Opportunities for US Row Crop Farms to Enhance Economic Sustainability
A perfect storm drove commodity prices to multi-year highs and created opportunities for US grain & oilseed producers to lock in profitable margins, potentially for two to three years.
An opportunity has arisen for US grain farm business to increase financial sustainability long term and to build a financial cushion, which can be used to adopt new technologies, improve operational efficiencies, and make other investments to execute strategic plans for the business to increase long-term success.
High commodities prices portend higher input costs, which will challenge profitability as early as 2022.
Resurging Profitability After Seven Challenging Seasons
After suffering through seven years of unprofitability, US producers welcome the current resurgence in grain & oilseed profitability. Both supply and demand issues created a perfect storm for higher global commodity prices. On the supply side, the US Corn Belt was hammered by a derecho storm across the region and drought in the west, while weather issues hit South America and the Black Sea region. On the demand side, strong Chinese buying in all commodities during the second half of 2020 propelled the rally as corn, wheat, and soybean stocks globally were drawn down. As discussed in our 2021 G&O baseline report, over the next two to three years, the US farmer should be able to lock in profitable margins, but markets can move fast.
High Commodity Prices Also Bring Challenges to Farmers’ Long-Term Financial Health
The surge in grain & oilseed prices occurred at a point in the 2021 planting cycle when the majority of production costs for 2021/22 were already set, thus providing profitable margins for the coming year. However, inputs costs have a history of escalating with increasing commodity prices thereby capturing more of farmers’ profit margins. Conversely, sticky inputs costs don’t decline at the same rate as commodity prices Therefore, the squeeze on margins from lower commodity prices is exacerbated (see Figure 1).
Overall input prices will continue to be a function of commodity prices, yields, and ultimately per acre revenue. Purchasing new equipment, a new farm, or new farmland leases adds both costs to the operation and potentially new debt to be serviced. Farmland values and cash rents are quickly approaching 2012-2014 values, fueled by high commodity prices and low interest rates. The full impact of cash rents will not be realized immediately, as many farmland leasing agreements are multi-year. Fertilizer (NPK) costs broadly track commodity prices as producers adjust application rates to increase potential yield and revenue.
Strategies for Long-Term Economic Sustainability
The ultimate goal for farmers remains the same: be the low-cost producer. There are many avenues to that goal, and each operation must tailor their investments to bolster their strengths and minimize their weaknesses. Expenditures must be strategic to optimize the efficiency of the farming operation without adding excessive debt. The cost-cutting and cost-containment lessons of the past several years cannot be forgotten. The resurgence in commodity prices provides opportunities to ensure farm liquidity, to do and execute strategic business reviews, and to adopt and adapt.
Ensure Farm Liquidity
Positive working capital is a sign of a healthy business. The market has handed farm businesses the opportunity to repair their working capital after seven years of depleting it. The higher the ratio (above 1) of current assets to current liabilities, the more the operation is able to pay short-term liabilities and debt commitments and fund day-to-day operations rather than take on debt to run/grow the business. A negative working capital or a current ratio of less than one is considered a business at risk by creditors. While our ten-year baseline outlook calls for a positive environment for producers over the next two to three years, rebuilding or adding to current working capital is paramount to making other investments. Farm financials turned quickly positive and could just as quickly turn the other way due to bumper crops or geopolitical conflicts.
Adopt and Adapt Aligning Technologies
Investment in new technologies is daunting and expensive. The challenge is finding proven, cost-reducing, adaptable farm technologies that fit the farm business. In other words, does the new technology communicate with or augment the technology already deployed on farm? These investments can range from new seed technologies, precision ag machinery, or financial technology. Technology investments must make the farming business operationally more efficient, again with the goal of becoming the low-cost producer.
A Strategic View of Farming Business
With expectations of positive margins, cash flows, and working capital, this may be the time to look at the farming business through a strategic lens and to evaluate:
– Needed succession plans for the business
– New revenue opportunities – a new business, new crops (e.g. organic, non-GMO, peas, high-protein wheat)
– Land improvement investments to increase productivity – cover crops, tile, soil conservation structures, etc.
– Investments to enhance strengths and lessen the impact of weaknesses on financial performance and business resources (e.g. if you are not good at marketing, find someone who is).
After seven years of depressed commodity prices, the market opportunity creates financial breathing room for farms. It is imperative producers use this market rally to lock in profitable margins for this year and future years, which includes both the revenue side and the cost side. These prices will encourage production, resulting sooner or later in surpluses and lower prices. The current market is the time to prepare for that downtrend and put in place the pieces to sustain the business long term.