Livestock

Farmers are facing a reality that’s gripping the majority of agriculture today. “The price of corn seems to be still in that downward trend,” said Joe Shirbroun, Farmersburg, Iowa farmer. Lower prices aren’t budging to finishing out 2017. Ag economists like Jackson Takach of Farmer Mac are watching the price situation closely, as 2018 may play out to be more of the same. “I think we're going to have to sustain a few more years of the current economics,” said Takach. “I think this year and 2019 there's probably not enough to move the needle. There's not going to be enough demand over the next two years to eat up all the supplies. We have record stocks for both corn, soybeans and wheat. It’s going to take a few more years to churn that out.” Purdue and the Chicago Mercantile Exchange (CME) team up to produce a monthly ag economy barometer. This year it showed a slump in farmers’ moods. After peaking at 153 to kick off 2017, farmers sentiments slid nearly 30 points, remaining in that range to finish out the year. “As we wrap up the year 2017 and look back in agriculture, it was a year of continued adjustment,” said Chris Hurt, an economist at Purdue University. “When we talk about continued adjustment, I think everybody in U.S. agriculture knows that we've been through a boom cycle followed by a moderation cycle.” Hurt says despite net farm income projected to improve slightly in 2017, overall net farm income has dropped 40 percent from the highs farmers saw between 2011 and 2014. This year he coined as a “year of adjustment,” with farmers trying to realign operations to face the realities of lower prices. “We've also seen adjustments in 2017 in the animal industry,” said Hurt. “Once feed prices dropped, we’ve seen very strong profitability for the animal sector, and that profitability has meant expansion of the livestock sector by rebuilding the reduced production we had from about 2007 to 2014.” Even with a better picture for livestock overall cash flows remain tight. “Farm families have turned to their lenders and they continue to do that in 2017 to help bridge the cash flow and income gap that we're seeing at this point,” said Hurt. Hurt says in order to look forward, agriculture needs to take a hard look at the past. That includes the 1970s and 1980s, as that was the last major boom and bust cycle in agriculture. “As we look back to historical boom and moderation cycles we see have some sense that maybe a five to seven year time period is required to work through these downward adjustments.” “It's really about the debt levels and the interest expense on that debt today,” said Takach. “Back in the 1980s you had rising debt levels, but also rising interest rates and it was a deadly combination. Today you might have rising debt levels certainly, farmers have needed that additional leverage to try to offset some of the lower incomes. Well, you haven't seen the interest levels rise at the same rate.” Hurt says during the 1980s, it took about 6 years for prices and the overall agriculture economy to recover. “How long have we been in this moderation cycle? Well it seems like forever to many farm families, but actually for crops it was the 2014 crop where we really saw prices of grains dropped sharply below cost and production.” He says struggling prices hit farmers for the 2014, 2015, 2016 and 2017 crops, which means agriculture is in year four of a downward adjustment. He projects the cycle to last 7 years total, meaning 2018 could help agriculture start to turn a corner. “As we roll out to 2018, let's think about what we have in store for agriculture,” said Hurt. “We expect to see continued adjustments trying to drive down cost of production on the cropping side, expect follow- through to expansion of the livestock numbers.” For farmers, prices may be out of their control, but changing aspects of the operation they can control is now becoming even more top of mind. “We know the business side of farming is very difficult some days, but we just continue to look ahead and at our potential or opportunities in the market,” said Shirbroun. “We miss our opportunities at times, but we've got to continue to remind ourselves to take advantage of them and just continue to work on costs.” It’s managing costs while working to become even more efficient on every acre that could help farmers survive another year.

It’s a story of tight margins on farms in 2017, and those margins are growing tighter for some farmers. That’s forcing farmers to turn to lenders in search of additional farm loans. Three ag bankers representing various geographies say using land as collateral can be a viable option, but it’s not for everyone. “Each person's situation is different,” said Chris Floyd, president and CEO of First National Bank in Syracuse, Kan. “The biggest thing is having the appropriate level of debt on that land and not having too much on there. The worst place to be in is where you have to be a forced seller.” He says having too much debt on that land is something producers should try to avoid while keeping payments at a manageable level. That means land payments shouldn’t be more than what a cash rent acre brings in the area. “Make sure your payments are appropriate for your comparable rent level or where rents should be and don't get over leveraged on your real estate either,” said Floyd. Keith Knudsen, president and CEO of Security Bank in Laurel, Neb., says using land as a collateral is a good idea in today’s environment. “We encourage if we're doing that, it seems like in our market about a 50 percent loan to value on farmland right now is about what will cash flow,” said Knudsen. “That being said, the primary reason is to spread those payments out if we do have several years of problems.” He says producers don’t want to get in a situation where they’ve used land to help secure a loan, and then land values see a sudden decline, while interest rates shoot higher. “We don't want to get into that perfect storm where land values drop and all of a sudden we don't have that equity to rely on,” said Knudsen. Alan Hoskins is president and CEO of American Farm Mortgage located in Louisville, Ky. He says using land as collateral can help with interest rates. “Using land as collateral is typically the lowest interest rate that a borrower will obtain because it's the most secure form of collateral,” said Hoskins. “I think another thing as a lender we want to make sure that we're not taking more than an adequate amount of security. “If there are challenges a year from now, we want to have some land that if necessary we could refinance some carry-over debt against, assuming the cash flow works,” said Hoskins. Hoskins suggests farmers explore all options, but says land is a secure option for many farmers today.

Since his campaign days, President Donald Trump has voiced little support for keeping the United States involved in the North American Free Trade Agreement (NAFTA). Ag trade groups, companies and associations have varying perspectives and positions on the topic as well. Last week, U.S. farmers, dairymen and livestock producers weighed in to share their points of view, via a Farm Journal Pulse survey. The survey question asked was, “Do you think the U.S. should withdraw from NAFTA?” Of the 839 responses, 30% said yes, to eliminate it either because they believe the economy is better off without the trade agreement, or because they believe the U.S. can negotiate better deals with Canada and Mexico one-on-one. Forty-three percent of respondents said to keep NAFTA, because it is crucial for farmers and for maintaining a low-cost food supply. Slightly more than one-fourth of Pulse participants, 26%, said they aren’t sure whether keeping or eliminating NAFTA is in the United States’ best interest.    

On Tuesday, the House of Representatives passed the tax reform bill. Early Wednesday morning, the Senate also passed the bill. The House will have to vote on the bill again on Wednesday because of theByrd Rule which limits the kind of provisions that can be included in a bill via reconciliation. Long story short, it’s widely expected Congress will pass tax reform, and President Trump promised to sign the bill in time for Christmas. What does all of that mean to you? Here’s a quick list of things Paul Neiffer, the Farm CPA says you should know about tax reform: The corporate tax rate of 21% down from 35% but most farmers only pay 15% so this is a 40% increase You can fully deduct all farm assets purchased between September 28, 2017 and December 31, 2022 Section 179 is set at $1 million Reduction in overall tax rates by 5-10% Almost an automatic 20% deduction for net farm income. (Perhaps including self-rental, we are not sure on this yet.) Doubling of lifetime estate tax exemption to $11.2 million (2018) Almost all farmers should be able to deduct all interest expense Net Operating Losses can only be carried back 2 years and can only offset 80% of income going forward. Meals are only 50% deductible for farmers who provide meals to employees on-site No more Domestic Production Activities Deduction (DPAD) deduction, but 20% deduction is twice as much anyway Section 1031 exchanges applicable to real-estate only, but 100% bonus wipes out gain anyway (other than state issues) As you can see there are likely some wins and losses for your tax bill. We recommend visiting with your accountant to determine how these changes will specifically impact your business.

The low number of farms for sale is supporting values, said three farm real estate professionals at the recent Agricultural Bankers Conference. However, their outlook for the next two to three years remains guarded in light of weak grain prices. “We are still seeing some very strong prices. It almost defies logic,” says Steve Bruere, president of Peoples Company, Clive, Iowa. He points to a $17,000-per-acre sale in Iowa and a $13,400-per-acre auction in central Illinois as examples. “It’s the very low inventory that’s keeping land values up despite the poor economics.” While prices remain stable overall, Bruere notes Iowa farmland values have marked a significant retreat since their high posted in 2013. “When you look at the value of all Iowa farmland in 2016 versus 2013, you see the loss in asset value is larger than the value of all commercial real estate in the state of Iowa,” he says. The number of farm properties currently for sale averages less than two per county with less than one farmland auction scheduled per county, he adds. While Bruere expects the volume of properties for sale to increase as they usually do through the winter selling season, he does not expect the increase to be burdensome. “We are getting some phone calls from farmers and their lenders who are looking to sell some farmland to liquefy their balance sheet. We tell them they will get a higher price if they sell to a neighbor, than if they sell to an investor and do a lease back because the investor wants a higher capitalization rate. Farmers are willing to take a lower cap rate than investors because they want to control the land,” he explains. Some areas of the country outside of the Corn Belt are seeing strong demand, notes Randy Dickhut, senior vice president, Farmers National Company, Omaha, Neb. “In Arkansas, for instance, prices were slower to go up than in the Corn Belt. But once they rose, they have held firm. There is a lot of investor interest, crops are well diversified and interest rates are low,” he says. “Investor interest in Idaho is strong,” Dickhut adds. “It is opposite of what we’re seeing in the Midwest because of the area’s diversity in crops. It is similar in southeast Washington where they grow 90 different crops. The area receives only 7" of rainfall annually, but there is ample water for irrigation from the Columbia River. There is also a lot of farmer movement out of California into the area due to the drought and regulatory issues.” In the Corn Belt, farmland prices did increase a bit after harvest, just as they did in 2016, but overall they remain steady. “There is almost an unlimited amount of outside money available to invest in farmland,“ notes Fred Hepler, director of acquisitions, Agvictus Capital Management, Edmond, Okla. There continues to be tremendous interest in investing in farmland in Australia, which has been the case for several years, Hepler says. “Farming there is very similar to the U.S. with the exception of water. When you buy land in Australia you do not get the water. You have to buy it on a public market, which trades every day,” he notes. Looking ahead, Bruere is watching four factors in the land market: Shift in buyers—prices will slip if investors become the dominant buyers because investors demand a higher cap rate than farmers. Surge in interest rates. Shocking political event. Change in crop insurance. “We haven’t seen the bottom in farmland values yet,” Dickhut states. “Give the market a couple more years to find its bottom. We think values could slip another 10%.” Investors are on the sidelines waiting for more attractive returns, he notes. “But once the market stabilizes, we see it returning to a more normal, slow-rise in values over the long run.” Trade policy is also a concern when it comes to the dynamics of the farmland market. “A big change in trade policy could trigger the next leg down in farmland prices,” Dickhut says. “I’m very concerned about trade policy,” Hepler adds. “If we have problems with trade policy and then we pile on another year of record grain and soybeans yields ... well, this combination would make me very nervous about farm incomes and farmland prices. But long term, I am very confident about farmland values.”

The coming year is pivotal for agriculture because we will find out if we have entered a stabilization zone or if we begin another leg down, says Terry Barr, senior director, CoBank, Washington, D.C. Barr, along with fellow nationally recognized ag economist David Kohl, highlighted key differences in the current setback in farmland values and the 1980s collapse at the American Society of Farm Managers and Rural Appraisers annual conference. “The impact of energy prices on commodity prices will likely remain benign, with crude oil ranging from $45 to $60 a barrel,” Barr notes. “Meanwhile, world economies are still in transition after what their central banks and governments did to stimulate their economies out of the financial crisis. This means we will have sustainable, moderate growth in demand but not what’s needed for another explosive burst in demand for commodities.” Barr says China was growing at up to 14% annually during the supercycle into 2013, but is growing at a 6% rate now. “If you’re going to drive something powerful in commodities, it will probably come from the supply side rather than demand,” he says. The U.S. economy is on very solid footing and is in one of its longest run-ups in history, Barr notes. “But there is no reason to believe we are on the brink of a recession,” he observes. “The recovery is very extended, but it is very subdued. The U.S. economy is only 14% larger than it was at the last business cycle high. Usually, the economy surges 35% to 50% greater than its previous peak before a recession occurs.” Meanwhile, central banks have added $14 trillion to their balance sheets. The U.S. Federal Reserve added $3.5 trillion alone. “The Federal Reserve is the only central bank raising interest rates,” Barr says. “This is strengthening the U.S. dollar and putting the U.S. in an uncompetitive position. I look for short-term interest rates to move to 2.5% to 3% by late 2019 as a result.” Overall, the next three to five years will still be challenging for agriculture as the world works through the hangovers from the massive stimulus injected into world economies to ward off the financial crisis. “But the long-term outlook is still very positive for agriculture as a resource-challenged world scrambles to feed and clothe its population,” Barr says. “The 1980s was a credit bubble, now we’re in an asset bubble,” notes Kohl, professor emeritus, Virginia Tech. “This recent run-up in farmland values has much more equity and working capital behind it. Marginal land is the first to correct, and we’re seeing those values down as much as 25% in some areas.” Looking ahead, Kohl is watching exports. “They are 20% of ag incomes,” he notes. Impacting that income stream is the value of the U.S. dollar, growth in the U.S. economy and interest rate policies of the Federal Reserve and the central banks of Europe, China and Japan. Any changes in U.S. trade policy could also adversely impact this key source of ag revenue. With the world glut of grains, oilseeds and commodities, Kohl says it will take a surprising change in production to lift commodity prices. “The good news is global economic growth is synchronized. The emerging market economies are moving higher together, but they need to grow at a 7% to 9% annual pace to lift U.S. commodity prices.” Fortunately, the exposure of U.S. agriculture to energy prices has decreased as the U.S. has become a major oil producer. “About $8 to $10 spent on ag inputs is spent on something related to oil,” he notes. “But the U.S. is no longer dependent on crude oil imports and has become a major producer. It use to be $60 to pump U.S. crude oil. Now it is closer to $40 a barrel and will soon be $20 a barrel.” That will help restrain input costs going forward.

Food companies continue to demand cage-free eggs, which has contributed to an overall increase in supplies, but it is the oversupply of conventional table eggs that has worked to depress prices. A new report from CoBank's Knowledge Exchange Division notes that U.S. egg production, pricing and producer profitability have been highly volatile the last two years. However, the report, authored by Trevor Amen, CoBank animal protein economist, says U.S. egg markets are returning to more normal production growth, producer profitability and specialty egg premiums. CoBank is a $124 billion cooperative bank and member of the Farm Credit System. "The avian flu outbreak in 2015 caused egg prices to climb and incentivized egg producers to boost output. Coincidentally, 229 major food companies pledged to use cage-free eggs by 2025 just as egg prices went into freefall," Amen said. "Since then, cage-free production has surged amidst a surplus of inexpensive, conventionally produced eggs." This oversupply has depressed demand for higher priced cage-free eggs, a condition that's expected to last for the next several months as the conventional supply draws down. Meanwhile, total table egg production is expected to return to historical growth patterns as low egg prices encourage producers to pare back production and profitability returns to normal levels. "This will allow the price premium for cage-free eggs to recover to historical averages and help facilitate the transition in the coming years as a reduction in cage-free egg production brings supply into alignment with true demand," Amen said. Cage-free egg production, however, is not without critics. Thirteen states have filed a lawsuit alleging that Massachusetts new voter-approved cage-free law is unfair to their farmers' market access to the state. The law, which goes into effect in 2022, would require all pork, veal, and eggs farmed and sold in Massachusetts come from animals not confined in small cages. Arguing the law violates the U.S. Constitution, which gives Congress the power to regulate interstate commerce, the attorney generals from those 13 states contend the law would force out-of-state farmers to change their production methods if they wanted to sell their meat and eggs in Massachusetts. Regarding food company pledges to market all or a significant portion of their eggs as cage-free, the CoBank report says about 223 million layers, or nearly three quarters of the entire layer flock, would need to meet the criteria. It will cost the industry about $10 billion to fully make the transition to meet the cage-free pledges, with most of that expense coming in the form of remodeling existing layer houses or the construction of new facilities. The current overabundance of conventional eggs makes this investment difficult in the near term, the report says. However, the egg market is expected to strengthen, providing an economic incentive to respond to market forces. Robust egg exports are helping to reduce domestic egg supplies and are anticipated to support wholesale values in 2018. The rebalancing of the market will allow the cage-free transition to be driven by fundamental consumer demand rather than pledges made by retailers and food manufacturers, Amen said. "As a result, large egg producers are taking a more cautious approach to cage-free expansion by focusing on long-term growth potential and market premium expectations," Amen said.