By Christina Dittmer
In an article in the May issue of Iowa State University's Ag Decision Maker online newsletter, Don Hofstrand, a retired ISU Extension farm management specialist, writes about the profitability of corn and soybean production in Iowa—and what the future may look like over the next several years for these two crops. His analysis shows the revenue, cost and net return for a hypothetical Iowa corn farmer. Similar results for an Iowa soybean farmer can be found on the ISU Ag Decision Maker website. Returns to corn and soybean production in Iowa have been tracked monthly since year 2000.
Two forces have been working to change the grain price environment of the last few years, he explains. The rapid expansion in ethanol production is slowing substantially due to market saturation. Also, crop production yields are expected to shift from drought to more favorable growing conditions, thus increasing grain supplies over the next several years. While the exact trend of these variables is uncertain, many analysts expect agriculture to move from the recent historically high grain prices to a considerably lower level. If that materializes, farmers and landowners will face significant adjustments.
Grain prices can quickly change and head in a different direction
Hofstrand begins by explaining Iowa's history (starting in 2000) of farmer income from corn, displayed both as income per acre and income per bushel. There are also graphs accompanying his article illustrating the corn income peaks in 2007 and 2012 as well as the valleys that followed. "It shows the ability of these commodity market prices to turn on a dime due to changing market conditions and head in a different direction," he says.
Considering cost of production for corn since 2000, he splits it into "landowner farmer" and "cash rent farmer," and he looks at cost per acre and cost per bushel. "The cost side of the equation is less volatile than the price side," he points out. "However, the production cost has increased significantly over this 15 year time period." The data he's gathered indicates the cash rent corn farmer in 2014 is expected to have an $800 total cost per acre, more than double what it was in year 2000. In 2000 the total production cost was less than $400 per acre. Similarly, the landowner farmer is expected to have a $250 total cost per acre, up from $125 per acre in 2000.
The increase in total corn production cost over the 15-year period has either been financed by farmers borrowing to put the crop in the ground or by farmers using previously earned net income.
Future trends for corn and soybean profitability—three scenarios
Substantial uncertainty surrounds corn and soybean selling prices, production costs and net returns over the next several years. "On the cost side of the equation, we have reached a new plateau in the level of costs per acre and per bushel," says Hofstrand. "Where these costs will trend in the future from this new plateau is uncertain. Although energy prices may soften, interest rates are expected to strengthen. With continued improvement in genetics, seed cost may continue to rise, but the rise may be offset by higher yields. What we know for certain is corn and soybean selling prices need to stay strong relative to historic levels to continue to generate farm operator net returns from the marketplace."
What does this mean for the future of corn and soybean profit? Hofstrand says it's hard to tell for sure, but his calculations provide some possibilities that are useful for farmers to use in planning. He looks at three possible situations Iowa farmers may face in the future, and gives a potential impact for each of these scenarios. The three possibilities are: rising selling prices, declining selling prices and volatile selling prices.
If crop prices strengthen: With a strengthening of corn and soybean selling prices, in the short term farm operators would gain profits, but production costs would eventually rise accordingly. He says cropland rental rates would eventually rise as farmers look to increase their operations and bid against one another for cropland to rent—therefore benefitting the landowner in the long run.
If crop prices soften: If corn and soybean prices soften in coming years, we would see income losses for farm operators in the short term. However, costs would also fall to match selling prices, says Hofstrand. Similar to the scenario with rising crop prices, the adjustment would be felt most in cropland rental rates. Except in this situation with declining crop prices, land rental rates would decline, leaving landowners to bear the long-term adjustments.
Government programs can help offset risks of lower prices
Hofstrand points out that government farm programs can play a big part in how farmers are affected by falling grain prices, giving two plausible options and their projected effects. "If USDA price support programs are designed to provide a gradual adjustment to the lower crop price levels, much of the farm operator's pain of the adjustment will be reduced. However, the long term adjustment will still be borne by the landowner through lower cropland rental rates," he notes. "Conversely, if farm programs are designed to maintain corn and soybean prices above the market level, it will reduce the need for lower rental rates."
Volatile selling prices in the short term: "Regardless of whether crop prices trend up or down over the coming years, they are expected to be volatile," Hofstrand points out. Government programs help offset the farmer's exposure to price volatility and the risk of short-term price declines. For example, using crop revenue insurance can help provide a degree of economic stability for farmers.
When farm operators are exposed to risk, they tend to be more conservative when making decisions like bidding for rented land. This is known as including a "risk premium" in the farmer's projected profit margin. However, when risk is reduced (such as the risks of price volatility or yield variability), there is less need for a "risk premium" in the farmer's profit margin. This allows the farmer to bid more aggressively for rented cropland. That means the farmer passes some or all of the benefits from the reduced risk exposure on to landowners in the form of higher rental rates.
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Christina Dittmer is a Wallaces Farmer intern.