Question

The COFD (Cost of farm debt) will always be smaller when done on a market basis than on a cost basis? Why or why not?

What can a farm do to increase ROFE? Explain.

ROFE > ROFA > COFD. Is this a positive or negative use of leverage? Explain

Why does a firm need liquidity?

Can a firm be liquid and not solvent? Or vice versa? Explain

Answer 1

1. The COFD (Cost of farm debt) will always be smaller when done on a market basis than on a cost basis? Why or why not?

The COFD (Cost of farm debt) will always be smaller when done on a market basis than on a cost basis. False

The COFD (Cost of farm debt) will not always be smaller when done on a market basis than on a cost basis. In most case, market value is higher than historical cost. Thus cost calculated on the basis of market value may not be always smaller compared to cost calculated on a historical cost.

2. What can a farm do to increase ROFE? Explain.

Farm equity implies the practice of investing in land, farm equipments through the use of own capital with/with out substantial debt. In such situations, Return on farm equity tends to be on lower side due to absence modernization practices. This is mainly due to limitations on increasing equity base. Increasing the farm equity needs certain initiatives to be taken as under:

1) Modernization of farm equipments, techniques and process.

2) Replacing the labor insentive techniques to capital insentive techniques.

3) Use of debt capital to finance the modernization process.

4) loping a combination of product portfolios, by observing the demand trends and adjusting the supply accordingDevely. In the periods of good crop, farms earn low returns due to absence of reasonable price due to heavy supply.

5) Achieving the cost based productivity to increase the profitability.

6)Decreasing the fragmentation of farming by pooling of lands through schemes framed in this direction.

7) Entering into forward contracts to hedge the price volatility to certain extent.

8) Developing or shortening of channels of distribution to increase the margins to farms through the use of information technology ( including apps, B2B e-commerce ect).

ROFE > ROFA > COFD. Is this a positive or negative use of leverage?

Positive Leverage. If return on equity is higher than return on assets, leverage is positive. On contrary, if return on equity is less than return on assets, leverage has a negative impact and in such situation, a farm would have been better off not borrowing the money. Leverage increases both variability in downside risk and returns.

Why does a firm need liquidity

Answer) I. to meet compensating balance requirements

II. to take advantage of an opportunity that suddenly arises

III. to conduct daily business activities

IV. to be prepared for a financial emergency

Can a firm be liquid and not solvent? Or vice versa? Explain.

First of all know about liquid and solvent with reference to a firm;

A firm is known as liquid if it has sufficient cash to cover its’ day to day expenses or we can say that if a firm have sufficient working capital to cover its’ current obligations then firm can be said liquid.

A firm is known as solvent if it has sufficient long-term assets to repay its’ long-term liabilities or we can say that if a firm have sufficient funds to repay its’ long-term obligations then firm can be said solvent.

Now come to main question; can a firm be liquid and not solvent?

Yes it is possible because a firm can have sufficient cash to cover its’ current obligations or to cover its’ day to day expenses but can not be in position to repay its’ long-term obligations. Hence this is true that a firm be liquid and not solvent.

Now see the opposite condition, can a firm be solvent and not liquid?

Yes, it is also possible because a firm can have sufficient long-term assets to cover its’ long-term obligations or to repay its’ long-term liabilities but can not be in position to repay its’ short-term obligations or we can say that firm is facing problems of shortage of cash to cover its’ day to day expenses. Hence this is true that a firm be solvent and not liquid.