new equipment; may get one- or two-year parts warranties with a used equipment purchase; upgraded technology; tax depreciation; and if the equipment market is depressed, could get a “deal” on a newer, used piece of equipment. Some cons of buying new equipment include: Will likely still have some maintenance/repair costs; may need to update other equipment to match up to the new equipment. (For example, combine heads, planting technology, etc.; and could burn working capital faster.)
A strategy some of our clients are considering is trying to match payments with depreciation.
Some producers have gotten themselves into a sticky financial situation due to using the 179 deduction on the entire purchase and then setting up a payment.
Future payments then have to be made with net income, and the only deduction to the payment is the interest.
In tight financial times with little net income, that means burning working capital to make the machinery payment.
Repairing versus replacing can be a very difficult decision and there is no one right or wrong answer. Of course, situations and goals differ a great deal. We recommend farmers work together with their financer and tax advisor to put together an informed decision.
Even when your advisors do not completely agree, they typically work to find common ground that benefit each unique producer.
Eric Madsen is an assistant vice president of financial services with Compeer Financial, a Farm Credit System institution. His office is in Mankato, Minn.