Weathering Unexpected Downturns in Agriculture. Paul Ellinger University of Illinois

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1 Weathering Unexpected Downturns in Agriculture Paul Ellinger University of Illinois

2 Outline Risks and risk weights Agricultural producers Profitability Asset valuations Simple shocks Lenders to Agriculture Who is financing? Financial condition Simple shocks Discussions Ellinger, 7/20/2011 2

3 Ellinger, 7/20/ Quotes Robert Shiller: farmland is a dark horse bubble candidate partially because the environment is similar to the 1970s in the U.S. when a food price scare sparked the last farmland bubble. Sheila Bair (FDIC Chair): signs of instability exist in farmland markets and require close monitoring

4 Ellinger, 7/20/ Agricultural Weights Risks: different from 1980s? Portfolio / Magnitude Higher or Lower? Weights Different? Farmers Lenders Suppliers Government Investors Insurance Cos. Consumers Others Can the new risk bearers manage the risks?

5 Profitability Figure 1. U.S. Net Farm Income F F 2011F Net Farm Income Average NFI ( F) 250,000 Figure 2. Average Income on Illinois Farms , , ,000 50, Ellinger, 7/20/2011 Illinois Average Net Farm Income Average Net Farm Income Illinois Farms 5

6 Aggregate Measures Relative Stability Good Times Bad Times Relative Stability Good Times Good Times Debt to Asset Relative Stability Good Times Bad Times Relative Stability Good Times Good Times 0.20 Debt Coverage Ellinger, 7/20/2011 Economic Research Service

7 How Many Farms Does It Take? Value of Ag Output - $200 Billion Ellinger, 7/20/2011 Distribution matters 389 Farms 30,495 Farms 34,085 Farms 3,201 Farms 2,000,000 Farms 0% 10% 25% 50% 100%

8 Farm Financial Conditions Briggeman: 2008 & 2011 Debt Utilization Leverage Net Worth Extensions: Sources of loan repayment Cash Flow and Earnings Liquidity Equity Ellinger, 7/20/2011 8

9 Ellinger, 7/20/ Illinois Farm Records data % revenue drop to reduce repayment capacity to 1.25 benchmark 20.00% 15.00% 14% 10.00% 5.00% 0.00% -5.00% % % % % % 3% % % -7% -10% -13% -20% -19% -26% 25% percentile 50% percentile

10 Revenue Decline: 50% farms below repayment capacity benchmark (ave: ) 0% -2% -4% -6% -8% -10% -12% -14% -16% -18% -20% Baseline Large Young Livestock -2% -15% -18% -17% Ellinger, 7/20/

11 Ellinger, 7/20/ Liquidity: Working Capital to Sales % percentile 50% percentile

12 Ellinger, 7/20/ Components of Equity Figure 5. Components of Farm Equity 100% 90% 80% 41% 37% 36% 38% 36% 70% 60% 50% 40% 44% 43% 44% 46% 46% 30% 20% 10% 19% 21% 12% 18% 18% 0% Working Capital Real Estate Other

13 Ellinger, 7/20/ Leverage Changes: 30% Decline in Farmland Prices Baseline Young Large Livestock Baseline 30% Reduction

14 Ellinger, 7/20/ Interest Rate Risk: Farmers Capital values more than cash flows Source: Schnitkey and Sherrick

15 Land Value Ellinger, 7/20/ Land Prices: CAP Rates x Cash Rents $6,500 $6,000 $5,500 $5,000 $4,500 $4,000 $3,500 $3,000 $2,500 $2,000 Source: Schnitkey and Sherrick 3.20% 3.70% 4.20% Cap Rate $195 $169 $145 Cash rent 4.70% $ % 5.70% $6,000 -$6,500 $5,500 -$6,000 $5,000 -$5,500 $4,500 -$5,000 $4,000 -$4,500 $3,500 -$4,000 $3,000 -$3,500 $2,500 -$3,000 $2,000 -$2,500

16 Ellinger, 7/20/ Farm Debt Shares 160, , , ,000 80,000 60,000 Farm Service Agency, 2,343 Individuals and others, 9,164 Life insurance companies, 14,246 Commercial banks, 50,338 Farm Service Agency, 2,823 Individuals and others, 11,113 Commercial banks, 57,027 40,000 20,000 Farm Credit System, 58,423 Farm Credit System, 39,883 0 Real Estate Non Real Estate

17 Ellinger, 7/20/2011 How Many Banks Does It Take? % of Commercial Bank Loans to Agriculture Distribution Matters 15 Banks 474 Banks 821 Banks 332 Banks 5,184 Banks 0% 20% 40% 50% 100%

18 Ellinger, 7/20/2011 Delinquency Rates: Commercial Banks Delinquency Rate (%) Commercial Real Estate, Agr Loans, 9.08 Residential Mortgages, 9.94 Commercial Real Estate, Business Loans, 6.37 Credit Cards, 5.24 Residential Mortgages, 3.24 Credit Cards, 4.17 Business Loans, 3.01 Agr Loans,

19 Financial Health: Commercial Banks Profitability: ROA 2010 Q4= 0.88 Failed Banks Q1 1.2 billion of ag loans banks) Commercial Banks: Problem Ag Loans / Equity 68 banks > 20% 232 banks > 10% (1.5% ag loans) (4.7% ag loans) GA, FL, OK, NE Ellinger, 7/20/

20 Health of Commercial Banks Table 1. Distribution of Agricultural Loans at Commercial Banks By Equity/Asset Ratio December 2010 Large Banks 1 Other Banks Equity to Assets Share Number Share Number less than 4% % % 1.2% 8 7.0% % 16.5% % 3605 > 12% 6.0% % Banks with assets exceeding $10 billion. Table 2. Distribution of Agricultural Loans at Commercial Banks By Equity/Asset Ratio Shock Equity 10% of Ag Loans December 2010 Large Banks 1 Other Banks Equity to Assets Share Number Share Number less than 4% % % 1.2% % % 16.6% % 2902 > 12% 5.9% % Banks with assets exceeding $10 billion. Ellinger, 7/20/

21 Health of Farm Credit System ROA 2011Q1=2.19% Capital to assets ratio for FCS associations exceeded 17% with nonperforming loans at 2.39% of gross loan volume. 16 FCS associations nonaccrual / loans > 5% (Q4 2010) 5 FL, 3 TX, 2 GA and all others in south Ethanol, hogs, dairy, forestry, and poultry are the portfolio segments experiencing the most stress across the Farm Credit System. Cumulatively, these segments represent about 1/5 of Farm Credit System s portfolio. Ellinger, 7/20/

22 22 Discussion: Weathering Unexpected Downturns in Agriculture Discussion