Minding Ag's Business

Minimize Your Burn Rate

When 200 farmers and ranchers under 35 gathered in Omaha for a Farm Credit Services of America conference in late July, someone asked how long the grain industry downturn would last. After all, most Millennials born between 1980 and 1995 had never experienced back-to-back years of farm losses.

"It's not a downturn, it's a reset," quipped Virginia Tech economist emeritus Dave Kohl. "It's 2006-2012 that was the aberration."

The "reset" will be survivable--even for many of these young and low equity beginners--provided they assess their financial situations early and are willing to make proactive adjustments, Kohl advised. Sharp cuts in cash rents and living expenses are top on his hit list. As a recent University of Illinois farmdoc article reported, typical Illinois producers may have to trim $100/acre from their budgets in 2016 just to break even, and perhaps only half of that can come from cash rent at best.

Kohl urged the "kids" to discipline their spending by keeping farm expenses separate from their household accounts and writing themselves a check each month as their maximum draw. The days of $90,000 for family living might have to be put on hold.

DON'T PANIC

There's no 1980s debt crisis with collapsing land values ahead--just a drift downward like a slow air leak from a balloon, he added. But there are certain to be some casualties from what Kohl calls "alpha" farmers who expanded too fast, misallocated their capital or who swelled their cost of production during the glory years.

What kinds of losses should farmers be prepared to swallow?

When FCS America stress tested its own loan portfolio recently, it calculated what three years of $3.50 corn would do to their five-state customer base of nearly 60,000 borrowers. On average, the typical corn-soybean grower would lose about $350/acre in working capital over the entire period, said Bill Davis, FCS America's Senior Vice President and Chief Credit Officer.

"If they can stay within that, the vast majority will have capacity to weather this cycle," Davis added. Operators who own land have the largest cushion to absorb that kind of burn rate, since they can dip into their real estate equity.

"Someone who owns Iowa or Nebraska farmland worth $5,000 to $7,000 an acre and owes on only 50% can add $350 to their debt load. Over the long term, that's very manageable," said Davis.

Davis thinks the scale of cuts needed to get cost of production back in line for 2016 can't all come from cash rent adjustments alone. Reducing land costs by $50 to $75/acre just reduces the cost of production on corn by about 25 cents/bu., he figures. Fertilizer and seed costs aren't coming down much yet, and growers can't scrimp on items that affect yield. Reamortizing real estate debt may be an additional relief valve if inputs and rents don't adjust fast enough.

"There may be more room to move the needle that way," he said.

Fortunately, for the next two years, there's good outlook for the farm program's ARC-County payments up to $50/acre for some Iowa and Nebraska counties, which will soften some of the blow, Davis added. Also many producers in the western Corn Belt are eying record yields, so they should fare better financially than those in the Eastern Corn Belt, or the swath from Kansas through Missouri and southern Illinois.

"Bottom line is we've been lending as if repayment capacity would be at $4 corn and $10 beans for the last 4-5 years, and capped real estate land loans to support that," said Davis. "But the reality is we need to prepare for a cycle closer to three years of corn at $3.50."

The scenario isn't all gloom and doom, however. Many farm operators are financially secure and operated conservatively through the last cycle. "A big part of people in the bell curve of agriculture are in a position to pick up assets that others are shedding," Davis said. "You need risk capacity and dry powder to do it, but many possess that."

To view the University of Illinois farmdoc article, go to http://farmdocdaily.illinois.edu/…

For alerts on DTN farm business coverage, follow me on Twitter@MarciaZTaylor

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