Poised and Proactive on the Farm

By Brian Nixon

A quick survey of agriculture across the United States shows tightening margins in grains, the impact of the prolonged drought in California and the ever-present vagaries of the weather. Combine these factors and you get a higher level of uncertainty in some ag sectors than has been seen in several years.

Producers—the nation’s farmers and ranchers—need to be prepared. That means they need to examine their operation’s spreadsheets, expense reports, income statements and balance sheets—which should be up-to-date and readily accessible.

Enter the banker. On the farm, in the feedlot or in an almond grove, operational data is critical to sound decision-making. So, too, is the producer’s banker—not just as a lender, but as a sounding board and trusted adviser. It’s the essence of what ag bankers do. And they’re ready to help their farm and ranch customers.

“Lenders are having those conversations with farmers,” says Tim Buzby, president and CEO of the Federal Agricultural Mortgage Corp., or Farmer Mac.

“It’s an environment where producers and bankers need to be on top of their games,” says Mike Hilderbrand, first vice president of Gothenburg State Bank in Nebraska. 
“I think overall agriculture is in great shape,” he says, with big earnings and big gains over the past several years.

Cash flow (will be) king

However, with margins tightening in commodity grains—corn, soybeans, wheat and the like—there is growing concern and unease about farm income over the next few years. “We’re more focused today on our grain operators,” says Nate Franzen, president of the agribusiness division of First Dakota National Bank in Yankton, S.D. This year has marked a return to fundamentals for grain producers, adds Franzen, who is also the chairman of ABA’s Agricultural and Rural Bankers Administrative Committee.

Franzen and his staff at $1.1 billion First Dakota have focused on encouraging producers, particular grain farmers, to balance their balance sheets. “When margins get tight, cash flow is reduced,” he says. “Farmers that have been through tough times know what we’re talking about.”
Hilderbrand, who is vice chairman of ABA’s Agricultural and Rural Bankers Committee, describes the environment as one in which “cash flow is going to be king again. We could see 30 or 40 percent of our farmers show a bit of a loss.” Such a hit wouldn’t be indicative of a poor job by producers, he adds. “I’m just not sure [grain producers] can market well enough.”

It’s a notion echoed by Franzen. “When commodity prices are high, marketing is easy,” he observes. “Now it’s important to have a marketing plan” because of the impact of a few more cents per bushel on an operation’s overall cash flow. It might also require producers to consider new ventures to provide additional income.

This points to the importance of the natural hedging effect of a diversified grain and livestock operation. “If you’re a diversified operator, there are opportunities,” says Steve Goodenow, the chairman, president and CEO of Bank Midwest in Spirit Lake, Iowa.

“From my perspective, we’ve had several really strong years in agriculture,” Goodenow says. “A lot of our customers have really strong balance sheets.”

Proactive banking
Goodenow is among those Midwestern ag bankers, like Franzen and Hilderbrand, who are being proactive in working with ag clients. “We’re taking this summer and looking at past credits that have higher leverage ratios,” he says. The goal is to assess what his staff can do today to help customers get through the next two to three years “of challenging economics.”

As preparation, Goodenow and his staff conducted training sessions—role-playing and test-driving sample conversations between officers and their producer clientele. “The risk profile has changed and rates are going up,” Goodenow says. “Putting your head in the sand is never a good thing.”

His staff is also meeting with borrowers who own land about the importance of working with producers on cash rents and crop sharing during a period of tighter commodity margins. This is not easy, Goodenow explains, because no one wants to go backward on their income. However, by asking for too much, land owners may eventually put themselves into a bind of their own making. “If you don’t do something now, Tom or Sue or Joe won’t be there next year to put the crop in,” he says.

“Farmers and landlords can make it work when both sides are transparent and open with one another,” adds Franzen. “Everyone needs to be cognizant of what’s going on.”

While land owners might be flexible on cash rents, many producers’ input costs, such as fertilizer and chemicals, and seed, rarely retrench. This leads to a common trap, such as reducing the use of fertilizer to save money. “You want to look at expenses,” says Franzen, “but you don’t want to cut things that reduce production and reduce income.”

Finesse required
Less income means a possibly diminished lifestyle on the farm. “That’s a tough conversation,” Franzen says. “When times get tough, you have to be able to make some sacrifices. The good managers will have no trouble tightening their belts and getting by.”
Reduced farm income also affects business on main streets throughout rural America. “When the income levels drop, other businesses will struggle,” says Goodenow.

A possible option to help producers weather a downturn is to consider selling an odd parcel of land. Admittedly, this is another sensitive issue. “Farmers don’t like to talk about selling land, so that’s a tough conversation,” Franzen says.

Farmer Mac’s Buzby says ag bankers are seeing land rents getting adjusted along with some softening in land values. On the other hand, ag banks—institutions that have a major focus on ag and rural lending—are also facing competition for good borrowers as they continue to seek to grow their portfolios. In the longer term, Buzby says a return to more normal interest rates “will be healthier for everyone. More margin is better. Bankers will make more on the spread.”

One thing, though, that concerns Buzby is industry consolidation and the long-term future of community banks. “There’s a lot of value with community banks,” he says. “At the same time, they need to be innovating and keeping up with technological innovation.”
Buzby says Farmer Mac’s role is to provide banks with options in meeting the credit needs of their producers. And he and his staff want to hear from ag bankers. “The more feedback we get from bankers, the better,” he says. “Call us up and ask us how we can help your bank and your borrowers.” (ABA, through its Corporation for American Banking subsidiary, endorses Farmer Mac’s secondary market programs, and members enjoy preferred rates.)

A drought’s ripple effects

Out West, the major topic is the prolonged drought, now in its fourth year. Part of that is the lack of winter snowpack in the mountains, which Roger Sturdevant calls “Mother Nature’s storage facility” for surface water. That state is in its second year of severe restrictions on surface water.
Sturdevant is EVP of the agribusiness banking division of Bank of the West in Fresno. Bank of the West is the third largest commercial bank ag lender nationwide and has operations in several geographic regions across the nation.

California’s surface water restrictions mean that somewhere between 500,000 and 1 million acres of land—mostly field cropland—has been fallowed. Beyond that, “water is being price rationalized to the highest and best use,” he says.

Sturdevant also notes that periods of drought are a fairly common occurrence in California. “Most farmers don’t rely strictly on surface water and/or have the ability to adjust their cropping program,” he says. “By and large, our producers are doing OK. The good news is most commodity prices in the west are strong. The prices have been there.”

The bank’s assessment of borrower relationships in the state—Bank of the West has $4 billion in ag commitments in California—includes the sources of water and how they fit with the producer’s operation. Like other banks, the institution’s stress-testing of its ag portfolio includes assumptions of higher expenses and lower revenues. The bank also maintains a drought-related watchlist.

Still bullish

On the positive side, Sturdevant says producers’ debt-to-equity ratios are the strongest they have been in 50 years. The economics of most high-value commodities are also very strong. The current environment is unlike the 1980s on both counts.

There are two question marks going forward, Sturdevant says. A shift to higher interest rates is not supportive of capital-intensive industries, for one thing. In addition, the trend of a stronger dollar weakens exports.

Still, “agriculture has been a bright spot in the American economy since the financial crisis,” Sturdevant says.

In Iowa and South Dakota, Goodenow and Franzen are also bullish on ag bankers if they stay close and stand by their customers. “As challenging as things may get, we’ve still got some of the best producers in the world,” Goodenow says. “We can produce protein better than anyone else.”

“The true ag bankers that are out there—they get this and know how to be proactive,” Franzen adds. “Now is when we really get to shine.