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Keep a per-acre net profit goal in mind
The old adage of "buy low and sell high” still dominates farmer thinking. This primarily means buying inputs before their price increases significantly, but often fails to capture the profit margin available in selling 2011 crops at this same time. Farmers often wait for even higher futures prices without a profit goal. The idea of margin management is becoming more common as producers lock-in 2011 crop prices this fall and at the same time buy 2011 crop input decisions.
Having a net profit per acre goal for 2011 is the first step to tying together both potential production costs and output price. Once futures prices begin to decline, emotion once again takes over and limits the ability to sell at these lower prices. Sell bushels incrementally knowing that crop insurance decisions next March can help guarantee revenue. In 2011, the new Revenue Protection (RP) insurance product will replace the Crop Revenue Coverage (CRC) and Revenue Assurance (RA) products. This should simplify the insurance decisions since producers no longer need to compare CRC to RA premiums and difference in coverage.
While crop prices and yields are higher than five years ago, the net profit margin per acre may not have changed significantly. The advantage is to those that own Iowa farmland that has seen values increase by nearly 50 percent in the past five years. High crop prices should support even higher land values and the potential for cash rental rates to follow.
Futures Price Volatility leads to Basis Variability
The 2008 futures price spike has caused great stress on margin calls for both producers hedging grain and merchandisers that offered grain contracts. As a result, many grain contracts now have a small fee of a few cents per bushel associated with them. The high 2008 crop prices distorted many farmers’ views of the potential for 2009 and 2010 crop prices. This led to poor marketing decisions the past couple years, as farmers anchored good crop prices and compared to those witnessed in 2008. Expect the rally in 2010 crop prices to bring about a similar result.
Basis risk has increased as many merchandisers extract greater net profit from each bushel they handle. Some merchandisers have expanded their offer for various grain contracts that commit bushels to delivery for multiple years of crops. At this same time, other merchandisers have reduced their exposure by offering primarily spot cash bids and forward contracts only. They fear the risk of making margin calls against contracted grain and a default of delivery should futures prices spike like those witnessed in 2008. Since many merchandisers are only basis traders, they are looking for less risk with high price volatility.
Valuable Lessons Learned from 2008
Many producers regretted not locking in 2009 crop prices during the spring 2008 futures price rally. Instead, the higher prices led to higher input costs and much lower net profit margins. The ability to lock in crop inputs while selling the outputs almost simultaneously is being tested n many Iowa farms. The result of the high 2008 crop prices now makes the use of crop revenue insurance products tied to forward cash and hedge-to-arrive contracts even more important as a strategy to lock-in attractive futures prices.
Today it is more important to work with an ag lender that understands the changes taking place in row crop agriculture. It will be increasingly important to manage cash flow with higher operating fund requirements that covers multiple years’ crop inputs. The uses of crop marketing plans that are successfully implemented are becoming as important as cash flow projections.