With high corn and soybean prices returning for 2011, landlords and farm operators are asking about switching to flexible cash rent leases for cropland. Compared to straight fixed cash rent, flex leases offer sharing of reward and risks between both parties, but add a degree of complexity to calculating the final lease amount.
That's why so many farmers and landlords still stick with a fixed amount lease even though flex leases are likely more fair for both parties. Getting both parties to agree to the different components of a flex lease can be challenging, points out Steve Johnson, an Iowa State University Extension farm management specialist. He is a proponent of flexible cash leases and has worked with farmers to help them develop such leases to fit their particular situations.
The simplest method is probably a flex lease that has an initial base payment guaranteed, plus a final payment made postharvest that represents roughly 33% of the crop revenue (yield times price) and all government payments go to the operator, says Johnson.
He doesn't recommend using Farm Service Agency base yields and actual production history, or APH yields. The FSA base yields and APH yields for a farm don't reflect current production. FSA recognized flex leases as a cash lease beginning in 2008 so the actual yield on the farm can be used annually to determine the flexible portion of the lease payment.
An example of how to create a flexible cash rent lease
To keep it simple, you need to create a base lease amount, say $200 per acre guarantee. This assumes productive and well-drained soils. Let's assume this is an average cash lease amount in your county and your farm is above average production. For the 2011 crop year you collect the first payment of the rent from the operator ($100 per acre) due in March. The second payment is guaranteed to be no less than $100 and the final rent amount will be calculated as 33% of gross crop revenue calculated for both corn and soybeans.
For example, if the corn yield on your farm is 200 bushels per acre in 2011 and the price is $5 per bushel, that's $1,000 gross revenue. If you figure 33% of that, it's $330 per acre. The landlord received $100 per acre in the spring, so the landlord would get $230 at harvest, bringing the total to $330 per acre on corn land. A similar calculation would be used to figure rent on land planted to soybeans.
"You'd use soybean yields and prices for the acres planted to soybeans," says Johnson. "The final lease amount would reflect the actual acres planted on that farm for each crop and listed on the FSA-578 acreage report filed each summer by the farm operator at their county FSA office."
Yields and final prices should be known by late October or early November and the final cash lease payment can be made in early to mid December. "I still suggest using forward cash contract prices for fall delivery of that crop at the local co-op or elevator," he says. "Using multiple price periods for the calendar year is likely more fair to both parties, but adds complexity to the lease."
How to establish yield and price used in a flexible cash lease
To establish the farm's actual yield (dry weight for corn adjusted to 15.5% moisture) most lease arrangements will need to reflect grain bin measurements, scale tickets, settlement sheets, yield monitor data, grain cart scales or other verifiable methods. Since most farm operators report their actual production history, or APH, for crop insurance purposes, you can simply use this annual yield on the farm for the flexible lease calculation. You need to request this data by December 1 so that the flexible portion of the lease can be determined.
What about determining the price? The simplest price determination might be FSA's Posted County Price, or PCP, for October and November, says Johnson. With FSA shifting to a 30-day moving average of PCP in 2009, this will be easy to access from FSA's website. However, this amount could under or over estimate the potential value of the harvested crop since it uses only the fall pricing period, he notes. Extending the pricing period beyond November is not suggested, since the landlord should not benefit from the decision of the tenant to store or sell their crop. Price improvement postharvest largely reflects basis and futures market carry, and the landowner doesn't typically pay storage or interest on the crop.
Other considerations for determining the price of the crop
Averaging a series of harvest delivery bids at a local co-op or elevator is worth consideration for establishing the crop price on a flex lease, he says. Such a price overcomes the potential low harvest price bias, and yet reflects the likely wider basis for a fall delivery period. This is a price that the operator could receive should they have decided to forward contract a portion of their crop on that farm. It does not mean the grain has to be actually marketed prior to harvest.
Thus, the grain price used for a flex lease payment could be the average of the harvest delivery forward contract cash bid at a local elevator, perhaps four times during the calendar year: mid-January, mid-April, mid-July or mid-October. Specific days of the month should be established. If you say the 15th of the month, note in the lease that if the 15th falls on a weekend, then you use the trading day closest to the 15th.
If a larger number of pricing periods is desired, Johnson suggests you choose one day of the month and the specific months to collect the harvest delivery bids. If both parties prefer to reflect a longer period of monthly averages, consider January through October. To avoid having to record this price every month, you might want to have the local grain merchandiser simply print out this average price at the conclusion of harvest. Also, request that the grain merchandiser or elevator sign and date this information so that both the tenant and landowner are comfortable with the source of this data.
This doesn't mean the tenant has to market their crop prior to harvest on these same dates, he says, but the final flexible lease amount will reflect roughly 33% of the gross crop revenue harvested on that farm annually.
You'll likely need to slightly adjust flexible cash leases each year
"Many of these types of flexible cash lease arrangements initiated the last few years require slight modifications annually to meet the needs of both parties," says Johnson. "Most leases tend to be multiyear, which allows the landlord to invest in needed improvements, especially drainage. The farm operator is allowed to better manage the risk of volatile input prices, yet know annually that they'll be able to rent this cropland and justify needed machinery and equipment investments."