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High land prices need perspective of returns per acre

May 23, 2013 | 0 comments

Although the ownership of farmland has provided the best return on investment since 2002 in the United States, there are reasons to be cautious about making purchases at today's prices despite a number of factors suggesting that owning more land would be a good idea.

That was the message from Gary Sipiorski, the dairy development director for the employee-owned Vita Plus Corp., at the semi-annual farm management update for agricultural professionals.

The event was sponsored by Extension Service offices in east central counties. He has an extensive background as an agricultural loan officer.

Sipiorski noted that land prices have risen significantly in recent years because of high grain prices, extremely low interest rates, and, in the case of dairy farms, the need to have enough land to apply manure.

He cautioned, however, that potential land buyers need to calculate the returns on investments in crop land and to apply a "stress test" of how that outlook would change with a 15-percent or more cut in those returns.

Caution Advised

"Don't overspend in good times," Sipiorski advised. He emphasizes cash flow, building cash reserves, maintaining liquidity, and considering one's legacy. "Keep a watch on yourself and the world," he said.

Part of that watch should be on the 2014 elections for Congress and state governors, Sipiorski stated.

The results, should they go strongly in one direction to ease the reigning political polarization, could have major effects on taxes, interest rates, budget deficits, and ethanol production, he observed.

The time is still good to lock in long-term low interest rates to buy land or other production assets, Sipiorski indicated.

But there are mixed signals on the horizon about farmland values ranging from the depletion of the Ogallala aquifer in the Great Plains region to the plus of having 225 dairy processors looking for milk in Wisconsin, he pointed out.

Per Acre Returns

Based on current prices, Sipiorski presented a set of annual per acre returns from various types of agricultural land usage.

Against per acre production costs of $550 for corn grain and $300 for soybeans in addition to land costs, he calculated respective returns of $350 and $70 per acre on current commodity prices. On an annual rotation of those two crops, the average per acre net would be $210.

For supporting dairy cows producing an average of 24,000 pounds of milk per year with a milk selling price of $20 per hundred, Sipiorski calculated a gross income of $5,208 per cow and a net annual return of $1,042 per cow when calf sales and a herd culling rate of 30 percent are factored in.

If three acres of cropland are needed per milking cow, then the per acre annual returns would be comparable to those for corn at $347 per acre, he stated.

If 4 percent is the desired rate of return, then anyone growing soybeans could afford to pay only $1,750 per acre.

The comparable numbers would $5,250 per acre for a corn/soybean rotation and about $8,700 for growing only corn or using the land to support a dairy herd. For an 8 percent return on a land purchase for similar uses, the per acre purchase prices would have to be halved.

Land Costs

But agricultural land sale prices have hit $8,000, $10,000, $14,000, and even $20,000 per acre recently in some Upper Midwest transactions, Sipiorski noted.

He urged farmers to plug such numbers into a scenario of per bushel prices of perhaps under $5 per bushel for corn and about $10 for soybeans when the recent estimates for production costs are running at $4.27 per bushel for corn and $11.25 for soybeans at respective per acre yields of 162 and 40 bushels.

Viewed purely from a dairy perspective, land values ought to be strong, Sipiorski indicated.

He cited the explosion in the sale of Greek yogurt for which three times as much milk is required for making a similar volume of regular yogurt, the widespread reputation of yogurt as a health food, the near doubling of per capita cheese consumption in the United States from 1980-2012, and the demand for milk powders in China.

By 2022, Sipiorski expects milk production in the United States to reach 230 billion pounds. Based on a milking herd of 8.9 million cows, that would mean an average of more than 25,000 pounds of milk per cow annually, he pointed out.

Efficiency Standards

To dairy farmers, Sipiorski recommends aiming to be in the top one-third of production economy - a positioning likely to increase the annual net income from a herd of 100 cows by $25,000 by virtue of a $1 price boost per hundred of milk.

He noted that the 6 percent of dairy herds with more than 500 cows are providing 63 percent of the nation's milk production today.

As Sipiorski sees it, the owners of the larger herds and those who find ways to boost net returns per hundred of milk will be the likely buyers of land. Before that, however, he urges everyone to "take care of what you have."

Although it's 30 years in the past, Sipiorski asks dairy farmers to be aware of what happened in the 1980s as land values deflated.

He also pointed out that the European Union, which has been a good customer for agricultural exports from the United States, faces some serious economic challenges.

Economic Outlook

In general, "land is a hedge against inflation," Sipiorski observed. He said the United States could be on the verge of inflation although the numbers don't indicate it because food and energy are not included in the formula.

He also emphasized that the costs of the health insurance program scheduled to take effect in January of 2014 are an unknown but that the average family could be facing premiums totaling about $16,000 per year.

"Black gold versus yellow gold" is one balancing act that Sipiorski mentioned.

He noted that insurance companies have been buying land, banks "are loaded with money," and many investors are seeking better returns - a situation that has steered some of them toward risky junk bonds.

While the Federal Reserve Bank board has a public stance of not altering its inter-bank lending rates until unemployment drops below 6.5 percent and interest rates top 2.5 percent, watch for another development - the unloading of federal treasury bonds, Sipiorski suggests. "If that happens, beware."

To farmers, Sipiorski advises not being in a hurry to imitate others with land and equipment purchases. It's not worth to "bet the farm" in order to buy land in today's economic climate, he remarked.

To agricultural lenders, Sipiorski posed a challenge of trying to determine which of their clients are still likely to be in business in 2022.

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