Adam Rudzewicz, Ph

Warmian-Masurian University in Olsztyn

Mariusz Brzeziński, Ph

The Academy of Agrobusiness in Łomża

PROFITABILITY OF A DAIRY FARM

Introduction
The purpose of this paper is to attempt to evaluate the economic viability of a farm that specializes in milk production. For the purpose of this article, ratio analysis was limited to only one category - profitability.

An evaluation of financial effectiveness of a company is an essential tool that an entrepreneur should use in order to:

- obtain a reliable basis for making current and strategic decisions regarding the functioning of a company and forecasting its future financial situation;

- control the extent to which real economic processes comply with objectives assumed during decision-making;

- obtain information on how a financial situation and assets of a company are evaluated by its creditors and other contracting parties, and therefore on what is the company’s negotiating position towards them.

All information necessary for evaluating the financial effectiveness of a company can be found on a balance sheet and profit and loss statement [Ochman 2001]. Financial efficiency of company’s activities ought to be assessed in the following categories:

a) earnings (profitability);

b) cash flow;

c) debt service coverage;

d) standing in the capital market.

Agricultural holding, due to its field of activity, is a unique enterprise. It consists of agricultural land along with forest land, buildings or their parts, equipment and inventory [Cyrson 1996]. As a part of developed market economy an agricultural holding is gradually transforming into an agricultural enterprise.
In literature, there are several definitions of an agricultural holding:

1) A purposely organized collection of people, land and other means of production, whose task is to produce agricultural products by growing crops and breeding livestock [Economic – Agricultural Encyclopaedia 1984],

2) Agricultural - manufacturing business unit, including a stretch of land that is suitable for agricultural production and that bases its activity on production capacity groups organized into one organic whole based on mutual harmony,

3) Purposely organized collection of people, land and other means of production with its own leadership, that is concerned with the production of crop output and/or livestock output.

4) According to the Civil Code, an agricultural holding is understood as:

"an agricultural land including forest land, buildings or their parts, equipment and inventory, if they constitute or may constitute an organized economic unit as well as rights and obligations related to running the holding" .

5) An agricultural holding is an independent production unit in agriculture; it manages means of production (land, equipment) and manpower; diverse in terms of ownership, organization and production methods[1].

6) In the act on social security for farmers, an agricultural holding is understood as every holding used for agricultural production, which in turn is understood as an activity in the area of crop or livestock production, including gardening production, horticulture, apiculture, fishery and silviculture.

7) The simplest form of business activity organization, recorded and functioning, especially in peasant economy system exceeding 1 ha of agricultural land and used for agricultural purposes by natural persons [Woś 1998].

Characteristics of the analyzed unit

Introduction of EU standards of hygiene and sanitation contributes to improving the quality of produced milk and increasing the health safety of milk and dairy products . This should result in[2]:

– an increase in trust among Polish consumers in dairy products processed in Polish creameries,  

–  improving the quality of produced goods without additional procedures, and therefore reducing food processing costs,

– an increase in sales of dairy products for export

As a consequence it makes it possible to increase prices paid to farmers. Accordingly with experts’ expectations, milk purchase prices demonstrate a strong growing trend (table 1).

Table 1. Average purchase prices of cow’s milk

Year	Price per litre in zl
2000	0,78
2004	0,87
2005	0,93
2006	0,93
2007	I-VI: 0,98 VII-XII: 1,16

Source: Own compilation based on data from Small Statistical Yearbook 2006 and 2008

The examined agricultural holding is located within the limits of Pisanica village in the Kalinowo municipality. The holding’s total area is 57.38 hectares including 53.96 hectares of arable land and 3.42 hectares of other land (mainly class III and IV lands). The main area of activity of the holding is the production of milk. The population of farm animals in the agricultural holding is presented in table 2.

The base herd currently consists of 40 animals and eight heifers with calves. The outlet for the farmer is Milk’s Co-operative "MLEKPOL" in Grajewo. An average yield of milk per cow is approximately 5000 litres. Every year the holding produces around 161 thousand litres of milk. All of the arable land is used to cultivate cereals for grain, corn for silage and field grass. Grasslands (meadows and pastures) are intended for volumetric fodder production for livestock - dairy cattle. All arable land is cultivated using proper agriculture technology and mineral fertilization as well as full protection of crops.

Table 2 . The population of animals on the farm

No.	Specification	Status on
		2005	2006	2007
		in quantities
1	milk cows	32	35	40
2	heifers with calves	6	8	8
3	heifers 0,5-1,5 years	8	8	8
4	calves up to 0,5 years	7	8	8
5	fed animals	1	1	1

Source: The examined farm

Proper plant growing technology and timely crops’ sowing, plant protection treatments and soil fertilization allow for obtaining cereal yield of 3 - 5t/ha, corn yield of 500 d/ha and hay yield of about 55 d/ha at average an intensity production level. Grass is fed to cattle in the form of green forage, hay, silage and hay silage.

The economic situation of the farm

Managing an agricultural holding in a market economy requires making important and difficult decisions: what products to produce, how much to produce, what technologies to use, when and where to perform sales, how to finance the conducted agricultural activity.

When searching for answers to such questions, it is necessary to obtain timely and relevant information and use it in the decision-making process. Accounting records are kept for this purpose. Basic economic results regarding activities performed by the examined holding are contained in the tables mentioned below.

Table 3. Selected elements of holding’s balance statement

No.	Specification	End of the year balance
		2005	2006	2007
		in zl
GENERAL ASSETS		961876	1687250	1986542
A	Fixed assets	748130	1482958	1652561
B	Current assets	213746	204292	333982
GENERAL LIABILITIES		961876	1687250	1986542
A	Equity capital	939375	1050930	1371822
B	Total liabilities	22500	636320	614720
C	Total income for following periods	0	0	0

Source: Based on Table XIV of the report of Individual Agricultural Holding – the examined holding’s data

The income statement and balance sheet are essential documents that are used to evaluate the effectiveness of the examined holding. The income statement contains information on costs incurred as a result of performed activities, achieved by individual units. The balance sheet is a document where the value of a company’s possessions (assets) and sources of these assets (liabilities) are recorded.

Table 4. An account of the agricultural holding’s results

Specifications	End of the year balance in zl			Dynamics in %
	2005	2006	2007	2006	2007
Revenues from sales of merchandise and products	181212	191848	226508	5,87	18,07
- operating costs	62869	69554	71551	10,63	2,87
+ current payments and taxes’ balance	32560	38465	38465	18,13	0,00
= Profit (loss) to operating income	150903	160759	193422	6,53	20,32
- financial costs	277	5712	7359	1962,09	28,83
+ financial income	0,00	0,00	0,00	0,00	0,00
= Gross income from business activities	150626	155047	186063	2,93	20,00
- extraordinary losses	536	1020	981	90,30	-3,82
Extraordinary gains	0,00	0,00	0,00	0,00	0,00
= Gross profit	150090	154027	185082	2,63	20,16
- mandatory charges	1711	1920	2013	12,21	4,84
= Profit from a family owned agricultural holding	148379	152107	183069	2,51	20,35

Source: Table IX of the report of Individual Agricultural Holding – the examined holding’s data

The company’s assets in 2006 increased in comparison to the year 2005. In the asset structure of the company, the proportion of fixed assets increased and the proportion of current assets decreased slightly. A decisive factor in the significant increase of fixed assets was the fact that in 2006 a new cowshed was built – which increased the value of fixed assets (buildings). In 2007 the company’s assets increased in comparison to the year 2006. The proportion of current assets and fixed assets increased in the company’s structure. In 2006 a very high increase in foreign capital took place. The increase in liabilities is associated with a long-term loan incurred in order to build a cowshed. In contrast, in the year 2007, it was the equity capital that increased significantly in the structure of funding sources.

Revenue ratios also known as ratios of profitability are essential instruments measuring the efficiency of operations in every company. These ratios with respect to the examined holding assume the following values:

1. Return of sales (ROS) – used to assess an overall business activity of a company. It determines the amount of profit attributable to one zloty from sales. It is calculated using the following formula [Waśniewski 1997]:

	net income x 100
	revenue from sales
year 2005 =		148379 x 100	= 81,88 %
		181212
year 2006 =		152107 x 100	= 79,28 %
		191848
year 2007 =		183063 x 100	= 80,82 %
		226508

The profitability ratio of the holding is at a high level. In 2005, it was at 81.88%, which means that every single zloty from sales has a potential of generating profit of up 81.88 groszys. In 2006, this ratio fell by 2.6%. In contrast, in 2007 the profitability ratio of sales reached 80.82% and was 1.54% higher than in the previous year.

2. Holding’s total return on assets (ROA) – which is characterized by overall potential of company’s assets to generate profits. At the same time this ratio shows how effectively the company manages assets. This ratio is calculated using the following formula [Cyrson 1996]:

	net profit x 100
	total assets
year 2005 =		148379 x 100	= 15,43 %
		961875
year 2006 =		152107 x 100	= 9,01 %
		1687250
year 2007 =		183063 x 100	= 9,21 %
		1986542

Return on assets ratio is characterized by overall potential of the company’s assets to generate profits. Calculations show that this ratio in 2005 reached 15.43%. In the year 2006 the ratio fell by 6.42%. In contrast, in 2007, the return on assets showed a positive increase and reached 9.21%.

3. Return on equity (ROE)) - reflects the relationship between net profit and average status of the total amount of equity capital invested in the company. This ratio illustrates company’s potential to generate profit from each zloty of the company owner’s equity capital. The higher the value of this ratio, the higher the possibility of obtaining satisfactory dividends and developing the company. A formula to calculate this ratio is as follows [Wypych 1997]:

		net profit x 100
		equity capital
year 2005 =	148379 x 100		= 15,79 %
	939375
year 2006 =	152107 x 100		= 14,47 %
	1050930
year 2007 =	183063 x 100		= 13,34 %
	1371822

Calculations indicate that the return on equity ratio shows a growing trend. In 2005 it reached its peak – at 15.79%. In 2006, this ratio fell by 1.32%. In contrast, in 2007 it reached 13.34%, which means that every single zloty of equity capital has a potential to generate approximately 13 groszys of profit.

Conclusions
To operate effectively above all means to reasonably use the property owned, human resources and financial resources. The company should analyze the structure of assets and capital, technical equipment, production capacity and assess the sources of revenue and the cost of obtaining it. On a long list of skills needed for maintaining an agricultural holding an important one is the ability to make use of economical accounting, which is a skill that every modern farmer must acquire .
All ratios of profitability of the examined holding in the analyzed period achieved positive values. Economic efficiency of a company is at a relatively high level. Performed calculations indicate that the analyzed agricultural holding is in good financial shape.

Literature

Cyrson E., 1996. Kompendium wiedzy o gospodarce. Wydawnictwo Naukowe PWN Warszawa, Poznań, s.215, 272

Encyklopedia Ekonomiczno – Rolnicza, 1984. Państwowe Wydawnictwo Rolnicze i Leśne, Warszawa, s. 301

Kodeks Cywilny z dnia 23 kwietnia 1964 r. art. 55

Ochman J., 2001. Metody i narzędzia badania oceny działalności przedsiębiorstwa. Wydawnictwo „Edukacja” Wyższej Szkoły Zarządzania we Wrocławiu, Wrocław, s. 112, 127

Serwis internetowy "Agro-Info" prowadzony przez  Biuro Programów Wiejskich Fundacji Fundusz Współpracy www.agro-info.org.pl

Waśniewski T., 1997. Analiza finansowa w przedsiębiorstwie, Warszawa, s. 182

Woś A., 1998. Encyklopedia agrobiznesu, Wydanie Pierwsze, Warszawa, s. 343-343

Wydawnictwo Naukowe PWN S.A. Witryna internetowa http//encyklopedia.pwn.pl stan na 12.11.2007 r.

Wypych M., 1997. Finanse przedsiębiorstwa z elementami zarządzania i analizy. Wydawnictwo ABSOLWENT, Łódź, s. 213

Summary:

The purpose of the article is attempt to diagnose economic condition of rural enterprise specialised in milk production. The analysis is based on profitability indicators. The results show that the enteprise has good financial conditions.

Key words: profitability, income account, balance sheet

Adam Radzewicz, dr

Uniwersytet Warmińsko – Mazurski w Olsztynie

adam.rudzewicz@uwm.edu.pl

Brzeziński Mariusz, dr

Wyższa Szkoła Agrobiznesu w Łomży

mariuszb@wsa.edu.pl

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[1] Scientific Publishing PWN S.A. Website http//encyklopedia.pwn.pl as of 12.11.2007.

[2] Internet service” Agro-Info" managed by the Rural Programs’ Foundation Office Co-operative Fund www.agro-info.org.pl (The information service was established at the request of the European Integration Committee Office within the framework of Agro-Info Program operations and it has been functioning since 2001).