What You Need to Know About Farmland Values
Not too many months ago, farmland would sell well regardless of the quality – and likely at top dollar, too.
Not surprisingly, slumping commodity prices have changed that. Dan Sullivan, with Sullivan Auctioneers in Hamilton, Illinois, cites his firm’s auction of 699 acres of good-quality farmland in McDonough County, Illinois, in November. The sale averaged $11,700 per acre. “A year ago, that land would have brought $14,000 to $15,000 per acre, or about 20% more,” Sullivan says. Lower-quality land, he adds, is off 25% to 30%.
Many auctioneers are even reporting no sales at auctions.
No Surprises Here
The land market is simply adjusting to lower farm incomes, says Brent Gloy, visiting professor at Purdue University.
“The reality is, farmland prices are too high for current commodity prices,” Gloy notes. Generally, prices paid by farmers for land is driven by earnings that farms generate. “Earnings are falling, so the market is trying to figure out whether lower prices are here to stay or if this is short term,” he says.
It’s not all bad news. Top-quality land still commands top prices, no matter what commodity prices are doing. “A good farm will make you money. A poor farm will nickel-and-dime you to death,” says Matt Maring, who runs Matt Maring Auction in Kenyon, Minnesota.
Maring reckons the selling price of poor-quality land is down 30% from two years ago, while high-quality farmland is down only about 10% or so.
So where do you go from here? Here are four things you need to consider.
1. The Cap Rate
The capitalization rate (or cap rate) is the ratio of cash rent to farmland prices, and it’s a benchmark for return on investment. Here’s how it works. Land that’s rented out at $200 per acre and valued at $4,000 per acre has a cap rate (or rate of return) of 5%.
“Today, cap rates are about 3% or lower,” Gloy says. “This means land buyers are paying a lot of money for each dollar of earnings. As earnings shrink, cap rates fall even further, unless land prices adjust lower.”
Gloy says the rate of return on farmland is very low historically. Interest rates and opportunity costs are also providing some justification for lower cap rates. Yet, there is likely a point at which farmland buyers start thinking these low rates of return are hard to justify.
“Farmland is a long-term investment. Sometimes farmers use that to justify paying whatever they want for a piece of land,” he explains. Ideally, a buyer could expect a 5% cap rate, Gloy says.
2. Your Neighbors
Whether you’re buying or selling, this comes in handy. If multiple neighbors are bidding, be prepared to shell out more for the land. If you’re selling, multiple neighbors bidding on that property means more money for you.
For example, Schrader Auction offered 210 acres of Elkhart County, Indiana, farmland last summer. The tract sold for $2.95 million, or just over $14,000 per acre. The room was packed, the energy level was high, and four or five prospective buyers bid on the land. When the gavel fell, a neighbor bought the tract.
“The neighborhood makes a lot of difference,” admits Arden Schrader, auction manager at Schrader Auction.
Bob Thummel, a Beloit, Kansas, auctioneer, has sold property that far exceeds market value due to infrequent turnover of farmland. Adjoining landowners tend to bid a little more to get the land. “If the land is in the right location, you can make some money,” he says.
3. Investors Who Are Getting Back In the Game
Investor buying may be cushioning soft land prices. From October to December 2015, auctioneer Jeff Dankenbring sold nearly 1,500 acres in 12 tracts. Of those 12 tracts, just one went to a local farmer. Investors bought the rest.
“For the last five years, we hadn’t had more than a few farms sell to anyone but farmers. Everything went to the local guy. It appears things are changing a bit,” says Dankenbring, who runs Midwest Land and Auction in Marysville, Kansas.
Ditto for the sale of five tracts in Cedar and Scott counties in Iowa on November 18. Three tracts were bought by investors, who each paid $11,500 and $12,500 per acre. Farmers bought the other two tracts.
Troy Louwagie, real estate broker at Hertz and Associates’ Mt. Vernon, Iowa, office, says investor buying makes sense. “There are a lot of wealthy people, and they are sick and tired of getting low interest rates from certificates of deposit,” he says.
Mac Boyd, sales agent at Farmers National Co. in Arcola, Illinois, says investors are looking for good farms to buy. “They’re willing to pay for it, too,” he says.
4. The Increasing Amount of No-Sales
A landowner wants to sell land, the auctioneer books it, advertises it, and begins auction proceedings only for the bidding to fail to meet the seller’s expectations. This has happened all over the Corn Belt in the last year – not just in isolated areas, either. It’s occurring all over and more frequently. Why?
Louwagie says $3.50 corn doesn’t lend itself to farmland purchases.
“We’ve had good crops and good government payments, but I’m concerned that we’re burning up old cash, and land prices are going to tail off,” he says.
Farmers will sit down with lenders this fall, and the balance sheets will look different since assets are worth less this year. Grain, machinery, and land values all are down, creating a bearish environment for land.
“I don’t think we’ll see the 1980s all over again, but I expect land prices might fall 25% in the next few years,” Louwagie says.
In the meantime, expect to see more land come up for sale in 2016. Much of it will be from absentee landowners hoping to cash in on these high prices before it’s too late.
“We’re going to have a lot of land come up in the next year,” says Stu Grant, owner of Mobley Grant Auction and Appraisal in Mt. Carmel, Illinois. “Landowners are trying to catch the train, but I’m afraid it’s already left the station.”