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By Staff | Sep 25, 2015

The drop in net farm income from $91.1 billion last year to $58.3 billion this year is a big thing. Imagine if someone off the farm had their wages or salaries reduced 36 percent.

They would be scrambling pretty hard to make ends meet. Government payments of $1.6 billion are already included in the net income total. Cost saving didn’t help out much last year calculated by USDA at just $1.5 billion which was also included in the net.

USDA said crop inventory in the bins devalued $5.8 billion. That is why we advised subscribers and clients not to store.

Why hold a devaluing asset? You may not get much return on money in a bank, but at least they will give it all back to you in a withdrawal.

Crop income fell $12.9 billion by price. Agriculture is not broke. Debt-to-asset ratios are still fairly good as farmers made some money in recent years and built some equity.

The debt to net farm income ratio however, as calculated by Landowner Magazine, has now turned quite negative as the result of lower commodity prices and persistent higher costs.

They have cited a 4-to-1 debt to net farm income ratio as a benchmark for a healthy Ag economy. They recently noted that with the decline in net farm income this year the ratio went to 6.3 to 1. It hasn’t been that high since the Ag depression of the 1980s. What that says is that farmers can’t make ends meet and service debt with this low of an income.

The squeeze is on. We have a problem. It is multifaceted. U.S. farmers always believed that when prices fell they were the most competitive in the world and farmers in Russia, Ukraine or Brazil would fold before they did. U.S. farmers didn’t count on the strength in the U.S. dollar.

The weakness seen in these competitive currencies in the case of Brazil means that the price of soybeans in real is almost double ours and corn in Brazil was close to $6 bushel priced in real. That doesn’t eliminate their infrastructure disadvantage for farmers in Brazil, but farmers around the world with weak currencies will be expanding, not reducing, acreage.

Their income has been inflated by producing commodities worth far more rubles than dollars. Brazil is poised to produce another record set of crops next season.

Any further strength in the U.S. dollar will only perpetuate and exacerbate the financial stress on the U.S. ag sector. The negative currency outlook will act as a barrier to exports of all kinds including U.S. meat exports. The Japanese yen has lost 36 percent of its value to the dollar since 2012. While that was done on purpose to boost Japanese exports, it also reduces the buying power of what has been our top ag customer. The tariff reduction from a TPP trade agreement would only offset part of that lost buying power from the yen devaluation.

What are farmers going to do about their 6.3 to 1 debt to net farm income ratio? I don’t think that we can count on prices going up. There should be some market opportunities develop, but two years of back to back near doubling of the U.S. soybean carryovers plus record acreage, and prospects for the next Brazilian soybean crop doesn’t bode well for the intermediate term price outlook for soybeans.

Farmers are going to have to reduce costs. University of Illinois Extension Specialist, Gary Schnitzler, said that farmers need to cut $100 acre from 2016 production costs of corn and soybeans. He said that the price of corn has to be above $4.36 to get that debt-income ratio back to neutral. Needless to say they are not paying anywhere near that for corn today.

Farmers with high fertility farms can mine that fertility for a little while but the savings is temporary. Fertilizer prices have room to come down but they fight it every step of the way. Fertilizer cost is tied to energy prices and energy prices have fallen.

There should be more price pressure as new fertilizer plants under construction come on line. Fuel prices should see some savings as propane for corn drying hit record low prices. Grain elevators will be reluctant to pass those savings on. There will be cost savings on diesel fuel but here again, retail fuel prices have fallen slower than wholesale prices and the crude oil market.

Seed is priced like it is marketed by a closely held cartel. Competition between seed companies is weaker than it should be. Seed cost is tied to genetics. Farmers can closely manage genetics so that they don’t pay for more than they need but buying less genetics than they need can ruin other efforts to cut costs quickly if yields suffer. If they have to replace seed traits that resist pests with chemical treatments the cost savings evaporates or increases.

Cash rents for farmland have potential for the biggest cost savings. Schnitkey said he thinks cash rents will decline about an average $30 acre for next year. While Schnitkey said that farmers need to reduce costs $100 acre, I don’t see where he found that much savings. Remember, farmers would not be making money after a $100-acre cost reduction. With current prices they would just be breaking even, and you can go broke breaking even as the cost of living is not free.

A blog quoted a farm manager as saying that working with operators with a “world is ending attitude, is no fun.” I would note however, that when the debt to net income ratio of 6.3 to 1 was published, the reality of the cost price squeeze that the ag sector is now under, soaked into professionals, bankers, and even a few landlords that follow this. The world is not coming to an end, but if that ratio stays high, it would not be long until you could see it from here. Cost adjustments will be imperative.

David Kruse is president of CommStock Investments Inc., author and producer of The CommStock Report, an ag commentary and market analysis available daily by radio and by subscription on DTN/FarmDayta and the Internet.

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