September Agribusiness Update newsletter

Published on: 10:52AM Sep 03, 2009

Farmland Values
According to USDA, "Farm real estate values, a measurement of the value of all land and buildings on farms, averaged $2,100 per acre on January 1, 2009, down 3.2 percent from 2008. The 3.2 percent decrease from 2008 is the first decline in farm real estate value since 1987." That was certainly a long bull run through some turbulent economic waters over the last 22 years, and a relatively benign drop given the substantial gains over that period on production agriculture's primary input. Furthermore, as Rex Schrader, president of Schrader Real Estate and Auction Co., Inc., told the LandOwner newsletter (Aug. 27, 2009): "That small decrease is difficult to measure precisely and certainly varies from one community to another...Who can really know within 5% or less? The fact is top-quality farmland has remained relatively stable during these turbulent economic times. However, the poorer-quality farmland in some areas is off a good 10%."

Farm Income
While farm income is not the only driver of farmland values (as shown by the last 22-year bull run), it is certainly key, especially in the longer term. So it is noteworthy that USDA's latest net farm income projection for 2009 dropped 38% to $54 billion, $9 billion under the 10-year average. Grain end users such as dairy operators and ethanol plants have already had some economic challenges, but with cash corn at $2.82 in Pratt County, Kan., today, crop farmers are starting to experience some difficulty as well, which has resulted in the lowered projection. It is noteworthy that the last time both crop and livestock projections suffered equally in the projection was back in 1998, over a decade ago. In addition to viewing the land value chart itself, it is interesting to think about land value P/Es, or price to earnings ratios. Historically, they have run from 16-25 over time, which translates to a 4%-6% return to market value. Given the lowered net farm income projections, they are currently climbing fast. At USDA's 1/1/09 national average of $2,100/acre, a 5% return (rent) would be $105/acre, at a P/E of 20. A 38% drop in the rent component to hypothetically match the drop in USDA's income projection would bring the rent down to $65/acre. That would be a 3.1% return for a P/E of 32.3, which is getting top-heavy according to historical norms, even pre-1980s. That represents a short-term yellow caution flag for land investors, of which none should be short-termers anyway, so perhaps is not worthy of further comment today. However, just as the stock market reverts in time to the track of corporate earnings along the path of historical P/E ratios, it will be tough for farmland values to maintain their current levels with dropping net farm income.
Strategic Planning
In light of the challenges facing both crop and livestock operators, a longer-term view and planning strategically is more important than ever. I am going to share a section of our September Feedyard Insights newsletter, which is a newsletter we provide our clients and some others in the cattle feeding industry, on this subject:

The key to relevancy is ultimately competitive advantage. Especially in a tough market environment, in what ways do we compete more effectively than the competition? Therein lies the answer to our strategic questions -- to maximize our competitive advantage(s) and manage around our strategic weaknesses. This might even lead us to Jack Welch's conclusion while at GE: "If you don't have a competitive advantage, don't compete."

Strategy is most closely aligned with the balance sheet, because the balance sheet reveals the investment into business assets that we've made, and what combination of equity and debt we have used to finance those assets. Both forms of capital obviously have a cost, and they have to be structured with appropriate working capital to allow us enough liquidity to manage through our investment timeframes. Attempting to operate while leveraged too highly or with working capital reserves that are too thin expose a business as being "too big for its britches" when a downturn occurs. So the structure of the balance sheet is extremely important to strategy. As business strategy works itself out in operations, the results flow to the income statement, which essentially serves as a measurement of our strategic success. Accounting systems, reports and analysis therefore are a vital part of strategic planning. One last aspect of strategic planning is that it represents more of an evolving continuum for an ongoing business than a moment in time, or even a retreat. If we are in business, we should align our daily operations of the business with our planned strategy. This requires careful followthrough and continuity with our strategic planning.

"Agriculture is our wisest pursuit, because it will in the end contribute most to real wealth, good morals, and happiness."
- Letter from Thomas Jefferson to George Washington (1787)

Written/edited by Greg Wolf, Agriculture Group, Kennedy and Coe, LLC 

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