Cash Rent Calamity?

Land Lease Adjustments Likely to Lag Downturn in Commodity Prices

Despite lower grain prices, high yields in many regions likely mean landowners will hold the line on cash rent rates in 2015. (Progressive Farmer photo by Tom Gralish)

If there was a downturn in cash rents in 2014, Mike Pearson didn't really see it. Nor is the Iowa crop and hog producer expecting to see much of a change in 2015.

That's not to say adjustments won't be made in the future. "I think it is going to hinge upon prices for the remainder of the year and on the local demand for land," said Pearson, whose operation is based near Fort Dodge. "Nobody wants to make a change. As far as landlords are concerned, they don't want to take a step backward."

That's what a decrease in cash rent rates might feel like for landowners in 2015, even though crop prices have declined dramatically from the highs of 2012 and early 2013. However, from the tenant's perspective, high rents account for about half of U.S. soybean costs, almost equal to direct operating and other costs combined. For corn, land is more than a third of the total cost of production, according to data from Kelvin Leibold, Iowa State University Extension and Outreach farm-management specialist.

"This seems like a transition year," said Randy Luze, land manager, Peoples Company, in Cedar Falls, Iowa. "Some people think they can pay the same as last year for one more year. Many farmers presold 30 to 40% of their crop [before the price collapse]. When you average that in, and a possible revenue claim on crop insurance for drowned-out areas, they might be OK. But next year, it could be a different story."

LITTLE MOVEMENT

Early rent negotiations in Iowa, Illinois and Indiana seem to be resisting adjustments. Eye-popping rents were matched by eye-popping yields this fall.

"These are the best yields we've ever seen," notes Dale Aupperle, with Heartland Ag Group, in Forsyth, Ill. "With these yields and having sold ahead 60% of the corn crop, even if we sold the rest at $3.40 per bushel, we'll still make a profit."

Low commodity prices may drop farm income only 5 to 10% in Aupperle's area because farmers are going to make money in more bushels per acre. A slight drop in income isn't enough to pester a landowner for a lower rent, he said. Cash rents in Aupperle's region run $350 to $400 per acre for prime farmland planted to continuous corn.

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Greg Halich, University of Kentucky Extension specialist, anticipates cash rents in his area to come down in 2015 but not as much as economics might dictate.

SUPPLY AND DEMAND

"Farmers may lose money a couple of years to keep ground. They bought new machinery the last four to five years, so they have capacity to farm those acres. Plus, less ground is available," he said. "As long as farmers can cover variable costs and a little more, they will keep bidding up land rent."

Halich said with $4 corn and $10 soybeans, average yields and a potential Agricultural Risk Coverage (ARC) payment, total gross return (not including land rent) might be $210 to $220 per acre. While cash rents might figure into the $175 to $200 range based on those figures, he anticipates rents to be higher.

The story is similar around the country, as rents have adjusted down slightly or remained unchanged. According to an annual survey in Iowa, average cash rents declined 4% or about $10 per acre in 2014 to $260 per acre. The decline was the first in the survey since 1999.

In Illinois, the National Agricultural Statistics Service said the state's cash rent soared from an average of $132 per acre in 2006 to $223 in 2013 and $234 per acre in 2014. Since 2006, average cash rents in Illinois have increased 77%.

"There will be a need to adjust cash rents down for the 2015 production year," said Gary Schnitkey, University of Illinois Extension farm-management specialist. "Both 2014 and 2015 returns are projected well below the returns from 2009 through 2013 and below average cash rents."

NO CONSENSUS

Rabobank reports considerable debate on how quickly cash rents will decrease. However, the company expects downward adjustments could occur faster than expected. First, 2013 and 2014 saw marginal returns to grain production. That reduced liquidity positions on many farms, leading to the need for cash rent reductions. Second, guarantees on crop insurance products will be lower, leading to a higher risk position on farms. Third, nonland costs likely will continue to be high, placing farms in a continuing high-risk position.

Doug Hensley, of Gorsuch-Hensley Real Estate and Auction, Inc., in Canton, Ill., said many tenants "planted the seed" with landowners for a possible need to revise rental rates. But the rent situation varies from one locale to the next. "Areas with strong production, where crops were sold at a good price, those rents have stayed strong and active [in 2014]," he said.

Overall rent rates appear flat right now, said Garry Ackers, regional vice president of 1st Farm Credit Services, in Illinois. "So much depends on the financial position of the producers involved. Some remain very aggressive, and others that could be aggressive are choosing not to be," he said. "The safe way to characterize it may be if you are paying $200 rents, rates are probably going to go up; and if you are paying $450 rents, you probably want them to come down."

That assessment doesn't get much argument from Iowa-based Josh Gerig, executive vice president for farm-management services with Murray Wise Associates. "There may have been some adjustments lower for those paying in the top third of the market," he said. Generally, though, the cash rent math involved is pretty well understood. "This is not a magic formula, but 200-bushel corn at $4 per bushel is $800 gross per acre," he said. "The general rule would put rents at 35 to 40% of that -- $280 to $320 per acre at $4 per bushel."

REVIEW LEASE OPTIONS

Regardless of the math, Kentucky's Halich recommends landowners and tenants review the type of lease in use. He encourages tenants to consider crop share or flex leases, and review the many options among them. "Understand how the lease you want works, and be able to explain the advantages to the landowners," he said.

Increased volatility of crop prices in recent years has hastened a move toward more flex leases and fewer straight cash leases, Gerig said. "More than half our portfolio is tied to some form of flex lease."

Many such leases provide a base rent plus a potential bonus based on crop prices and yield. In 2013, that might have meant a base rent of $300 to $325 per acre that would allow for another $50 per acre on top of that, Gerig explains. The full base rent of, say, $325 is paid in full March 1 with any bonus portion paid in the fall or early winter.

University of Illinois farm-management specialists also suggest variable cash leases or share rental arrangements as alternatives to fixed cash rents. Share rental arrangements share revenues and direct costs between landowner and farmer so lease payments are based on economic performance. If a fixed cash rent arrangement continues to be used, lowering cash rents from previous years likely is required for farms with relatively high cash rents.

Most often the type of rent is the preference of the landlord, Gerig, Hensley and Ackers agree. Iowa's Pearson, who farms several thousand acres, either owns his land or pays straight cash rent. He's fine with that.

"I wanted to keep it simple," said Pearson, who operates a tiling business in addition to farming. "We get so busy that if we share-cropped or something like that, I'd feel a sense of need to update landlords nearly every day on what I'm doing."

(BAS)

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