Agriculture Reference
In-Depth Information
There are two general types of cost that you need to consider when mak-
ing an enterprise budget: “fixed costs” and “variable costs.” These concepts
may sound difficult but are actually very simple. To help you understand
them, let's look at how they apply to owning a car. Say, for example, that you
purchased a car last year and agreed to pay for it over a period of 2 years.
That means that every month you are going to have to make a payment to
the bank. The law requires that you also have to keep the vehicle licensed
and insured, so you have to pay registration fees and insurance premiums.
These costs are “fixed.” You pay them whether you use the car or not, and
you legally do not have the right not to pay these costs and still keep the
car available for your use. On the other hand, you do have control over some
costs. You decide whether or not to purchase gas and oil, have a faulty brake
repaired, or have the car washed. Because these costs vary, according to your
use of the car, they are called “variable.”
The same terms and concepts apply to farming. Fixed costs include things
like mortgage and other loan payments to the bank, insurance, property
taxes, and depreciation of equipment and buildings. Whether you actually
farm or not, these costs are not going to change. Variable costs include such
things as fertilizer or seed, labor to plant or harvest a crop, and equipment
repair. These expenses only occur when you farm, and you control how much
they are going to be.
One kind of fixed cost that is a little more difficult to understand is “de-
preciation.” This term simply refers to the way in which things lose value
over time. Say, for example, that you purchase a tractor for $20,000 and you
expect it to last for 20 years. Because it will be used in your orchard for many
years, it is not reasonable to count the entire $20,000 against your busi-
ness the year that you buy the tractor. Instead, you might elect to include a
fixed cost of $1,000 in your enterprise budget for each of the next 20 years,
thereby accounting for the $20,000. There are different ways of calculating
depreciation. In general, the goal is to have an estimate at any given time
of the worth or value of an item. In the tractor example, you might expect a
rather large decrease in value (for example, what you could expect to sell it
