Author: Kevin Kim

According to the most recent estimates from the USDA ERS, the US agricultural sector is projected to experience a significant decline in profitability. Overall, current estimates indicate that net farm income in 2024 will be 6.8% lower than in 2023, a year that already saw a substantial drop compared to 2022. Expected cash receipts are anticipated to decline most sharply for corn, soybean, and cotton producers, with decreases ranging from 14% to 22% relative to last year. This suggests that some commodity producers will face increased financial pressure for the remainder of 2024 and possibly into early 2025.

A recent survey of agricultural bankers supports this observation, indicating rising financial stress among agricultural producers. The Agricultural Credit Survey conducted by the Kansas City Fed reveals that more agricultural lenders are receiving requests for loan renewals and extensions, a sign that producers are struggling to meet loan interest and principal payments. However, beyond these requests, there is currently no clear evidence that financial pressures are translating into widespread farm financial distress. According to the Federal Reserve Economic Data (FRED), default rates on agricultural production loans and farmland loans have not shown significant increases in the latest survey.

One contributing factor to the pressure felt by both agricultural producers and consumers is the rise in interest rates. Compared to the rates offered from 2020 to 2022, interest rates on farm production loans and farmland loans have increased sharply following a series of rate hikes by the Federal Reserve (the Fed) aimed at curbing rapidly rising inflation. As the Fed raised the federal funds rate—used as a benchmark for determining consumer loan interest rates—farm loan interest rates also rose, leading to greater pressure on repayment schedules. In the most recent survey of bankers in the Kansas City Federal district, the average farm production loan interest rate was 8.83%, and the farmland loan interest rate was 8.04%. In the same quarter of 2021, these rates were about 5.04% and 4.57% respectively. While 2020 or 2021 rates were very favorable rates in comparison to the long-term average, rapidly increasing interest rates in such a short period of time in 2022 could have put extra financial pressure on some producers who were not prepared for such rapid change.

However, as observed in September 2024, multiple reductions in interest rates are expected in the coming months and years. The Fed aims to lower the federal funds rate to 3.5% by the end of 2025 and to 3% by the end of 2026. Given that the pace of these rate reductions is expected to be slower than the hikes experienced in 2022 and 2023, the anticipated decreases in farm loan interest rates are also likely to be gradual.

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Kim, Kevin. “2024 Agricultural Lending Condition Update.” Southern Ag Today 4(43.1). October 21, 2024. Permalink

Farmland value represents the most important component of an agricultural producer’s net worth and asset value, accounting for more than 80% of the average farm balance sheet, according to a USDA survey. Therefore, monitoring farmland value per acre is crucial, as it affects farmers’ and ranchers’ ability to secure additional funding from lending institutions, given that these lands are used as collateral.

Farmland Value Increase in the Short-Term

In the last couple of years, despite interest rate hikes that have increased the cost of funding for farmland purchases, the demand for agricultural land and farm profitability have remained strong. Strong demand, coupled with a limited supply of agricultural land, average agricultural land prices soared by 7.7% in 2023, according to the USDA.

Recent record-high farmland value increases in the Corn Belt region have sparked discussions about the seemingly slower increase in the southern region. While it is true that some Corn Belt states experienced 30% to 40% increases in farmland values over the past couple of years, examinations of broader regional changes and long-term trends present a different picture.

According to the USDA, since 2021, cropland values in the Southeast (Alabama, Florida, Georgia, South Carolina) and the Southern Plains (Texas and Oklahoma) have increased by 20% and 22%, respectively, making these increases comparable to those in the Corn Belt states (22%). Delta states (Arkansas, Louisiana, and Mississippi) experienced a 12% increase, falling short of other regions. Increases in pastureland values were more consistent across regions. Delta and Southeast states saw increases of 12% and 13% in pastureland values, similar to the 14% increase in the Corn Belt states. In the Southern Plains, pastureland values soared in 2023, reaching a 20% increase.

Farmland Value Increase in the Long-Term

While some southern states may seem to lag behind in growth rates in the short term, long-term trends show robust growth for these states. Between 2014 and 2023, the Southern Plains states experienced the highest increase in cropland value (50%), while the Southeast and Delta states each saw a 40% increase. Cropland values in the Corn Belt states increased by 18% during the same period. Looking at pastureland, the dollar value per acre in the Delta states increased by 39%, followed by the Southern Plains (34%) and the Southeast (30%). Pastureland value in Corn Belt increased by 22% for the same period.

Moving Forward

While it is true that farmland value increases have been sluggish for some states in the South, production specialties and long-term trends should not be overlooked.

For 2024, it is generally expected that farm profitability will decrease, especially for crop producers, adding downward pressure on cropland values along with high farmland loan interest rates. However, due to the limited supply of farmland and strong demand for agricultural land, it is expected that farmland values will remain steady or experience a slight increase.

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Kim, Kevin. “Farmland Value Trends in South.” Southern Ag Today 4(24.3). June 12, 2024. Permalink

How can you recognize warning signs indicating financial distress on your farm? Although many farm proprietors and managers have a solid grasp of their farm business’s profit dynamics, they frequently overlook the critical aspect of assessing financial resilience. The financial resilience of a business can be gauged by examining liquidity and solvency ratios. In fact, a majority of agricultural lenders, including commercial banks and institutions within the farm credit system, actively consider these ratios as part of their evaluation during the farm loan approval process.

To compute these ratios, you should initially create financial statements, such as the balance sheet and income statement. While the manager and/or owner might not be the ones directly creating these statements, it’s crucial for them to comprehend the insights these statements offer regarding the business’s financial health and ways to enhance weak financial performance. Emphasizing the importance of maintaining accurate records and regularly producing these statements is strongly recommended, as they prove beneficial during tax filings, loan applications, and gaining insights into the current financial status of the business.

Liquidity

Liquidity metrics assess a debtor’s capability to settle existing debt commitments without seeking external funding. These metrics are primarily derived from components of the balance sheet’s current assets and current liabilities. Current assets comprise assets easily converted into cash, like cash, bank accounts, investments, and inventories. Current liabilities consist of obligations due within a year, such as accounts payable, production loans, and current portions of noncurrent debt. The most commonly employed liquidity metric is the current ratio, expressed as:

Current Ratio = Current Assets/Current Liabilities

A higher liquidity ratio indicates that the dollar value of current assets surpasses the value of short-term debt obligations, which is favorable.

Solvency

While liquidity ratios focus on the present timeframe, solvency ratios assess a farm business’s capacity to cover all liabilities with its total assets. Unlike liquidity ratios, it is necessary to consider the dollar values of both long-term and short-term assets and liabilities on the balance sheet. This includes the dollar value of farmland (a long-term asset) and farmland loans (a long-term liability), which often represent a significant portion of a farm’s balance sheet. The most widely utilized solvency metric is the debt-to-asset ratio, expressed as:

Debt to Asset Ratio = Total Liabilities/Total Assets

In contrast to the current ratio, one must divide the dollar value of total liabilities (financial obligations) by the dollar value of total assets. A high debt-to-asset ratio may indicate insolvency, signaling that the value of total liabilities surpasses total assets.

Compare Your Numbers with Benchmarks

The Farm Financial Standards Council (FFSC) establishes benchmarks for these ratios, which are periodically updated, although not significantly. According to the FFSC, it is considered favorable to have a current ratio exceeding 2 and a debt-to-asset ratio lower than 0.6. It is highly recommended that farmers and ranchers assess their liquidity and solvency measures against these benchmarks and take corrective measures if their figures fall short. These can be done through, but not limited to, selling of farm assets that are not in use, raising equity capital through ownership restructuring, and renegotiating on long-term debt. 

Additionally, it is wise to compare these numbers with national, regional, and specialty-specific averages, as some lenders may evaluate an applicant’s information in relation to other peer groups when deciding on approvals. Individuals can compare their figures with peers based on specialty, region, size, and age group using the USDA Economic Research Service’s report, accessible through the following link: https://my.data.ers.usda.gov/arms/tailored-reports

Also, it is a good idea to keep track of these ratios over time, to see whether the financial resiliency of one’s business is improving or deteriorating. 

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Kim, Kevin, and Brian E. Mills. “Financial Ratios to Consider for Measuring Financial Resiliency of Your Farm.” Southern Ag Today 4(2.3). January 10, 2024. Permalink

The year 2023 marks another unique year in terms of prolonged high inflation and high interest rates. The series of interest rate hikes raised concerns, especially when Silicon Valley Bank went defunct earlier this year, and other regional banks experienced liquidity problems. With these inflation rates and interest rate hikes affecting the broad economy, how does the agricultural lending condition look?

The most recent survey of commercial banks from the Kansas City Fed shows that the average agricultural operating loan interest rate exceeded 8 percent from the first quarter of 2023, and the farmland loan interest rate also nearly reached 8 percent. Loans issued from commercial banks closely follow the movement of the effective federal funds rate. As the federal funds rate increase slowed in the last two quarters, the increase in agricultural loan interest rates also slowed down. 

Loan interest rates from the Farm Service Agency (FSA) showed a unique pattern in the last few months. Throughout 2022, loan interest rates from the FSA increased with the increase in the federal funds rate.  However, FSA started to lower interest rates from the first quarter of 2023. In fact, as of August 2023, the FSA loan interest rates – both the operating loans and farmland loans – are lower than the federal funds rate. This rare occurrence is expected to go away eventually, but the FSA is indeed providing very favorable rates as of today.Of course, if the higher interest rates result in increased borrower default or general economic decline, the Fed will slow down the interest rate hikes. Currently, delinquency rates on commercial bank loans still remain at a historical low. Similar findings are shown for agricultural loan default rates. While there has been a slight uptick in default loans in the Farm Credit System, the default rate is still lower than the five- or ten-year average. Default rates from commercial banks also remain at a relatively low level.

It is expected that these interest rates will still increase in the second half of 2023. With the Fed aiming for a 2 percent inflation rate, the effective federal funds rate is expected to reach 5.4 percent to 5.6 percent. This will again have an impact on agricultural loan interest rates in the foreseeable future. High interest rates, combined with lower farm income forecasts in 2023 and 2024, will be the adverse factor for stagnant farmland value in 2023 and 2024.

The overall farm financial health remained resilient and strong in the past few quarters. The agricultural loan default rates for both production and farmland loans have decreased in 2022. Observation from the Farm Credit Administration (FCA) also shows that the percentage of nonperforming loans is at 0.47%, a very low number compared to previous years. The total number of farm bankruptcy cases (Chapter 12 bankruptcies) was 169 in 2022, the lowest number since 2004. However, the outlook appears less positive.

We just began the first quarter of 2023 with great uncertainty. On April 28^th, it was reported that the GDP growth rate in the U.S. slowed considerably. The annualized rate of growth was only 1.1%, half of what was forecasted. March inflation rate was higher than the expectation and reached 4.2%. There are signs of recession, including the yield curve inversion observed in the U.S. treasury. There have been massive layoffs in the tech sector, reduced corporate investments, and major bank failures on the West and the East coasts. 

The agricultural sector is expected to be affected by these uncertainties. USDA’s forecast made earlier this year shows net farm income is predicted to drop significantly in 2023, by more than 13%. If we do enter a recession and consumers tighten their budgets, there is a possibility that the impact will be even more severe and extend beyond 2023.

What can we do in the face of all these economic uncertainties? If the farm business is expected to be under financial stress in the worst-case scenarios, taking certain actions can lessen the impact. These actions fall into three strategies to improve the financial situation of the farm business.

Managing Cash Flow

Control costs. Reducing costs is an ongoing challenge for agricultural producers. Evaluate all procedures and purchases and seek ways to improve cost efficiency. 

Reduce or postpone capital purchases and family withdrawals. Critically evaluate purchases and consider repairing for another year rather than replacing.

Other income sources. Consider ways to leverage any excess capital and labor. For example, do you have the equipment/labor/time to provide custom work for other producers?  

Marketing.  Sharpen your marketing plan, and be ready to act on opportunities to lock in profitable prices. 

Renegotiate leases. Approach the landlord with a proposal to reduce the lease payment or shift from a cash lease to a shared lease agreement.

Managing Liabilities

Renegotiate loan terms. Extending loan terms will ease cash flow pressures by lowering loan payments. Refinancing carryover debt or paying interest only for a short term could be negotiated. 

Reduce debt. Reducing debt will certainly relieve some financial stress, but be careful about sacrificing valuable working capital. Although not easy to find, outside equity investment may be a viable source of capital and/or debt reduction.

Refinance. Carefully weigh the advantages of extended loan terms vs. today’s higher interest rates.  Refinancing may not save as much as expected.  If the broader economy moves into recession, watch for declining interest rates and future refinancing opportunities.

Managing Assets

Liquidate cash and investments. If the farm business has maintained a financial reserve of cash or investments, this may be the time to use it to reduce or avoid debt.

Sell inventory and capital assets. If the farm business is holding inventory and waiting for higher prices, consider selling that inventory to reduce debt. If you can do it without affecting operations, selling land or equipment that is seldom used may be a good strategy to generate funds.

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Kim, Kevin, and Brian E. Mills. “Economic Uncertainty and Ways to Prepare for the Worst.” Southern Ag Today 3(19.3). May 10, 2023. Permalink

Photo by Mikhail Nilov: https://www.pexels.com/photo/a-person-typing-on-laptop-7731373/