A keynote speaker at a recent Risk Management Conference explored the question “What does the average tell us?” The speaker presented opposing findings from two very well respected researchers. One researcher essentially made the point that based on farm lending data, the agriculture industry is doing fairly well. Debt-to-asset ratios and other indicators are below or near long-term averages indicating the agriculture industry is doing well. Another researcher pointed out a recent rise in defaults and other financial ratios indicates that agriculture is entering a crisis. Is it possible that both are correct? Or is one of these researchers wrong? His response was let’s take a closer look at the data, the conclusions and the different types of agricultural operations that comprise the data.
Agricultural operations in Montana are quite diverse in several important aspects. Here is a short list of some of the differences:
- Crops vs. Livestock
- Size of Operation
- Type of Livestock: Cattle, Sheep, Horses, Goats
- Type of Crops: Wheat, Pulses, Sugar Beets, Barley, Oilseeds, Hay
- Irrigated vs. Non-Irrigated
- Off-Farm Income, Equity in the Operation, Land Tenure, etc.
Because of these differences, examining the average may not be the best way to summarize the industry. It is possible cattle producers are doing well while wheat producers are struggling or maybe they are both facing challenges due a common factor (drought for example) that impacts them both. Some agricultural producers have several income sources (including off-farm income) while for others their agriculture income is their only income source.
This example might highlight how the average may mislead us at times. Let’s assume that we have four ranchers that produce 25 calves each year and they each have a job in town which pays $40,000 annually. Let’s also assume we have one rancher that produces 300 calves each year but does not work off the ranch. We’ll also make the assumption that all the calves sell for $1,000 and each ranch has $800 of costs to produce each calf. Total income for our part time ranchers is $45,000 ($40,000 wages and $5,000 calves) and our full time rancher has income of $60,000. The average ranch income is this example is $16,000 which doesn’t represent either type of operation very well. Let’s change our example and to reflect that calf prices fall to $850. Total income has fallen by 75% to $15,000 for our full time rancher and by 8% for part time ranchers. Average income has fallen by 25%. Neither of these averages tell us anything very useful about the situation of the individual ranches.
Does this mean we should ignore data on averages? Not necessarily. The real message from this exercise is that we should be careful consumers of information. Do we understand the data, the nature of the industry and the conclusions that are being presented? Does the data support the conclusion? If not we should be dig a little deeper and further our understanding of the issues.
