Hold off the dreams and beef up that balance sheet

Perhaps it’s time for us all to back off a bit on our dreams and strengthen our balance sheet. If we look over the last year and the next 10 years ahead of us I would suggest this is done sooner than later.

Did you know that the average pre-tax income for individuals last year was $51,375? For New Zealand households it was $104,583.

How much did the average household pay last year in mortgage interest? The answer is $13,208. If we use an average house mortgage rate of about 4.8 per cent that would suggest the average mortgage is about $275,166.

About 18.3 per cent of households - almost one in five are spending 40 per cent of their disposal income after tax on mortgage interest or rent. This figure is too high when interest rates and inflation are historically so low.

What is the single biggest risk for New Zealand agriculture apart from Mr Trump and Mr North Korea? Almost certainly a major biological breakthrough at our border. Over the last five years there have been several outbreaks and we have managed to cope with them. However, we must never argue with the amount of the border biological budget - this is much more important than the government budget.

If land value inflation in New Zealand is going to fall back to just a normal overall inflation figure of perhaps 2 per cent, then generating more from the farm business somehow is going to get more important.

Let’s say that a real return of 6

The New Zealand economy is heading towards a cooling mode and we need to plan accordingly.

per cent on your net farm capital employed is the minimum acceptable aim - provided by 2 per cent from inflation and 4 per cent from farm profits.

Maybe being self-employed and being your own boss is worth 1 per cent although this would disappear quickly during droughts, low payouts, seven day weeks, labour issues and losses.

Australian banks control close to 90 per cent of our farm debt - if they wanted a financial stress test for New Zealand dairy clients, they would probably want to use a term loan interest rate of perhaps 6.75-7 per cent, a milksolids payout including any dividend of about $6-$6.20/kg and a bank term loan capable of being 100 per cent repaid within maybe 25 years.

We would not enjoy the suggested interest rate, but it is below those of 10 years ago and the payout would be workable for some farmers depending on their interest rates.

The suggested 25-year bank loan term would be a long way from workable as it would represent a 4 per cent mortgage principal repayment after tax each year.

Even 35 years would look unworkable for 90 per cent of farmers.

Anything is possible in good years, but agriculture is only good seven years out of 10 at best. My guess is these stress tests would take place across a wide range of businesses and not just farming. Farming is vulnerable because of its often low profits and high relative debt.

The core issues in farming tend to be price, cost and yield.

Many farming couples are right on top of yields, costs are also an area that involves never ending focus and the weak point of the triangle is price.

❚ Pita Alexander is an accountancy and agribusiness director at Alexanders.