Machinery sharing by agribusiness firms: methodology, application, and simulation

Abstract

Machinery investments represent a substantial portion of agribusiness firms’ costs. Because of high machinery costs, variable profit margins, and increasing competition, agribusiness managers continually seek methods to maintain profitability and manage risk. One relatively new method is jointly owning and sharing machinery. Contract design issues to enhance horizontal linkages between firms through machinery sharing are addressed. Specifically, costs and depreciation sharing between two firms entering into a joint machinery ownership contract are examined. Two, two-player models, a Nash equilibrium game theoretical model and an applied two-farm simulation model are used to determine impacts of machinery sharing on firms engaged in machinery sharing. The Nash equilibrium model determines theoretical optimal sharing rules for two generic firms. Using the Nash equilibrium model as the basis, the two-farm simulation model provides more specific insights into joint harvest machinery sharing. Both models include contractual components that are uniquely associated with machinery sharing. Contractual components include penalty payment structure for untimely machinery delivery and the percentages of shared costs paid and depreciation claimed paid by each firm. Harvesting windows for each farm and yield reductions associated with untimely machinery delivery are accounted for within the models. Machinery sharing can increase the NPV of after tax cash flows and potentially reduce risk. Sharing will, however, not occur if own marginal transaction costs and/or marginal penalty costs associated with untimely machinery delivery are too large. Further, if the marginal costs of sharing are small relative to own marginal net benefits, sharing will not occur. There are potential tradeoffs between the percentage of shared costs paid and the percentage of shared depreciation claimed depending on each farms’ specific tax deductions. Harvesting window overlaps help determine the viability of machinery sharing. Farms may be better off sharing larger, more efficient machinery than using smaller machinery even when harvest must be delayed. Percentages of shared costs, depreciation, and tax deductions have important tax implications that impact the after tax cash flows and should be considered when negotiating machinery sharing contracts.