When times are tough, and the penny pinching is critical, you're on top of every part of the business. But as prices rise for key commodity crops, this is no time to let your guard down. That’s the message being delivered in a new report from Rabobank — but while there's good news, there’s caution, too.
“This [report] came from a lot of different directions,” says Steve Nicholson, senior grains and oilseeds analyst, Rabobank and the report co-author. “But one of them was quotes by veteran farmers who said that sometimes, high prices are not necessarily our best friend.”
He acknowledges that after being beat up by the market for seven years of depressed prices, with no outlook for anything to be happy about. “So now, let’s use this opportunity to our advantage,” he says.
The idea is to lay the groundwork for the future. Nicholson acknowledges that while he’s aiming for the positive, agriculture is a cyclical business — and what you do in the “good times” can set you up for solid success for the next downturn.
Debt load and the future
Nicholson looks back on the management moves made by many in 2013 and 2014, the last time prices were solid. Due to a long memory of debt problems from the 1980s, many farmers moved to clear debts. That move, however, did put some in a tight cash position, limiting flexibility when prices turned down.
“As we looked at it then, we should have done more debt financing,” Nicholson says. “We’re not saying that because we’re a debt financer, but you should have reserved some of that cash and did some debt financing so that you had an even balance sheet.”
The aim this time around, since debts did pile back up for some, is to rebalance your debt. Clear some, but refinance the rest at lower rates to free up cash flow. But being debt-free isn't the best move if you’re cash-poor, he advises.
Just how much working capital should you have on hand during the season? Nicholson consulted with his banking team and notes that “under the bank’s credit guidance, we would like to see 20% of projected gross revenue as working capital.” It's a base rule of thumb and can be a guide as you move forward in 2021 and beyond.
The key is not to load up on debt, but to be strategic about capital purchases and investments, maximizing the lessons in cost cutting and cost containment you’ve learned over the past few years.
Inputs and the future
The Rabobank report points to a fact many farmers understand — as crop prices rise, so do input costs. The grain markets took off after most farmers had purchased inputs for 2021, which puts many farmers into the black for this season and perhaps next. But the report shows that input costs have a history of escalating with rising commodity prices, taking more farmer profit margins.
Conversely, input costs are “sticky” — which means as crop prices slide, input costs don’t fall as fast, pinching margins when prices decline. This should be part of your long-term planning as you look at your balance sheet.
Already, land rents are climbing back to 2012-14 values, as commodity prices rise and interest rates fall. Expect that pressure to rise during lease renewal time later this season. Meanwhile, fertilizer costs broadly track commodity prices, as producers adjust application rates to capture higher yields.
Prices are now at a level that it’s possible to lock in some profit on a portion of the crop for 2021, 2022 and even 2023 based on prices today. “Let’s take some risk off the table,” Nicholson says, noting that marketing a portion of the crop at a known profit today takes pressure off margins. “It’s the same thing with soybeans. We’ve got that big spread, but if you can lock in and take risk off the table, why not? I’m not saying sell the whole farm, but let’s do 25% or 30%, and get it done and move on.”
As Nicholson advises, higher prices are not a time to “rake it in.” It’s a strategic time to set the table for a long-term future on the farm.