This is part three of a four-part series on cash rent. Find links to all installments as they appear at the end of this story.
In parts one and two if this series we told you about the cash rent cost squeeze some farmers will face as they head into the 2016 growing season.
A big part of the cash rent discussion for 2016 is land values, says Kent Meister, who works with farmers cooperating in the Farm Business Farm Management association in Central Illinois. "Until land values adjust down, it will be difficult to get rents to be where they need to be."
Another variable is interest rates. "Low interest rates have contributed to current land values, and higher interest rates might change those investments," he explains. "You can't get to our current land values with $3.50 to $4 corn — it took low interest rates to get there. Those 2% to 3% interest rates contributed to all asset values, including land and stocks. Higher interest rates may change that trend."
Related: Evaluate your rent paying capacity
Combs notes that land prices in his area zoomed from $3,000 to $8,000 per acre in just over a decade. "That's out of reach for young farmers," he adds. "With these prices I can't see myself cash-flowing $8,000 ground."
Owners can control rent levels but not land values, except at the point of sale. Low crop prices may motivate institutional owners to sell out for better returns.
Much of the negotiation for 2016 depends on how your landowner views his or her land.
"There's a group of owners who view land as a traditional investment — as opposed to the long-time family-owned asset," Meister explains. "Some bought land because they wanted a 3% return, and they couldn't get it elsewhere. Some owners have expectations; they own land because they were unwilling to get low returns elsewhere."
Risk in 2016 >>
Risk is the focal point of 2016 negotiations, says Steve Myers, a farm manager who oversees 15,000 acres in central Illinois for Busey Bank. In his area, cash rents for Class A ground for 2015 have a median rent of $290 an acre, with a range from the low $200s to high $300s.
"I had one instance of a farmer who had cash-rented for a number of years, got along great with the owners, and simply could not come to terms with them in 2015," he recalls. "It wasn't because we had an astronomical number. It was more like, with these grain prices, this was a margin that was too narrow for him to risk."
There are challenges for both tenant and landowner, says Myers. "We're coming off big years where farmers had profitability and cash rent was good, and now we're asking farmers to go back to the margins of the late '90s, something pretty thin. For the landowner, the question is, Who is going to take the haircut? In other words, will seed companies, fertilizer and other input companies also cut costs, along with the landowner as well as farmer, in terms of family living adjustments?"
Myers works on behalf of landowners, but he is well aware of projected profit margins for 2016. Having a farm manager in the mix may be a good thing for 2016 since they have the ear of the landowner and can authenticate the tenant farmers' pitch for lower-cost leases. But that pitch will be easier to swallow if everyone shares the pain equally.
"If we can take reductions across the board — meaning cash rents arbitrarily down 10%, while growers also negotiate 10% lower input costs and the farmer himself taking a 10% cut in family living costs — that would make sense for 2016," he says.
In most cases, landowners and farmers enjoy good working relationships. The foundation is communication — or dispelling miscommunication, Myers says.
When negotiating, landowners should be realistic about land quality and productivity. They should be clear about their goals, whether that is monetary or otherwise, such as land stewardship. Take into consideration the added risk farmers take now that crop insurance no longer guarantees profit.
Show landowners your numbers >>
For farmers looking to cut land costs, show landowners your numbers — real numbers. If your rented farm averages 200 bushels of corn per acre, communicate that with the owner. And don't conveniently forget other payments you may eventually receive, like $70 per acre from Agricultural Risk Coverage.
Related: Is a handshake really enough?
Both sides should look for a middle ground that is equitable and helps both sides reach their goals.
"A grower needs reasonable assurance of profit, and a landowner may desire a reasonable return for the asset," notes Myers. "It's about communication, sharing numbers and being realistic."
One way to get there is a flexible cash lease. "Flexible cash-rent leases are a wonderful way for owners and operators to be on the same page and manage risk," he adds.
Myers has persuaded most of his landowner clients to adopt these leases in the past few years. Six years ago Farm Service Agency guidelines discouraged flexible leases because owners had to jump through too many hoops, but today they are more widely embraced.
"It maybe doesn't solve Question A, which is, Where do we set the base rent? But it could still help answer landowner concerns if the farmer grows 250-bushel corn and prices jump to $5," he says. "I advocate flexible cash leases because it gives landowners income on the chance prices go up, but at the same time, everyone shares some risk."
Next: If farmers burn through capital to keep expensive leases, when do lenders step in?
See all entries in this series:
Cash rent standoff part one: Prohibitive land costs
Cash rent standoff part two: Negotiating leases
Cash rent standoff part three: How will land values adjust? (current entry)
Cash rent standoff part four: Farm lenders' action