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Free Money Can Be Very Expensive

Credit to Dave Pratt, March 9, 2016

An Executive Link™ member brought a map of his ranch to his EL board meeting to show his board the layout of the grazing cell he planned to build. He enthusiastically explained that the cell would help him keep graze periods short while ensuring pastures got the rest they needed. It would increase stock density and improve utilization. Under the current management there were areas his herd (400 cows) never grazed. He said that once the cell was built he’d immediately increase the stocking rate by 20% (80 more cows).

He projected that the cost of the fence and water development would be $30,000. He explained that he was going to put the project on hold for a year because there was a good chance that next year he could get money through the EQUIP program to cover at least half of the cost.

The economic summary he prepared for the meeting showed that the gross margin on his cow/calf enterprise was roughly $600/cow. That means that running 80 more cows would improve his total gross margin by $48,000. ($600/cow x 80 cows = $48,000). At the Ranching For Profit School™ we recommend that participants demand a 100% return from capital investment the year they make that investment. This project clearly passed muster. But the board questioned whether it made sense to delay building the cell a year in an attempt to get free money.

A little more math showed that, if his projections were right, rather than saving $15,000, waiting a year to get the “free money” would cost him $33,000. Here’s the math:

If he builds the project with his own money:
$48,000 (GM year 1) – $30,000 capital expense + $48,000 (GM year 2) = $66,000 (GM after 2 years)

If he waits a year to build the project:
$0 (GM year 1) + $48,000 (GM year 2) – $15,000 capital expense = $33,000 (GM after 2 years)

It gets even better (or worse if you wait). Within a few years he thought that he’d be able to run another 120 cows. That will increase the total gross margin by another $72,000. Delaying the project for a year would mean delaying this result as well. That makes the real cost of waiting for the free money $105,000.

One board member questioned whether the assumptions about increasing the stocking rate were too optimistic. But when we cut the increase in half, waiting for that “free money” was still a costly decision.

The EL member who’d planned to apply for funding through the EQUIP program reacted to these projections with a mix of shock, relief and excitement. He wasn’t entirely comfortable taking the EQUIP money in the first place. He wasn’t a fan of government programs, and it felt hypocritical to complain about government spending while holding his hand out for free money.

Personally I have mixed feelings about most government programs for ranchers. I can see a case for tax payers subsidizing fencing and water development to improve range health. The public receives value from the enhanced ecosystem services that can result from improved infrastructure, and an argument can be made for the public paying for the benefits they receive. However, I’ve seen some EQUIP funded projects for fencing and water development that opened up new areas of range that were then set stocked and overgrazed. Rather than improve ecosystem services, they resulted in accelerated run-off and erosion.

Then there are programs that incentivize ranchers to do exactly the wrong thing. The classic example is the emergency feed program, which incentivizes ranchers to overstock their ranches in drought. This free money comes with an exorbitant price tag that can include increased erosion, degraded water quality and significant long term decreases in carrying capacity.

This column is not about the wisdom of government programs. It is about the wisdom of letting free money from government programs dictate your management decisions. Free money is only free if it is available to do something you planned to do, the way you planned to do it, when you planned to do it. When it causes you to shift priorities, re-engineer a project to higher specs or delay its implementation, free money usually becomes very expensive.

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