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Business Planning --
Identifying and Testing Alternatives*

The purpose of this step in the planning process is to identify, describe, test, select and plan the implementation of alternatives. The previous step helped farmers determine whether they want or need to change their current farm business. That decision was based on their assessment of whether the present farm business will meet their needs or fulfill their goals in the future. For farmers envisioning change, this step suggests a procedure for describing and testing alternatives, and developing a plan for the business that will meet the farmer's goals.

This step in the planning process (step 6) is a chance for farmers to

• identify alternatives,
• gather information to describe alternatives, and
• test the alternatives to determine whether they should be implemented.

After testing alternatives, the farmer may realize that the current farm is the best possible. It is only by testing alternatives that one can determine whether the current farm can be improved. But for farmers who decide to implement an alternative, the next step in the planning process (step 7) considers the intermediate actions farmers may need to take to establish the desired farm; that is, describe how the transition from the present farm to the desired farm will be accomplished.

Why Does the Farm Need to be Changed?

An initial activity for this step is to answer the question of why the owners want to change the farm; that is, what is unsuitable about the current farm, or in what manner may the current business not meet the owners' objectives in the future. Such statements or explanations often help in deciding whether to implement an alternative. They can provide an indication of why the owners want to change the farm, which business goals or personal interests are not being satisfied, or the manner in which their goals are not being met. The following paragraphs are example statements owners may use to explain how or why the current farm is not satisfactory for the future.

"My spouse and I currently own the farm business; if we continue that into the future, we will not have involved other owners in the business like we want to do during the next 10 years. We need to change some of the ownership."

"My debt-to-asset ratio is nearly .5 and the equity in the farm is $250,000. I want to decrease that risk (lower the debt) and increase the equity so I am better prepared for retirement. However, based on the analysis completed in the previous step, I would need above average yields at all times to make much progress toward reaching this goal over the next 5 years."

"Most of my time is spent operating equipment but I would like to shift my time to the shop and office. I want to change my activities to better match my interests and skills."

"The farm is now generating (and is projected to continue generating) $16,000 of cash withdrawal each year, and my spouse and I are working off the farm to make up the difference. I would like to increase the amount of cash we can withdraw from the farm so we can give up one of the off-farm jobs."

"I am currently spending nearly 3,000 hours a year working with the farm business but 10 years from now I would like to spend 1,500 hours during the 9 non-winter months. I would like to change my involvement."

Precise statements about the situation or problem that the owners want to address is a critical first step to making changes. Farmers also may want to describe why they want to make a change; such as, generate more income so another family member can join the farm operation. With these statements, the owners are setting goals for the change; that is, establishing benchmarks against which to test whether progress is being made.

Identifying Alternatives

The next activity in this step will likely involve identifying alternatives, but how do business owners recognize opportunities. A process to identify alternatives is not easily taught, but perhaps the following suggestions will provide some ideas.

• Gather information about what others are doing (some of this may have already been accomplished as parts of step 1 and step 3);
• Review what the owners consider to be the business' strengths and shortcomings, and where they think the business is going (step 3);

• Evaluate the current business from a different perspective;
• Gather ideas from others through conversation, listening, and reading;
• Study information about consumers' interests;
• Anticipate trends in consumption, production, and technology;
• Use our imaginations; and
• Buy information or hire consultants; there is not enough time for owners to be an expert on every topic that affects their business, but farm owners who buy information need to be able to assess the quality of the information they have purchased.

Possible Alternatives

Another activity in completing this step of the planning process is identifying alternatives to consider; these might include the following:

• Modify the farm business by adopting alternative
  • production techniques (such as altering tillage, fertility, and pest control practices)
  • marketing strategies (for example, enter into contracts to market directly to processors, or more fully utilize the futures market)
  • scale of operation (expand or contract the scale of the business or an enterprise)
  • products or commodities to produce, such as a specialty crop rather than a basic commodity
  • labor management strategy (alternatives may include hiring, discharging, retraining or offering a new incentive package to employees; hiring a custom operator for selected tasks and redirecting present resources to other tasks; compare part-time to full-time employees)
  • risk management strategy (for example, consider the relationship among diversifying, the cost of insurance, and the level of debt)
  • capital budgeting/asset strategy (such as the impact of selling, buying, leasing, leasing out, or allowing a lease to expire; an example may be to purchase a larger combine, lease a combine or hire a custom harvestor)
  • financing strategy (possible issues may include whether to reduce debt, finance with short-term or long-term debt, finance with variable or fixed interest rate, finance with a different lender or credit source)
  • tax management strategies (for example, should the business be reorganized to reduce self-employment and income taxes)

• Add value to a commodity by completing some processing on the farm,
• Invest in an off-farm agribusiness firm,
• Stimulate innovation by designating different management personnel, reassigning management tasks, and involving other business and asset owners
• Start a new business such as providing a custom operation service to neighbors
• Change careers , for example, reduce the amount of time and other resources invested in the farm operation so more time can be spent at off-farm employment

These examples illustrate only a few alternatives a farmer might consider. Most often, owners envision the future farm as a combination of existing, modified, and new activities. Likewise, identifying alternatives is an opportunity to consider non-farm options even though the primary activities at the present time are agriculture-oriented.

Refining the Alternatives to Consider

Most farmers will identify more alternatives than they will have time, resources, or need to thoroughly evaluate. In deciding which alternatives to analyze in detail, the business owners may want to select the ones they will most likely be able to implement if the subsequent evaluation is favorable. For example, farmers interested in livestock production but who have no experience with animals, could find that adding a farrowing operation aligns with their personal interest. However, such farmers may want to pursue this alternative only if there are opportunities to acquire necessary information or experience. Perhaps these operators could start with a small scale operation or work part-time with a livestock producer. How the farmer plans to attain the necessary experience can be part of a transition plan developed in step 7.

Another concern may be that owners unnecessarily limit themselves if they focus on the current farm's shortcomings. The opposite extreme would be for the owners to think about a entirely new farm. Even though such broad thinking/daydreaming can be fun and beneficial, it may not be realistic due to limited resources. For practical purposes, owners have to build from where they are. But imaginative daydreaming can originate ideas that may otherwise go unidentified.

Describing the Alternative

After selecting which alternatives to thoroughly evaluate, the farm owners will want to accumulate additional information about the activity and describe how they would operate it. The description would likely specify the types and quantities of inputs they would expect to use, and the product they plan to produce. Essentially, they are developing the "recipe" for operating this alternative enterprise; not much different than what the owners did in completing step 1 (inventory of the current farm business).

A critical difference between the two steps (steps 1 and 6) is that this time the owners may need to do more research if their understanding of the alternative is insufficient to develop an enterprise budget. To help describe the alternative, the owners may want to repeat some of step 3 by asking questions about the alternative being considered. The type of information the owners will likely document in their description of the new or modified enterprise are

• production practices, technology and costs,
• marketing opportunities and strategies,
• necessary management skills, and
• the types, quantities, and times when resources are necessary to meet the needs of financing, labor, land, equipment, and buildings.

By developing these descriptions, the owners are outlining functional plans, should they decide to implement the alternative. These outlines will be finalized later in this step for alternatives the owners decide to implement.

By developing a record of the alternative's description, the owners should be better prepared to add or delete information during planning and implementation. For some alternatives, the farmer may not have all the information necessary to decide whether to implement it, so a system to organize and collect information becomes important. As information is collected or conditions change, the owners are then ready to decide whether to adopt the alternative.

Specifying the Alternative's Goal

By specifying a goal for the alternative, the owners are establishing a criterion for deciding whether to implement it. Relevant issues might include

• What is the problem that needs to be addressed?
• What do the owners hope to accomplish by implementing the alternative: reduce costs, increase overall revenue, etc?
• How and when do the owners want the problem resolved?
• How does the alternative impact the owners' other goals?

To some extent, the owners may already have specified a goal as part of their description of the problem they want to address (an earlier activity in this step). Setting a goal for the alternative helps define the direction the farm is going and why the owners want to proceed in that direction. It also helps determine whether to implement the alternative, and sets a benchmark against which progress can be compared as the alternative is being implemented (more on monitoring progress in step 9).

Example. The farmer owners are interested in adopting no-till practice to reduce their labor needs; their ultimate goal is to no longer share equipment with neighbors or rely on employees.

Some alternatives may be short-term; implemented only until another enterprise is expanded. For example, a farmer may raise a secondary crop because the market for the primary crop has not fully developed. The secondary crop would be eliminated or decreased when (and if) the market for the primary crop is developed. In such a case, the goal for the alternative is to contribute to the farm's long-term survivability even though it may not generate the level of profit, cash flow, or equity growth needed for the long-term or may require activities that are undesirable in the long-term.

For most alternatives, the farmers will specify criteria in terms of the alternative's impact on the farm's overall profit, cash flow, equity growth, type of activities, and personal goals. This would include matching resource availability with needs.

Testing the Alternative

The procedures for testing the alternative is similar to the procedure used in step 5 (both analyses are projections into the future, but this step involves changes to the business rather than just changes in prices and costs):

• enterprise budgets will be prepared to reflect the alternatives being considered;
• the alternatives' impact on the whole-farm profit, cash flow, and equity accumulation will be reviewed;
• the activities necessary to implement the alternative will be assessed to determine how the alternative relates to the owners' skills and interests;
• the outcome of adopting the alternative will be measured against how well it fulfills the owners' goals;
• a new consideration will be the impact the alternative has on the owners' level of risk exposure (since the alternative is a new activity, it will pose different risk considerations that should not be overlooked -- see step 8);
• another new consideration will be whether the firm has the resources necessary to implement the alternative (such as, the availability of labor, capital, and management skills);
• a third new consideration is the legal ramification of adopting the alternative (such as environmental rules, labor law, or required license); and
• a final new consideration will be whether the alternative addresses the problem that led to the search for the alternative.

Thus, the level of inquiry is more intense when analyzing an alternative than when analyzing the future of the current business.

Data necessary to test the alternative is similar to what was used in prior steps. Information about quantity and cost of inputs, quantity and price of output, and timing of activities will be needed. Compiling less tangible information, such as necessary labor skills and uncertainty relative to the alternative, will likely require added effort.

A question sometimes asked is "how much detail is necessary to test an alternative." Perhaps the best response is to gather information until the owners have confidence in their analysis and decision, but do not gather information once its cost exceeds its added value.

Another concern may be locating sources of information about an alternative that the business owners have little or no experience with. A review of some ideas from step 3 may help identify information sources. However, most business people have enough contacts that they usually can find information by inquiring with other farmers and agribusiness associates.

The appendix introduces some ideas about methods to analyze business alternatives other than developing full-blown enterprise and whole-farm budgets. These short-hand methods do not reduce the amount of information that is needed; they only streamline the processes for evaluating the data.

As throughout the planning process, the decision as to whether the alternative should be adopted belongs to the business owners.

If the Criteria is not Met

If the alternative does not satisfactorily meet the criteria, the owners will likely conclude that they should not implement it. In that case, they may want to thoroughly analyze some of the other alternatives they identified earlier, or identify new alternatives. These alternatives also would be tested with the same procedure and criteria as the original alternatives. (Repeating this process could be described as "taking another spin through step 6.")

If the Criteria is Met

If the alternative meets the criteria and appears that it will improve the overall farm operation, the owners will want to prepare to implement it. The implementation could involve preparing a plan on how to make the transition (as described in the next step). It also may involve updating functional plans (as described in the appendix to step 5). For some alternatives, updating the functional plans may only require slight modification of the business operations described in step 1.

Also, as alternatives are developed, tested, and some appear feasible, the owners may want to revisit some of the previous steps. It already has been suggested that step 3 may need to be repeated in an effort to gather more information about an alternative. Another example of repeating a step if an alternative is likely to be implemented would be to review long-term business goals (step 4).

At this point, the owners have described their desired farm business . However, they may find that they cannot directly move from the current operation to the redesigned operation. Instead, a series of smaller changes may be the best way to accomplish the larger change. Each of these smaller steps needs to be feasible so that one does not "de-rail" the entire business. Step 7 is an opportunity to consider transitional changes to reach the desired business. It is a time to describe changes that need to be made, when, in what order, and what resources are necessary to accomplish the change. The step also offers a chance to test each of the steps to determine if they move the business in its desired direction, including the cost and returns of changing the business.

Conclusion

This step emphasizes identifying and testing alternatives. The methodology for completing the test is similar to that of testing the current farm. The discussion of this step focuses on identifying alternatives and gathering the information about the alternative.

The product of this exercise is a list of enterprises that the owners are willing to undertake and have (or will obtain) the skills necessary to perform. The enterprise should be consistent with the owners' prioritized goals, whether the farm has the physical and human resources to implement the alternative, and whether there is a reasonable chance of success given risk and assumptions. Each enterprise needs to be thoroughly documented and have budget prepared.

The purpose of this step is to have the owners consider different possibilities for using their physical and human resources to meet their business and personal goals. Owners are encouraged to be creative and look at possibilities they may not have considered in the past.

The goal is to outline several alternative farm operations. From this group of possible enterprises, the owners can organize a farm business to meet their goals as well as match available resources with their need to withdraw cash and their ability and willingness to assume risk.

Last Updated May 30, 2007

Email: David.Saxowsky@ndsu.edu

This material is intended for educational purposes only. It is not a substitute for competent professional advice. Seek appropriate advice for answers to your specific questions.

E-Mail:sswandal@ndsuext.nodak.edu
Published by Agricusiness and Applied Economics
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