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GRIP-based flexible cash leases tame some farm rent pressures

Agriculture.com Staff 08/20/2007 @ 2:51pm

Farmers and landowners may be looking to flexible cash leases this year as they reach rental agreements.

But, with forecast higher and more volatile grain prices, rental rates may still be subject to price-driven fluctuations within a year. Coupled with the potential for yield shortfalls, this amounts to substantial rent price pressure for the farmer.

One way to avoid some of these swings is through a flexible cash lease agreement based on Group Risk Income Plan (GRIP) crop insurance revenue guarantees, say University of Illinois (U of I) ag economists Gary Schnitkey and Dale Lattz.

"As structured, this flexible lease causes landlords and farmers to share in commodity price changes that occur between years," Schnitkey and Lattz recently wrote. "Generally, hedging is not effective at reducing risks associated with between-year price changes. As structured, the lease causes farmers to bear all risks associated with yield shortfalls and price changes within the year.

"If desired, farmers can use crop insurance and hedging to offset some of the risks associated with yield shortfalls and price changes within the year," they add.

Essentially, the GRIP-based flexible cash rental agreement price is reached by taking the expected county corn yield multiplied by the base corn price multiplied by the rent factor.

"The rent factor is a percentage negotiated between the landlord and farmer," Schnitkey and Lattz write. "It represents the share of county revenue received by the landlord."

The expected county yield and base price are both determined by the Risk Management Agency in early March, and the latter figure is used in setting revenue guarantees for GRIP insurance plans, as well as in Crop Revenue Coverage (CRC) and Revenue Assurance (RA) plans.

Using this formula, a farm in a county where the expected yield is 180 bushels per acre with a base price of $4.00 per bushel, an agreement in which the rent factor is .25, the rental rate would be $180 per acre.

Like any other agreement, there are pros and cons to GRIP-based flexible cash rents: Cash rents will vary, but will be based on base prices, therefore protecting the farmer from sharp price swings between crop years. The same can't be said, however, for price shifts during the year.

"Cash rents will vary as prices change between years. Higher base prices will result in higher cash rents and vice versa," according to Schnitkey and Lattz. "Under this lease, farmers still bear considerable yield and price risk. The lease only adjusts for risks associated with between-year price changes. Farmers face all the risk of within-year price changes and yield shortfalls. Similar to all flexible cash leases, this lease is not as good at sharing returns as is a crop share lease."

In general, Schnitkey and Lattz recommend considering the timing and frequency of rent price changes in determining whether a GRIP-based flexible cash lease is best for the farmer.

"Flexible cash leases based on GRIP parameters shifts some of the risks associated with between year price changes to the landlord. Risks associated with within year price changes and yield shortfalls are born by the farmer," Schnitkey and Lattz write. "This lease is appropriate for cases in which only the transfer of between year price changes are desired. If risk shifting associated with within year price changes and yield shortfalls is desired, cash rents based on a farm's revenue likely would be more appropriate."

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