Destination Unknown

Land Prices at a Crossroads

Victoria G Myers
By  Victoria G. Myers , Progressive Farmer Senior Editor
The agricultural land map is getting harder to read as buyers find both challenge and opportunity ahead. (DTN/Progressive Farmer photo by Scott Baxter)

As Matt Palmer looks around Arizona's Gila Valley, he sees it through the eyes of family and farming. Others see the mountain-ringed river basin as a picturesque area ripe for development. Two very different perceptions, they create competition for acres and make it more challenging by the year for farmers here to buy or rent land they need to maintain their operations.

Despite the challenges, this sixth-generation cotton farmer notes they've been lucky. VIP Farms, based in Thatcher and named for Matthew's grandfather, Verle I. Palmer, was able to buy some crop ground last year. The owner had hoped for investor interest, but when that didn't happen, the land came back up for sale. It was a rare opportunity for Palmer to add acres to his operation.

OFF THE PEAK

"In this area, land is going for $2,000 to $10,000 per acre right now. There was a time, though, when owners were asking up to $20,000 an acre. We saw that trend down as less investor money came into the market," he explains.

The land least likely to draw the interest of developers is close to the Gila River. Palmer explains these areas are prone to flooding, making them too risky for anything other than agriculture.

The Gila Valley is a tight-knit farming region consisting of some 30,000 acres. Elevation is about 3,000 feet, making it "on the bubble" as far as cotton production is concerned. Despite that, the Palmers grow both Pima and upland varieties, averaging 2.5 bales on the Pima and 3.5 bales on the upland. The farm encompasses about 4,800 acres of leased and owned ground. While the major crop is cotton, they also produce some Durum wheat.

WATER NEEDS

With no dryland production, water availability and conservation are constant priorities. Most producers use surface water from the Gila River to furrow irrigate. Wells are also available. Some years, flooding is more the issue than a lack of moisture.

"Our area is unique in that we don't pay for the water, we pay for the delivery," Palmer explains.

The little-known valley is far from immune to many of agriculture's challenges and trends. There are fewer, but larger, family farms here than in the past. When land comes up for sale, it's often neighbor bidding against neighbor. Investors and developers have affected the market, as well as rental rates. And the ability to cash-flow farmland is a constant consideration.

Palmer says the sense of community in this valley has led to some unspoken rules when it comes to buying or selling farmland.

"It's true, everybody knows everybody. So, it's often common courtesy here that if production farming land comes up for sale, the producer who has been farming it will try to buy it if he can," Palmer notes. "If he can't, then others will come in and try to make something work. Most have the decency to say, 'This guy farming this land, he gets first shot. If his financials don't work, someone else can come in and buy it.'"

THE LARGER VIEW

Farm operators' financials and commodity prices will be the driving forces behind agricultural land market fundamentals going forward. For some, that will spell opportunity, for others, loss.

Late winter and early spring will be pivotal times for land prices, believes R.D. Schrader, a land market veteran and president of Schrader Real Estate and Auction Co., based in Columbia City, Indiana. He expects low commodity prices and their impact on incomes could result in more need to sell land going into 2017. That would occur as farmers meet with their lenders to review financials post-harvest.

Producers in the best position, he adds, will be those who own more of the land they farm. He describes a situation with two opposite ends of a spectrum: at one end, operators who are highly leveraged; at the other, those who are still sitting on considerable cash (Schrader calls them "the savers").

"This is a natural declination off the peak relative to the farm economy, which is relative to land values. It is a natural correction," he says. "If incomes are down, it's healthy for land values to come down."

This does not mean, however, that land is no longer a good investment. For the long-term investor with cash, it may be quite the opposite.

"Historically, land has shown a lot of double-digit appreciation and strong returns," Schrader explains. "I'm not here to say we'll see double-digit appreciation over the next few years, but I do believe land will be a safe investment compared to other vehicles. For the most part, land buyers think long term. They know land prices will go up and down, as will incomes based on [prices for] commodities."

As land prices trend down, Schrader adds poor land is off more on a percentage basis than better-quality land.

"You may have some really good pieces of land that bring what they did three years ago. There is still cash in this market looking for the right piece of property. But, in general, as commodity prices fall and incomes are squeezed, that cash gets more selective."

THE CASH-FLOW QUESTION

Craig Dobbins, agricultural economist at Purdue University, is a voice of calm in an economic storm of worry and low commodity prices. He insists land prices aren't going to fall off any cliff. They will, however, continue to move lower at a fairly predictable pace.

"Land prices are a function of, or are influenced by, the farm economy. They are moving down because of what is happening in the farm economy. I fully expect that to continue. My suspicion is they are going to be down [next year] by about the same percentage they were last year. So, another adjustment is likely coming."

Dobbins is concerned about operating funds, adding that after two years of tight margins (in some cases negative margins), some farmers have used up their liquidity. Lenders are going to be working this winter and spring to be sure they aren't making loans that won't be repaid.

"That is certainly going to have some effect on the availability of production loans, and this isn't at all unusual," he adds. "Some people will have difficulty getting financed next year without making adjustments."

That does not, in his opinion, mean a lot of land will be coming onto the market. Dobbins doesn't think producers are to the point of forced liquidations.

"One of the characteristics of the farmland market is that when values start to soften, people actually decide to hold. There is no reason to sell into a down market in most cases," he says.

Any financial dangers on the road ahead will hit producers who are paying high cash rent first. They will be in the most precarious position as the market transitions.

"For those producers, it may be that bad," Dobbins says. "Can you afford to subsidize high cash rents with equity from the land you own? If you've been doing that the past two years, and you're going into the third, it can't go on forever.

"That won't necessarily mean more land will hit the market or that values will be pushed significantly lower. It will mean landowners will be forced to reevaluate their positions and recognize the reality of the market."

ON THE EDGE

Depending on where a producer farms, Sterling Liddell believes some may already be "right at the edge of liquidity." The Rabobank vice president of the Food and Agribusiness Research Advisory Group, Missouri, says much of the liquidity has already been burnt out of ag producers' economics, and farmers don't have the working capital they will need to go into 2017. He insists the key to rolling the dice on one more year will be cash rent rates.

"If we don't see a reduction in rental values, then we are going to have to finance more of those rents with any equity remaining on the farm. If producers do that, and they still don't make money, farmers become insolvent, and they can't raise money from cash-flow or from borrowing. Then, we see significant challenges, such as defaults on loans, the inability to cover cost of debt or interest. That will shake the land market."

This means 2017 will be a pivotal year to where land prices go and the overall financial health of many farmers. Liddell believes U.S. producers are close to a tipping point without a significant downward adjustment in both land values and rents.

Some producers during the past four to five years have grown their operations at an extremely rapid rate, adding rental ground and machinery in a declining grain market. Liddell says while economies of scale have a place, farmers have to ask themselves the hard questions.

"How do you gain economies of size when you aren't making a profit on the land you're farming? If you pay too much for rent to get bigger, but you aren't actually making a profit, you're just increasing your losses," he says. "It's extremely important farmers understand their financial positions, especially from an equity perspective."

Liddell says those with cash who buy land that is too expensive lose the cash. If they use equity, turning it from a balance-sheet value to a cash-flow value, that is also a risk.

"Right now, expansion is something I would be very careful about," he says. "You need a breakeven or a profit in those expanded acres. The case for higher commodity prices is getting harder to make. Without a significant decrease in yields, we carry over enough stocks to very much limit any improvement in price next year. This leaves us with $3.50 to $4 corn as the new normal."

CREDITORS IN CONTROL

Moving into 2017, the direction land prices take and the financial standing of the agricultural industry will, to a large extent, be in the hands of creditors.

"Those loaning money won't be able to offer financing for land that isn't showing a return, and that is where you start to see the real pullback as to which land is farmed," Liddell explains. "If land can't produce an acceptable level of income, an evaluation will be done at the credit level, and there will be a contraction of financing."

Liddell projects it will be 2019 before the agricultural land market stabilizes, and producers can anticipate profitability or at least a break-even point from their operations.

"That is the horizon we need to look at. How do you make it through to 2019?" he asks. "If you are in a position where you're out of cash and leveraging assets, and putting the health of your business on the line to make it through the next few years, you need to have a plan and focus on how to execute it.

"Start with the financial side, and look all the way through your marketing program," Liddell continues. "It all needs to be on the same page. If you do that, there is opportunity ahead in the land market. But, that's down the road, and you have to know where you're going to make it there. This is not a time when farming year to year is going to be a good strategy."

(VM/AG)

Victoria Myers