Most read




According to farm financial experts, the escalation of land value is shifting the farm-financial paradigm and may change the firmly rooted impulse to build farm operations primarily upon owned acres.

There’s truth in the general perception that land value has increased excessively, and in parts of Alberta, this is certainly the case, according to J.P. Gervais, Farm Credit Canada’s (FCC) vice-president and chief agricultural economist. Lately, he noted, increases in the cost of farmland have outpaced growth in farm cash receipts. He hesitated to characterize the entire market as excessive. “One of the first indicators you’re looking at … is do farmland values make sense right now?”

Canadian annual gross farm income jumped to $62 billion in 2017 from $36.9 billion in 2007 as productivity improved. During those years, annual crop-receipt growth in Alberta was seven to eight per cent. This growth only began to moderate in 2017 and 2018. “The last decade, it’s the greatest I’ve seen in terms of farm income,” said Gervais. The cost of farmland naturally increased in tandem, doubling in Alberta over the last five years and rising 7.3 per cent in 2017 alone. The fact this escalation is largely due to the robust health of the nation’s agricultural sector is cold comfort to those who’ve seen their farming ambitions downsized or priced out of reach.

The rate of increase, at least, appears to be tapering off, suggested Gervais. While he predicted the next 10 years will not mirror the previous 10, he was nonetheless positive about the economic future of the ag sector.

The FCC will release its 2018 FCC Farmland Values Report at the end of April. When he spoke to GrainsWest in January, Gervais said he expects the report to show rising interest rates slowed the growth of the value of farmland for the first time in years. “We’re definitely in an environment where—though I don’t believe the rates are going to climb significantly—we do have to recognize the environment has shifted,” he said. Despite the limited supply that continues to support land prices, Gervais predicted the levelling out of farm income will contribute to the slower pace of growth. This will require a shift in expectations, he added.

The escalation of land value makes sense within the context of a strong agricultural sector, but it is reshaping farming models. “It makes it harder for farmers to expand,” said Gervais. This has shaken the traditional capital-intensive model that focuses on buying adequate land to operate on a competitive scale. Two contrasting models have developed in response: smaller farms and even-larger farms. The smaller ones feed a variety of specialty market niches while large operations continue to satisfy the country’s net export business model.

The price of land is a key part of any farm-planning equation. “The important thing, first and foremost, is what’s your strategy?” said Gervais. “Where do you want to take your business?” Consider where and why you want to purchase land. “Look at that from an income statement standpoint, thinking what’s the debt repayment capacity if I do purchase and make that investment.” This, as well as debt-to-asset ratio and leverage capacity are what lenders look at first. They will additionally stress test your purchase scenario, determining if you’ll still be able to make your payments should interest rates go up. This will help formulate a solid Plan B and C to account for any unforeseen trouble. “As long as you do that, you should be in a good spot,” said Gervais.

He explained a simple formula can be applied to determine whether or not a land purchase makes economic sense. What’s the price of land compared to what you can earn from that acre of land? The higher the ratio, the more you’ve got to be efficient in keeping your production costs down in order to expand.

Jonathan Small, chief research officer with Global Ag Risk Solutions shares Gervais’s assessment of the market’s direction. With interest rates as the key barometer, he believes farmland values will merely cool.

Before coming to Canada, Small lived in England, a country notorious for the sky-high value of its farmland. The business of farming endures, but this environment of ultra-pricey acres has popularized a business model in which farmers may own no land. With a comparatively small amount of money and owning nothing more than working capital, farmers can make a healthy go of it.

“It’s a very extreme business model,” Small readily admitted. In Canada, where land has traditionally been a sound investment as well as a sort of insurance policy and the family legacy, considering the adoption of such a model is terrifying for some. “But, in order to buy land, you need profit,” said Small. “Or a lottery win, but let’s exclude that as a business model.” As land value has escalated in Canada, it has become a barrier to entering the industry. “It makes it very hard to get into ag unless you’re prepared to accept a different business model.

“The industry is very reliant on continued appreciation in value for its equity growth, and not reliant enough in my view on just making profit,” said Small. “The paradox is that if you want to own lots of land, the best thing you can do in the beginning is own none. Just be as big as you can and manage that really effectively. That way, ultimately, you’ll buy land quicker.”

Utilizing other people’s assets by renting land and equipment, you can get to scale quicker while increasing return on investment. “Even if you only go a little way down that path, you can change the way your farm performs. You’ll make more money.” He said that while this may prompt eye rolls among established farmers, younger ones just getting going are much more likely to get it. For new farmers who’ve just purchased their first quarter and must juggle a day job to build the farm, the model is a lifeline, according to Small.

However, such a model meets resistance in the risk department. “That working capital is really risky, and every farmer knows it,” said Small. “Tell them to put 90 per cent of their money into seed, fert and chem, and ask how many acres could they farm that way, and they’ll say ‘Well, what if it doesn’t rain?’” He predicted farmers will gravitate to owning less and renting more over the coming quarter century and suggested risk management packages must reflect the shift.

When advising young farmers, he suggests for every acre they own, they rent 10 more. Their central concern, not surprisingly, is losing access to the land they rent. “You can’t insure against that, so manage that. Be ready for it,” he said. He suggested rental-dependent farmers must develop a new skill set. While constantly prospecting for more land, cultivating good relations with current and prospective landlords is essential. “And you need lots of them,” he added. “If you’re 90 per cent rented, better to have 20 landlords than two.”

A third-generation family farmer with a degree in commerce, Kristjan Hebert is the managing partner in Hebert Grain Ventures. He runs the grain farm located near Fairlight, SK, with his wife and parents, growing malt barley, peas, canola, wheat and a bit of fall rye. The business has a junior partner and six additional full-time team members. The family also operates a consulting division within Global Ag Risk Solutions as well as a separate human resources business.

Hebert suggested farmers have two businesses, one in real estate, the other in farming. He likened this to operating a hotel. A hotelier may own the land and the building while keeping the rooms full, or do the same while renting both. The relative value of one scenario over the other is in the math.

The Hebert farm operation embodies the type of fiscal-strategizing that Gervais recommends and the profit-first flexibility Small advocates. Owned land plays an important part in underpinning the family’s operation, but so do rental acres maintained on flexible terms. Of the 15,500 acres they put in during the past crop year, the Heberts rented 35 per cent.

They lease large parcels with several key landlords, having rented with some for up to 20 years. They have also rented smaller packages, some for seven to 10 years. Payment methods vary and range from monthly, quarterly or semi-annual cheques. “And we like longer-term deals with first right of refusal and lease transfer clauses so that they can always be part of our plan,” said Hebert.

While he said his family is happy to rent in perpetuity under such terms, when they do buy, they prefer to do so in big blocks. “I prefer to own if we have spare cash,” he explained. Like many farmers, the Heberts like to control their own money. He likened land to RRSPs. “If we don’t have an opportunity to invest it in the farm co. itself, in operating—i.e., expansion—because that’s where our best rates of return are, the second-best place to invest it is in land, because it still benefits farm co and future generations.”

In assessing transactions, Hebert compares how the prevailing interest rate will impact the financing of purchased land and subsequent cash flow, versus the rental rate of that land. “Where it takes three acres to make one acre of principal payments, that’s a real easy way to run out of cash if you don’t have reserves or you don’t have a plan. Because if you expand through a purchase, and suddenly you have to sell all your grain off the combine, or you can’t buy your inputs when you want to, that land just became really, really expensive.”

As to the economics of rental, Hebert suggested a basic calculation. “I don’t like land rent to be over 25 per cent of gross margin. That is, yield times price minus seed, fertilizer and chemicals. Don’t get me wrong, our gut feel still influences the decisions heavily. There are times when we still do it because it makes sense from the strategic vision. But you need to know that ahead of time so you’re looking for efficiencies to make it work.”

Aside from studying finance, which both Small and Hebert suggest is highly practical, Hebert offered a quick self-diagnosis for young farmers considering their options. “One, what’s your cost of production; two, how much money can you lose if you have the worst year ever; and, three, what are your working capital requirements? If you don’t know the answers, you’re not at the point where you should assess whether you should lease or buy land because you’re not even sure where you’re at.” Making a bad land purchase doesn’t typically force a farm into bankruptcy, he added, but rather, they become insolvent—they run out of cash. Unable to pre-buy inputs and sell the crop when one sees fit, as these means of generating profit vanish, the farmer’s predicament becomes a backward treadmill.

Want eclipses need when it comes to owning farmland in Small’s experience. When a neighbouring farm comes up for sale, the fact they may only ever get one crack at owning induces some to think short-term. There’s nothing wrong with this, but it can encourage unrealistic assumptions about the cost of farming the new land, he said. “Then, before the end of the year, they’ve added a whole bunch of equipment and the economics of that decision aren’t the same, but they’re locked in now for the 20-year mortgage.”

Small believes the current interest rate and market outlook is unlikely to dampen farmers’ enthusiasm for buying land. “And I can’t blame them,” he said. “It’s nice stuff to own.”


Be the first to comment on this article

Leave a Reply

Go to TOP