farmgate: Farm Leasing #2: Variable Cash Rents Becoming More Important.
It was a watershed phone call Monday. The voice on the other end, who identified himself as a cash rent farm operator, said the owner thought it was probably time to switch to a variable cash lease. Not every farm owner will be so open-minded and realistic, but one by one, that may happen around the Cornbelt to help operators dilute the red ink in the coming year. Let’s have another go at flexible or variable cash leases in our special focus on farm leasing this week.
Variable cash leases will provide more flexibility for the operator than a cash rental lease, but will not be as burdensome on the owner as a crop share lease. Variable or flexible rents will have a base rental rate, and will be adjusted up or down by a multiplier that is usually driven by price, yield, or both. Risk is shared by both the operator and the owner, so both will share in the financial rewards of good yields or high prices. And the owner will be less likely to lose a good operator to financial pressure should yields or prices plummet.
Purdue economists have developed a flex rent calculator, which will not calculate an actual rent, but will provide insight to how the alternatives will treat both the landowner and the farm operator.
The spread sheet uses Excel software and allows financial changes to be made and calculates the outcomes.
An explanation package helps users understand how to enter various alternatives, and provides the results in graphs and tables.
Iowa State economist William Edwards says the most common flexible cash lease in Iowa calls for the owner to receive a percentage of the gross revenue, such as 35% to 45%, with higher amounts for more productive land. The next most popular calls for a base rent that might have been used prior to the recent rise in grain prices, and then adjusted with a bonus based on yield or price.
1) Yield determinations can use elevator scale tickets, combine monitors, or bin capacity.
2) Price determinations can be based on local elevator, processor, or feedlot prices, based on a pre-determined date, an average of dates, or a futures contract value.
3) Boundaries can also be set that would be top and bottom limits on yields or prices which Edwards says keeps the rent in a predictable or more desirable range.
Ohio State economists Robert Fleming and Donald Breece provide example calculations and formulas that can be used as a guide. They also provide several dozen examples of real flexible cash leases from past years, which provide some insight, however actual values would need to be updated.
University of Illinois economists Gary Schnitkey and Dale Lattz offer yet another variation, based on crop insurance parameters. Their reasoning is that hedging is not an effective tool for determining values between years, which is the time frame for setting cash rent leases. Those parameters are the expected county yield as determined by USDA’s Risk Management Agency for the Group Risk Income Plan, the base price that is established by USDA at the end of March and the rent factor which is a negotiated multiplier that determines the share of county revenue received by the land owner.
Summary:
Flexible cash rents have the power of rewarding both the land owner and the operator in times of good yields and high prices, but call for both sides to share the downside risk. Flexible or variable cash leases will be an important leasing tool in the coming year, with uncertain profitability. Calculation of the variables, such as price, yield, or various multipliers is an important factor that should not be left for the last moment, and is going to be different for nearly every Cornbelt operation.
Posted by Stu Ellis on November 18, 2008 12:59 AM to farmgate