The Johnson farm, Wellington NSW
Earlier this year my two brothers and I attended a ‘succession planning’ day with our parents in Dubbo. The succession part of it was simple and dealt with in the first hour (one of my two brothers wants to go back to the farm, the other two of us are city slickers).
We spent the rest of the day talking about the economics of how farming might work for my younger brother and his family. Working out a way to earn a living wasn’t quite so simple.
Saturday’s Sydney Morning Herald contained an article titled Agribusiness may be better off in private hands as shares lose lustre (perhaps headline writers were the first to go in Fairfax’s recent cost cutting?).
The Chief Financial Officer of listed cattle farmer AACo, Phil Beale, explained why the stockmarket just doesn’t get Ag stocks:
The hidden thing for AACo … is we cannot recognise the increase in our land value. I've got $600 million of assets sitting on my balance sheet, some of them go back to 1936. I've got $400 million of revaluation reserves sitting within that. I don't get a jot of recognition of that in the P&L [profit and loss account]. But it is a value-add. If I was a REIT, it'd be wonderful. I'd book it as a profit and the market would get excited. Because across the last 30 years, the grazing properties have averaged a 15-20 per cent compound rate of return.
If you were a REIT, Mr Beale, you’d be the worst REIT on the stockmarket. People don’t like REITs because they revalue their assets every year. Not these days, anyway. They learned the hard way that revaluations work in both directions. Investors like REITs because they pay distributions. Cold hard cash. And that’s where agriculture comes unstuck.
Back in Dubbo, the woman from Rabobank facilitating the session is all over this fact. She has a very thick book that tells you what you can expect to make (on a cash basis) off different types of farms. The average beef farmer, she tells us after running her finger down the page, should expect a return on capital of 3%. You can verify this number by calculating the number of dry sheep equivalent (DSE) you can run on the land and how much you could expect to sell every year. It all made sense to me. Roughly 3%.
AACo doesn’t even earn that (corporate farms don’t get the benefit of free or drastically underpaid labour). And it’s funded its assets with a significant amount of debt. You don’t need to be a 'rocket surgeon' to work out that earning less than 3% on your assets and paying 7% on your debt isn’t going to leave much for shareholders. Only one year in the past five has AACo generated positive operating cashflow, a measly $11m. The cumulative cash outflow over that same period was $178m.
This is the economics of farming. Crap profit. Crap cashflow. But the ‘value’ of your land keeps going up.
I know, I know. The growing Asian middle class wants to eat a lot of steak. The amount of land from which to feed them is shrinking. And Australia has some of the most efficient farmers in the world (they are also the least subsidised, which places them on a very uneven playing field).
I hope for my brother’s sake that there is a soft commodity boom. But I like profits and dividends. And until I see more of that , I’ll be taking my city slicker money and investing it elsewhere.
Farming is a little like the rock music industry. Entry to the industry is through passion, rather than an objective assessment of the potential to make an income. The result is many people in both industries making low incomes. If, as a nation, we fell out of love with farming, the industry might actually be better off.
And the expectation of continually rising land values as a compensation for low income needs to be questioned. Rural land has fallen in value around 35-40 per cent since the peak in price around 2006. This claim is based upon the reported price of transactions that have occurred since that date. The number of transactions has fallen substantially since the peak, reflecting the fact that most would be vendors are setting asking prices that do not reflect the market. Conclusion, yes you would have made a tidy sum if you sold out of farming during the recent bubble. If you purchased land during the bubble, your chances of making a significant capital gain may be a fair while coming.
Trish – I hear ya. I’ve been trying to find land reasonably priced for years but have all but given up in disgust, even though prices have softened some as Neil attests. I wonder whether rural land prices will continue to fall going forward, perhaps in a few more years approaching something remotely reflective of productive potential? Or will prices likely stay where they are (or increase?) given the current trajectory of the Australian economy? Any ideas??
I don’t agree with your assumption that agricultural returns are crap. Im aware of grazing businesses that can maintain a ROA of 8% excluding any capital growth, that’s 8% ROA in cash profit after market value wages to employees and owners.
These businesses treat their farm like a business.They do things differently to most farmers, hence why they get 3x more return than the average. Their rainfall isn’t higher either.
I was a doubting Thomas on the profits in ag, such as yourselves a few years ago, but once you open your mind to the prospect of profitability in ag and actively search out the better operators and query them on what they are doing differently, your old assumptions will be challenged.
Sure their will be years with no rain where its hard to make money, but you can have a higher average return in the better years to absorb those bad years. Ive challenged our business model and am making changes that will lift our average ROA, based on what these better operators are doing.
There is profit out there.
Yep,
Happy to join the chorus of whining farmers, 7th generation dairy folk from Bega;) We also went through the nightmare of succession planning, but I digress…
We pay retail prices for nearly everything, sell at wholesale and pay freight both ways – in good years the money is okay, the dry years are really testing as you bust your a$%e to lose money…But then you think of your family history on the land, the childhood you had on that property and the childhood you wish your own offspring to have, and you realise that you really aren’t in it solely for the money…and there’s value in that.
We met people from Penola SA on holiday once who sold their farm twice, once to Great Southern and the second time to Timbercorp MIS. My argument was that he wasn’t a true farmer, more a real estate investor…