Assess cash-rented acres to improve financial health
Erratic breathing. Rapid heartbeat. Sweaty palms. These are all symptoms farmers face today because of an important but painful decision to give up farmland in exchange for better financial health.
The consequences are especially noticeable among top operators, many of whom scale their businesses by acquiring cash-rented acres. Farmers and experts say while the move shouldn’t be made lightly and requires a fair amount of planning and negotiation, it can improve cash flow and put the focus less on negative commodity prices and more on improving crop yields.
“We’re entering a phase now where productivity is king,” says Chris Barron, a Rowley, Iowa, farmer and founder of the consulting firm AgView Solutions, as well as a Top Producer columnist. Producers must assess the actual production quality of each parcel of land in their portfolio to determine whether rents, inputs and returns pencil out.
For former Top Producer of the Year finalist Dave Nelson, who farms in Fort Dodge, Iowa, that kind of critical thinking has resulted in giving up about 800 acres over the past seven years. He uses several factors to review each of his farms before making the decision to leave land: marginal ground, fertility, drainage, land located too many miles away from the home operation and cash rents that are too high relative to farm productivity.
“Many times your mind wants to jump right to the cash rent number to evaluate if the farm is profitable or not,” Nelson explains. “It’s surprising how many times the cash rent number is not the leading factor in the profitability index. This formula has not only helped us walk away from rented acres but has also been a key factor when we consider adding new acres to our operation.”
For top operators serious about maximizing precious financial resources tied to farmland, the first step is to fully assess the benefits and drawback of each slice of real estate.
Three-Part Review. One of the best places to start is to break down farmed land into three different buckets, Barron says. It’s fine to include owned land in the evaluation, though a majority of operations that own or are in the process of buying land on payments are unlikely to give up that property in the absence of major financial stress.
The purpose of the three-part breakdown is to rank farms by profitability. Assess the factors that will help or hurt crops in reaching full yield potential, including:
• Input requirements
• Average rainfall
• Soil moisture-holding capacity
• Fertility potential
Most farmers likely already know which land is best and which is worst, Barron says. At the same time, the real numbers are the clincher. “It’s somewhat surprising if you actually put the numbers together and look at, side by side, how much was the yield, how much did I spend in dollars per acre growing that crop and what’s the margin,” he says.
Don’t get sidetracked by listing the price at which grain is marketed for each tract. “Concern No. 1 is to keep the marketing consistent to compare apples to apples,” Barron explains. “You might have pulled grain earlier and got a better price [in one location], but you need to measure only the variables that are really truly different from one farm to the next.”
For example, a farmer with land near an ethanol plant has a clear competitive advantage relative to a parcel 60 miles down the road.
Other factors include the cost to transport grain and equipment from one location to another. Barron has seen some operations with logistical costs as high as $22 to $26 per acre simply to get to and from a farm.
“If they’ve got a farm available right next to them, that differential might be the difference between profit and loss,” Barron says. In cases like that, it might make sense for a farm to give up the distant site and rent out a closer one instead.
Land most suitable for the cutting-room floor is in the bottom third of profitability, is difficult to farm from an agronomic standpoint, is owned by landlords who are difficult to work with and experiences swings in productivity from one year to the next, Barron says. Give each piece of land a five-year forecast based on the price received per bushel, not actual production history (APH) or other figures that might be incomplete.
Rental Dilemma. More farmers are looking hard at cash rents, says Mykel Taylor, ag economist at Kansas State University. Yet she cautions against a rush to offload cash-rented land. First, many contracts run from three to five years, and it’s possible farmers could face legal consequences for simply walking away. Second, economies of scale require large operations to spread costs over a large land base, meaning adjustments to acreage can ripple through a business.
“Farmers make machinery decisions and labor decisions and financing decisions with regard to operating loans on the number of acres they own and rent,” Taylor says. “When they lose acres, that can really change the bottom line as to how profitable they can be.”
One alternative is for farmers to return to the negotiating table with landlords. “If there’s just a lot of uncertainty about where prices are going, being willing to revisit those rental rates, maybe even on an annual basis, is not a bad idea,” Taylor says. “You could sign a three-year lease but with wording to say you can go back every year and evaluate the market, planting conditions and your situation.” As for owned land, most auctions today are driven by retiring producers and farm operations and investors who seek grow their businesses.
“We’re not seeing a lot of situations right now where farmers are financially strapped,” says R.D. Schrader, president, Schrader Auction of Columbia City, Ind.
Be Transparent. Use the economic environment to emphasize transparency in business, Taylor advises.
“The better relationship you have with your landowner, the more amendable they are to those difficult conversations,” Taylor says.
In most cases, Iowa farmer Nelson won’t walk away from land until it has been unprofitable for a period
of several years.
“More times than not, the landowner wants to improve their farm, which in return helps move that farm up on our profitability index,” he points out.
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