GROSS MARGINS (GM)
David Hornby


Farm budgets are used as a guide to the costs and returns associated with farm production. The Departments of Agriculture publishes regional guides for major cropping and livestock enterprises in all Australian states. These can be used as a datum or comparison base against which the subject farm can be compared and evaluated.

Gross margins are based on specific assumptions concerning inputs, machinery costs, tillage practices, stock management and product prices. Variations of these factors can have a major impact on the gross margin for a particular enterprise.

The assumptions used in calculating gross margins are based on farming practices and expectations for the particular region. It should only be related to the assumptions on which they are based. Valuers should prepare their own gross margins using standard guidelines.
Calculating gross margins allows the farmer to:

• Determine the approximate profitability of current farm enterprises
• Estimate changes to returns caused by variations in price, costs, yield, management practices, etc. This is known as a "sensitivity" analysis.
• Compare farms within the district
• Compare paddocks within a farm.

DEFINITION OF GROSS MARGIN

The gross margin for an enterprise is the difference between the total
annual income and the variable costs directly related to the enterprise:

GM = TR - TVC
Where:

GM = gross margin
TR = total revenue
TVC = total variable costs

Therefore, the gross margin is not profit. It does not take into account fixed or overhead costs such as rates, machinery depreciation or permanent wages which have to be met regardless of the level of an enterprise undertaken. There are two main uses of gross margins:

• The simplest and most common use of gross margins is for direct comparison. For example, they may be used to compare an individual wheat gross margin with the district or farm average gross margin.
• DECISION MAKING: Gross margins can be used to select between two enterprises such as wheat and barley. However, the decision requires more inputs than simply the gross margins for example, the risk of the alternative enterprises.

EXAMPLE

A farmer estimates that the gross margin for a traditional pursuit such as wheat is $64/ha compared with $153/ha for lupins This does not mean that he/she should immediately convert all of the wheat fields to lupins. Other factors to take into account are:

• The higher risk of lupins compared to wheat. For example, the end market for lupins is much more volatile than that for wheat.
• The need to change farming method and machinery
• The farmer may not have sufficient knowledge to immediately farm lupins. A learning curve may be necessary which in turn raises risk during the initial period.

The above factors make lupin farming more risky than wheat farming. The farmer may well conclude that the $89/ha margin is not sufficient to outweigh the relative riskiness of lupins.

PERSONAL FACTORs

There is evidence that some farmers will never make a major
change of product no matter what the gross margins are. For example, cattlemen who would never run sheep no matter how high the price of wool/kilo rises to.

CLASSIFICATION OF COSTS

FIXED COSTS
Generally, there will be some factors in fixed supply, such as land,
machinery, buildings, permanent labour. These are fixed costs.

VARIABLE COSTS

Other factors such as those in crop production for example, seed,
fertilizer, casual labour will depend on the chosen level of production. Therefore, such costs are variable costs. Even though the manager may have decided on the seeding, fertilizer and irrigation rates per hectare of the various crops, he/she will not have decided on the total quantity of these factors to use until each crop's level of production is decided.

For Gross Margins variable cost items are those that change with production levels while fixed costs items are those whose total cost doesn't change at all or very little. If a cost is to be incurred regardless of which enterprise is adopted, then it is "fixed" for the purposes of the particular analysis. However, the same cost item may be "variable" for
another analysis. For example, different farm enterprises will usually require different amounts of capital for their operation.

This can be accounted for in GMA by charging interest on capital invested in each enterprise. Capital already invested in a fixed non salvageable form should not be considered.

LIMITATIONS OF GROSS MARGINS

While gross margins are a useful management tool, they have the following limitations:

• No account is taken of different levels of capital investment in different enterprises, or the capital costs involved in developing a new enterprise.
• These considerations are important when changing from one type of activity to another. In this case other forms of budgeting may be required.
• Enterprises may not necessarily compete with each other but rather, are complementary. For example, in the lupins example above the fact that lupins have a beneficial effect on subsequent cereal crops should be taken into account. That is, the gross margin should be on rotations rather than one cycle. Similarly, the value of stubbles should not be overlooked in a mixed farming situation.

Other changes may be better than a change in land use. For example:
• The improvement os current practises. For example, timing of
• operations.
• Cash flow requirements of alternative enterprises
• Availability of resources - land, labour, capital
• The physical limits of the farm - soil structure, rotations

• Valid comparisons can only be made in terms of common units. For example, hectares, manhours, capital, DSE's.

TABLE 1

EXAMPLES OF GROSS MARGINS

CROP	Yield  (t/ha)	Price ($/t)	Gross Margin($/ha)	Break EvenYield
Wheat	1.00	175	98.82	0.36
Barley	1.00	144	74.47	0.43
Oats	1.00	115	61.72	0.39
ENTERPRISE	GM per head $	GM per DSE $	GM per ha $
Merino Ewes	64.18	21.43	47.14
Merino Wethers	20.81	20.81	45	79
Beef Cattle	218.33	14.30	31.47
Pigs	78.00

EXAMPLES OF GROSS MARGINS

WHEAT CROP GROSS MARGIN

INCOME $/ha
Average yield 1.00 t/ha @ $175.00 /tonne
(net of CBH. tolls, levies and charges)

TOTAL INCOME 175.00

EXPENSES
Seed 55 kg/ha @ $220/t	12.10
Seed Treatment 55 kg/ha @ $18.10 /t	1.00
FERTILIZER
10:22:0 50 kg/ha @ $375 /t	18.75
CHEMICALS
Weed control	9.61
Pest control	0.00
Disease control	0.00
Fuel	5.48
Repairs, oil and grease	9.25
FREIGHT
Grain 1 tonnes @ $18 /tonne	18.00
Fertilizer 0.050 t @ $10 /t	0.50
Contract Work/hectare	0.00
Insurance $175 /ha @ $8.50 /$'000	1.49
Other	0.00
TOTAL EXPENSES	$76.18

GROSS MARGIN 175.00- 76.18 = $98.82

COMMENTS: Price of wheat is based on Department of Agriculture estimate of $195 less $20 charges. Grain freight is from farm to terminal port.

BARLEY CROP GROSS MARGIN

INCOME $/ha
Average yield 1 $/ha @ $144 /tonne

TOTAL INCOME: 144.00

EXPENSES
Seed 50 kg/ha @ $203/t	10.15
Seed Treatment 50 kg/ha @ $18.10 /t	0.91
FERTILIZER
10:22:0 50 kg/ha @ $375/t	18.75
CHEMICALS
Weed control	11.13
Pest control	0.00
Disease control	0.00
Fuel	5.21
Repairs, oil & grease	8.85
FREIGHT
Grain 1 t @ $12.82 /t	12.82
Fertilizer 0.050 t @ $10/t	0.50
Contract Work	0.00
Insurance $144 /ha @ $8.50/$'000	1.22
Other	0.00
TOTAL EXPENSES	69.53

 

GROSS MARGIN 144.00 - 69.53 = 74.47

COMMENTS: Price of barley is based on Dept. of Agriculture estimate of $160 for #3 grade less $16 charges. Malting barley should show a premium of about $20 per tonne.

MERINO WETHERS GROSS MARGIN
80
INCOME $
Wool 3430 kgs @ 430 cents/kg = 14 620
Sales = 1 785

TOTAL INCOME 16 405

EXPENSES

Shearing 490 sheep @ $135 /100	662
Shed labour 2 days @ $80 /day	160
Wool packs19 packs @ $7 /pack	133
Shed sundries 490 sheep@ 0.20/head	98
Dipping 490 sheep @ 0.25 /head	123
Crutching 500 sheep @ 40/100	20080
VETERINARY
Drench 500 sheep @ 0.11 /head	55
Vaccinate	0
Purchases 129 wethers @ $25 /head	65
Freight 129 sheep @ 0.50/head	65
19 bales @ $6/bale	111
SELLING CHARGES
Commission 5% of gross proceeds	575
Yard fees	0
FEED
Grain 5 tonnes @ $115 /tonne	575
Insurance value	0
Other expenses fuel etc $500 /year	500
TOTAL EXPENSES	5 998

GROSS MARGINS
Per flock: 10 407
Per dse: 20.81
Per hectare: 45.79


POULTRY FARM GROSS MARGIN

GROSS RETURN $
Egg Sales 37 400
Bird Sales 93 300
TOTAL INCOME 130 700

VARIABLE COSTS

Livestock Running Costs	8 200
Poultry Maintenance - Costs	3 800
Levies and Charges	4 400
Livestock Purchases	25 300
Feed Costs	48 500
Vehicle Costs	600
TOTAL EXPENSES	90 800

GROSS MARGIN: 130 700-90800 = 39 900

Value of equipment and buildings: 177 800
Produces 5 700 broilers, 1 560 pullets and 2 790 turkeys per annum
Cage unit: 1 500 hens
Total: 11 550 mixed birds

Gross Margin/mixed bird: 3.46
Gross Margin/ha: 19 950

PIGGERY GROSS MARGIN
100 Sow Unit

GROSS RETURN: $
Livestock Gross Return 240 200

VARIABLE COSTS

Livestock Running Costs	26 900
Piggery Maintenance	15 200
Feed Costs	118 900
Vehicle Costs	12 000
Interest on Stock: 58 200 * 10%	5 800
TOTAL EXPENSES	178 800

GROSS MARGIN 240 200-178800 = 61 400
GROSS MARGIN/SOW: 614
GROSS MARGIN/ha: 24 560
Value of stock: 58 200
Capital:(excluding land): 214 400

DAIRY FARM GROSS MARGIN

240 ha with an average of 17 680 DSEs

GROSS RETURN $
Livestock and Milk production 159 800
Fodder Sales 31 200
TOTAL INCOME: 191 000

VARIABLE COSTS

Livestock Running Costs	21 300
Dairy & Equipment Maintenance	8 800
Pasture, crop and hay costs	10 200
Feed costs	81 000
Vehicle Costs	2 400
Interest on stock 126 000 * 10%	12 700
TOTAL EXPENSES	126 400

GROSS MARGIN: 191 000-126400 = 54 600
GROSS MARGIN/DSE: 31.00
GROSS MARGIN /ha: 227.50

Stock Capital: 126 600
Capital including land: 1 000 000

A most useful feature of gross margins is their use in sensitivity analysis. This allows the comparison of the effect of variations of important variables on the gross margin. Table 2 below shows such a table where the effect of variations in the average price of wool
and cut per head on the gross margin is shown.


TABLE 2

GROSS MARGIN SENSITIVITY ($/DSE)
Average Greasy Wool Price (cents/kg)

Wool Cut (kg/head)	390	410	430	450	470
5.8	13.49	14.61	15.73	16.85	17.97
6.0	14.27	15.13	16.59	17.75	18.91
6.2	15.03	16.23	17.43	18.63	19.83
6.4	15.81	17.05	18.29	19.53	20.77
6.6	16.56	17.81	19.12	20.40	21.68
6.8	17.31	18.63	19.95	21.27	22.59
7.0	18.09	19.45	20.81	22.17	23.53
7.2	18.85	20.25	21.65	23.05	24.45

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