Time to rework cropland rental rates
It would seem simple: Crop prices and farm profitability have plunged, so the rent that farmers pay for cropland will plunge, too, right? The reality is more complicated. Yes, overall rental rates are declining, but generally not as fast or as fa...
It would seem simple: Crop prices and farm profitability have plunged, so the rent that farmers pay for cropland will plunge, too, right?
The reality is more complicated. Yes, overall rental rates are declining, but generally not as fast or as far as some might expect, say farmers, real estate agents, farm business management instructors and extension service experts who talked with Agweek.
This is the time of year most farmers and landlords begin renegotiating cropland leases that expired after the 2015 growing season. In recent years, landowners wanted more money - and strong crop prices allowed farmers to pay it without much fuss.
The big-picture trend is different so far this negotiating season, however.
“Farmers sure would like to see lower rents, but the landowners don’t seem to be interested,” says Paul Oehlke, agricultural and farm business management instructor with Northland Community and Technical College in Fergus Falls, Minn.
Even so, the continued decline in crop prices - for instance, corn fetches an average of $3 per bushel at area grain elevators surveyed weekly by Agweek, down from $3.16 a year ago, $3.72 two years ago and $6.82 three years ago - causes many rental rates to drop.
While generalizations are risky so early in the process, the price that many farmers pay to rent cropland could drop 5 to 20 percent from a year ago, farmers and ag officials say.
High-end rental rates - typically paid by aggressive farmers who hoped strong crop prices would continue - are most likely to decline, in many cases substantially, experts say.
On the other hand, some newly renegotiated rental rates are expected to hold steady, and some, set several years ago when rates were much lower, will even go up.
“It’s all over the board,” Kent Thiesse, farm management analyst and vice president of MinnStar Bank in Lake Crystal Minn., says of newly negotiated rental rates.
Overall, the average cropland rental rate of $65 per acre in North Dakota will drop about 5 percent, estimates Andy Swenson, the veteran North Dakota State University farm management specialist who has studied rental rates for many years.
“Rates have peaked,” he says. “They’re coming down. It’s still fairly modest at this point, I think.”
Swenson and others think a much bigger decline could be coming a year from now, unless crop prices rally before then. The thinking is, current prices won’t provide enough profit to continue paying current rental rates.
Next year will be “uber critical” for rental rates, Swenson says.
Most producers already are concerned about rental rates, ag officials say.
“There’s just no opportunity for these high-priced cash rents to work in our area,” says Jared Hofer, a farm business management instructor at the South Dakota Center for Farm and Ranch Management in Mitchell. “You just can’t push a pencil (work through 2016 projections) and show any opportunity to make a profit.
“At some point, these landlords who want the very high rates - there just won’t be anyone who can pay it,” Hofer says.
Trends are 'localized'
Experts stress that many factors influence rental rates, with trends varying greatly from area to area.
“It’s very localized,” says Kyle Nelson, a real estate agent and appraiser with Farmers National Co. He’s based in Fargo, N.D., and works with clients in both North Dakota and Minnesota.
Rental rates might hold up relatively well in a small area that enjoyed particularly good yields in 2015, while dropping sharply in an area that suffered particularly poor yields, he says.
Likewise, two aggressive farmers competing to rent the same parcel of land could prop up its price, while lack of that competition could lead to a drop in its rental rate, he says.
Landlords’ aggressiveness is a factor, too. Landowners who asked for only small rental-rate increases when times are good generally will be less willing to accept big cuts now, ag officials say.
The crops grown in an area also will influence how much rental rates might decline. While generally strong grain prices from 2008 to 2013 allowed most farmers to make more money, some crops fared better than others. Corn, in particular, provided strong returns, pushing up rental rates in areas where the crop is grown.
Cass County, in eastern North Dakota, reflects the trend in areas where corn and soybeans are common. It’s the nation’s leading producer of soybeans and a major corn producer. The average per-acre rental rate for nonirrigated cropland in the county nearly doubled from 2008 to 2015, rising from $67.50 to $125.80.
Rates generally didn’t rise as fast or high in areas where corn isn’t common, so those areas are less likely to see huge drops now, farmers and others say.
“We really didn’t see the big increases, so I don’t think we’ll see the big declines, either,” says Charlie Bumgarner, a Great Falls, Mont., farmer and president of his state’s Grain Growers Association.
Montana farmers are growing more corn, but wheat remains the state’s dominant crop.
Changes in rental rates this winter won’t be based only on what’s happened in the past year; they’ll reflect what happened in the past two to four years, as well.
Though one-year rental agreements are increasingly common, many agreements are for two, three or even four years. As a result, rental rates are said to be “sticky,” which means they’re relatively slow to rise or fall in farm profitability. Now, with farm profitability slumping, they’re declining only modestly, so far, experts say.
Put yourself into the landlord’s place: If you agreed to, say, a four-year contract in 2011, you missed out on some of the subsequent increases in rental rates. And you might expect the new contract negotiated this winter to “catch up” on at least some of that lost increase, ag officials say.
They say other factors are in play, too.
The local and county land taxes paid by most farmland owners continue to rise, in some cases a great deal, decreasing landowners’ willingness to accept lower rental rates.
More young farmers are joining the family operation, increasing the need to rent more land and helping prop up rental rates.
Much of the Upper Midwest enjoyed unusually good yields in 2015. That encourages some landowners to ask for higher rates than they would if yields had been poor.
A growing number of farmland owners have little or no personal connection with ag. They might not realize or care that crop prices and farm profitability have plunged.
Economies of scale allow farmers to spread costs over more acres. A hypothetical example: A farmer invests $10,000 in precision agriculture technology. If he farms 2,000 acres, the per-acre cost is $5. If he farms 2,500 acres, the per-acre cost is $4. As Swenson puts it, “You could be losing money by renting and farming a piece of land. But you could be losing even more if you don’t farm it.”
Transparency, trust There’s a rule of thumb in professional sports that says players’ newly negotiated salaries usually are based on what they did in the past, not what they’re likely to do in the future.
Ag officials say the same is often true with cropland rental rates: yields, prices and profitability of the past, not the future, dictate how much farmers pay to rent land.
Thiesse, the Minnesota ag banker, encourages farmers and landlords to “look forward. Let’s set rates based on expected yields, prices and cost of production going forward in 2016.”
Hofer, the South Dakota farm business management instructor, advises farmers to share information about costs and projected profitability with their landlords.
“Show them your actual numbers,” he says. “Transparency leads to trust.”
Hofer knows of a few cases where landlords agreed to reduce rental rates after looking over what farmers showed them. In other cases, landlords agreed to hold rates steady. But he’s also aware of landlords who “want more money, regardless of what the numbers show.”
Landlords who once farmed themselves, and better understand its economic realities, generally are more willing to come down, Hofer says.
Ag officials recommend farmers and landlords take a closer look at flexible rents, especially now that crop prices and farm profitability have dropped.
Most Upper Midwest farmland is rented for a fixed amount of money per acre. A landlord receives that price, what’s known as cash rent, regardless of crop prices and yields.
Cash rents are simple and easy to implement, especially when a farmer has many landlords. They’re also popular with most landlords, who welcome the certainty of a fixed payment.
But there are alternatives.
Crop shares, as its name implies, gives the landlord a share of the crop. The practice gives the landlord more money in good years and less money in bad years. For the farmer, crop shares reduce risk and potential return. Though once common, crop shares are rare today, in part because determining the landlord’s share can be difficult.
Flexible rent contains elements of both fixed rent and crop shares. Often, flexible rent includes a base rent or payment to the landlord, with the base payments supplemented by additional payments based on crop prices or yields or both. As is the case with crop shares, flexible rent allows farmers and landlords to share in financial success when times are good, while also reducing farmers’ expenses and landlords’ return in bad times.
Hofer says he’s a big proponent of flexible leases.
Typically, however, they don’t work when there’s strong cash-rent competition for the land. In such cases, the landowner usually takes the highest cash-rent offer, he says.
Flexible leases work best “when the farmer has a good relationship with the landlord,” Hofer says. “It’s way of rewarding them (the landlords) by giving them an upside.”
Nelson, the North Dakota-based real estate agent and appraiser, also likes flexible leases.
He advises landlords to ask themselves, “What’s my objective? Is it to make the most money I can this year? Or do I care about how they’ll treat the land?”
If the goal is maximizing this year’s income, accepting the highest possible cash rent might be preferable. If the objective is maintaining long-term soil health, agreeing to a lesser amount, possibly in the form of a flexible lease, could be the way to go, Nelson says.
He cautions landowners to be wary of a cash-rent offer that’s much higher than competing offers. The would-be tenant who’s making a too-good-to-be-true offer could be planning to recoup the higher rent by shortchanging soil health.
Declining farm profitability and rental rates, though troubling, should be kept in perspective. The now-ended ag boom couldn’t continue indefinitely, Nelson says.
“The sky isn’t falling,” he says. “We’re in an adjustment period.”
Determining 'fair' rent
One of the most difficult jobs in farming is coming up with fair and equitable cropland rental rates. Experts offer these suggestions for landlords and farmers who are negotiating agreements:
Try to find impartial and reliable statistics on farmland rents in your immediate area. State extension services, farm management programs and local ag bankers are potential sources.
Talk honestly with the other party. Listen to their concerns and expectations.
Ask yourself if you’d accept your proposal if you were in the other party’s position.
Make sure both parties fully understand the proposed agreement.
Get the agreement in writing.
Jonathan Knutson is a staff writer for Agweek. To subscribe to the weekly agriculture magazine, call (800) 811-2580 or email email@example.com .