AN UPDATE FROM CATTLEFAX

AN UPDATE FROM CATTLEFAX

DEPRECIATION

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Depreciation is not an actual cash cost. However, it is still a cost that needs to be accounted for and measured. As with all goods, the value of that good declines as it accumulates wear and tear, becomes older, weathered, or used. Breeding stock is looked at in this regard. Cows and bulls have a useful life that can vary between breed, region, and production practices. Operations should account for this as it may not be a cash cost but it is a cost nonetheless which can affect an operation in the long run. To put it in other words, depreciation is the cost to replace the cowherd.

The Internal Revenue Service (IRS) allows an operation to depreciate purchased breeding livestock over a five-year period. Raised breeding livestock are expensed. However, for the purpose of this discussion we will look at depreciation in terms of the ranch’s records and business approach. Knowing that a large portion of operations raise their own replacements, we will assume that they were “sold” to the ranch at the cost incurred for raising that replacement animal. As

mentioned before, the way that an operation looks at depreciation and maintains the ranch’s records are different than how the IRS looks at depreciation (always follow tax laws). It is suggested to use the useful life of breeding stock for your own unique operation when calculating depreciation. The factors that affect the useful life of breeding stock include breed type, the terrain/region in which your operation is located, the age at which they entered the breeding herd (either purchased or raised), production practices, and genetics. The manager will be the best resource for determining the useful life of the breeding stock within a given operation. Records will also be a beneficial source to determine the typical age/number of calves in which a female remains productive within the operation. Also, keep in mind the breed back and calf crop percentages when determining a useful life as not all cows will breed back every year. The lower the breed back percentage of your operation, the shorter the average useful life of the breeding cowherd should be. This is especially important when raising replacements or purchasing

heifers that have not had their first calf yet. Remember to be honest with yourself when determining the useful life.

So, what does this mean to the operation? If depreciation isn’t a cash cost, what effect does it truly have? Well, just because it isn’t a cash cost doesn’t mean it is a cost that we can simply overlook. It is the cost of replacing that animal, piece of equipment, etc., which affects your bottom line. In other words, it is the cost of doing business and should, therefore, be accounted for. How do we calculate depreciation for the entire herd and apply a cost? The most accurate way is to calculate the different age groups of cattle and their purchase price and combine that with their remaining productive life. (Note: useful life will also help determine the number of replacements kept or bought each year in order to maintain steady cow herd numbers.) For this example, let’s say your useful life is determined to be nine years old or eight calves. You purchased a group of coming two-year-old heifers prior to having their first

MARKET INSIGHTS Age* Purchase Price Salvage Value Annual Depr. 2- Year Olds $1,450 $700 $94 3- Year Olds $1,650 $700 $119 4- Year Olds $1,600 $700 $113 5- Year Olds $1,400 $700 $88 6- Year Olds $2,100 $700 $175 7- Year Olds $2,350 $700 $206 8- Year Olds $1,525 $700 $103 9- Year Olds $1,275 $700 $72 10- Year Olds $1,200 $700 *Coming into that age, i.e 2-year old cows will be having their first calf Purchase Price minus Salvage Value Divided by Remaining Useful Life $1,450/head - $700/head ÷ 8 years = $94/head depreciation rate per year

(continued from page 13) calf for $1,450/head. We have estimated the salvage value to be approximately $700/head. The annual depreciation cost would be approximately $94/cow. (The calculations are above.)

assuming that no cows are added along the way. The remainder of the herd is made up of older cows that no longer count against the depreciation total.

So how do we go about doing this for the entire herd? Take the purchase price and years of production remaining at the time of purchase for all the age groups to determine the average depreciation of the entire cowherd, which allows for the most accurate depreciation cost. It would look similar to the accompanying diagram. This example assumes that all cattle were purchased in the fall before calving in the spring of the following year as two-year old heifers. It is worth noting that when the cow’s anticipated “useful life” is up does not mean that she must be culled. As long as she is producing at an efficient level, then she can be kept without a depreciation cost. This is shown in the example with the older cows, assuming all cows were purchased as coming two-year-olds or bred heifers. If you purchased cows later in life, then simply adjust their useful life relative to how many calves they have had prior. In order to find a total depreciation cost for the entire cowherd, a weighted average depreciation cost needs to be used. This depends on the attrition rate of the cowherd. Every herd will vary depending on the useful productive life that was discussed above. We will formulate a weighted average depreciation based off a typical herd breakdown,

Depreciation plays an important role for tax purposes. Depreciation also plays a role in the decision to buy or raise replacements heifers as only animals that are bought with the intention of entering the breeding herd can be depreciated. That may not be the main factor in the decision to buy or raise replacement heifers but it should, ultimately, play a role in the process. Replacement heifers can be bought from a different entity within the ranch as long as the entities are formed in a way that follows the tax guidelines. Understanding depreciation can lead to a greater understanding of your cattle business.

After the first of the year, CattleFax will once again be issuing a Cow-Calf Survey to producers across the country. Over the last several years, this survey provided valuable insight into operations both regionally and across the country, with valuable benchmark data available for further analyses. In order to encourage producers to fill out the survey and return it in a timely manner, we will once again be sharing the results with those who return a completed survey and valid email address. The CowCalf Survey meshes very well with maintaining and analyzing records for your own operation. Wishing everyone a happy, healthy 2020!