Leasing Game Intro to Flex Leases
Henderson CountyJanuary 12, 2011
Greg [email protected]://www.ca.uky.edu/agecon/index.php?p=169
Dept. Agricultural EconomicsUniversity of KentuckyDecember, 2010.
Agricultural Economics
The Leasing Game (#1)
• Tenant Farmers: Each have capacity to farm up to 1000 acres each. → Bid on lease land.→ Goal is to maximize net profit.
• Landowners (Me): Have land to rent out to farmers. Will tell you how much at the start of each game.→ My goal to maximize my cash rents.
Expected CostsInputs: Corn (150 bu) Soybeans (45.5 bu) Seed $76 $45 Nitrogen $74 $0 P, K, and Lime $66 $50 Pesticides $30 $20Total Inputs $246 $115Machinery and Labor $116 $82Other: Drying Grain $19 $0 Crop Insurance $15 $15 Misc. $20 $20 Land Rent Variable Variable Operating Interest $12 $7 Total Other $61 $37Total Costs $428 + Land Rent $238 + Land Rent
Summary Revenues/Costs
Yield and Price: Corn SoybeansExpected Yield (rotation) 150 45.5Future's Price Fall 2011 $3.50 $7.50Grain Revenue $525 $341Direct Gov’t Payment $20 $20Total Revenue $545 $361Total Costs (Less Land Rent) $428 $238Gross Return $117 $123
Agricultural Economics
Time to Bid
Make an offer to rent my land.
Agricultural Economics
Results-Leasing Game (#1)
What was the winning strategy?
Where would rents end up if we repeated?
Agricultural Economics
Increased Production Capacity (#2)
• Tenant Farmers: Have capacity to farm up to 1250 acres each.
• Landowner(s): Have same acreage.
Agricultural Economics
Time to Bid
Make an offer to rent my land.
Agricultural Economics
Results-Leasing Game (#2)
What was the winning strategy?
Where would rents end up if we repeated?
Agricultural Economics
Increased Commodity Prices (#3)
• Tenant Farmers: Still have capacity to farm up to 1250 acres each.
• Landowner(s): Have same acreage.• Commodity prices increase.
Agricultural Economics
Summary Revenues/Costs
Yield and Price: Corn SoybeansExpected Yield (rotation) 150 45.5Future's Price Fall 2011 $5.25 $11.85Grain Revenue $788 $539Direct Gov’t Payment $20 $20Total Revenue $808 $559Total Costs (Less Land Rent) $428 $238Gross Return $380 $321
Agricultural Economics
Time to Bid
Make an offer to rent my land.
Agricultural Economics
Results-Leasing Game (#3)
What was the winning strategy?
Where would rents end up if we repeated?
Agricultural Economics
Uncertainty of Net Revenue
What if we are uncertain about net revenue (price and/or yield)?
What affect will this have on rents for a long-term lease?
Who will end up getting most of new leases?
Agricultural Economics
The Leasing GameApplication Today
Was it easier to predict net revenue when corn was at $2.50/bu or today?
What happened in the past if corn fell from $2.50 to $1.50?
What happens today if you base cash rent bidding decision on $5.00 corn and it falls to $3.00?
Agricultural Economics
Nuclear Scenario$ 6.50 Soybeans (elevator)
$ 3.00 Corn (elevator)$.30-N; $.30-P; $.30-K
Gross Return
CornGross Return
SoybeansGross Return
Rotation
125 bu corn $31 $50 $40
150 bu corn $91 $87 $89
175 bu corn $151 $122 $136Note: Subtract land rent to get Net Return.
Agricultural Economics
Risk Management Options
1) Flexible Cash Leases2) ACRE Program
Agricultural Economics
ACRE ProgramFSA Program: Give up portion of direct payment. Get downside revenue protection. Revenue guarantee can only go up/down
10% per year.
Agricultural Economics
ACRE Price GuaranteesWorst-Case Scenario
(Assumes Avg. State Yield)
Corn Soybeans2011-2012 $4.37 $10.452012-2013 $3.93 $9.412013-2014 $3.54 $8.46
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What is a Flex Lease?
Lease rate will vary from year to year. Based on price and/or yield. Usually has a base rate (floor) that the
lease cannot go below.
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More Specifically:
Landowner shares price/yield risk. Limits profit potential when revenue high. Limits loses when revenue low.
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Why Consider a Flex Lease?
1) Negotiating tool with landowners.2) Potentially protect you if prices fall.
Example:Cash and Flex Lease
Expected Price of $5.00/bu
Final Corn Price
Cash Lease Rate
Flex Lease Rate
$4.00 $200 $175
$5.00 $200 $225
$6.00 $200 $275
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Options for Flex Leases
Important Point: These are only examples (although
common ones). Need to tailor Flex Leases to your
needs/requirements as well as the landowner.
Infinite ways to write Flex Leases.
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Options for Flex Leases
1) Price Ratio Price2) Bushel Equivalent Price3) Revenue Ratio Price/Yield4) Revenue Percent Price/Yield5) Revenue Base + % Price/Yield
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1) Price Ratio Simplest Flex Lease. Have a base rent and adjust for price
increases. If price increases by 25% than base rent
increases by 25% (typical).
Example: $200 base rent. $4.00 base corn price. If actual price is $5, then $5.00/$4.00 = 1.25
$200 x 1.25 = $250 rent for year
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2) Bushel Equivalent Price-based Flex Lease. Landowner gets a set number of bushels
as rent along with the final harvest-time price.
Thus final price determines the rent.
Example: 50 bu base X $4.00 = $200 rent for year. 50 bu base X $5.00 = $250 rent for
year
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3) Revenue Ratio Just like the price ratio Flex Lease. Have a base rent, a base revenue, and
adjust for final revenue increase. If revenue increases 20% from the
base, then rent increases 20%.
Example: $200 base rent. $700 revenue. If actual revenue is $840, then
$840/$700 = 1.20 $200 x 1.20 = $240 rent for year
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4) Revenue Percentage Cash-lease version of a crop-share. But usually with min. base rent. No inputs contributed by landowner. Can link yield to county average (or
some % of the average)
Example: Landowner gets 35% of revenue.150 bushels X $4.50 X 35% = $236
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5) Revenue Base + Bonus Base rent, base revenue, and %
landowner gets above the base. Sounds more complicated that it is.
Example: $200 base rent; $700 base revenue; 50% of revenue above base.
150 bushels X $5.50 = $825 total revenue.$825-$700 = $125 revenue above base.$125 X 50% = $62.50 additional rent.$62.50 + $200 base = $262.50 total rent.
Base Plus Bonus Flex LeaseFlex Lease Information: Cash Rent (for comparison) $200Base Land Rent $150Can final rent go below base rent? No Corn SoybeansTotal Costs (including base land rent) $600 $400Base Gross Revenue $600 $400Rent - % of Gross Revenue above base 50% 50%Bonus Land Rent $75 $48
Flex Rent (Base + Bonus) $225 $198
Flex Rent (rotation) $211 Increase from Cash Lease 6%
Example:Base + Bonus Flex Lease
$200 Cash Lease Comparison50% Bonus Revenue
Corn Price
Flex Lease
Net w/Flex Lease
Net w/Cash Lease
$3.00 $150 -$107 -$157$4.00 $150 $18 -$32$5.00 $211 $81 $93$6.00 $274 $144 $217$7.00 $336 $206 $342
Soybean Price 2.2 x Corn Price.
Base Plus Bonus Flex LeaseFlex Lease Information: Cash Rent (for comparison) $200Base Land Rent $150Can final rent go below base rent? No Corn SoybeansTotal Costs (including base land rent) $600 $400Base Gross Revenue $600 $400Rent - % of Gross Revenue above base 40% 40%Bonus Land Rent $60 $38
Flex Rent (Base + Bonus) $210 $188
Flex Rent (rotation) $199 Increase from Cash Lease -1%
Example:Base + Bonus Flex Lease
$200 Cash Lease Comparison40% Bonus Revenue
Corn Price
Flex Lease
Net w/Flex Lease
Net w/Cash Lease
$3.00 $150 -$107 -$157$4.00 $150 $18 -$32$5.00 $199 $94 $93$6.00 $249 $168 $217$7.00 $299 $243 $342
Soybean Price 2.2 x Corn Price.
Revenue Percentage Flex LeaseFlex Lease Information:
Cash Rent $200Minimum or Base Rent $150
CornSoy-
beansLand Rent - % of Gross Revenue 35% 40%
Flex Rent $263 $198
Flex Rent (rotation) $230 Increase from Cash Lease 15%
Example:Revenue Percentage Flex Lease$200 Cash Lease Comparison
35%-Corn 40%-Soybeans RevenueCorn Price
Flex Lease
Net w/Flex Lease
Net w/Cash Lease
$3.00 $154 -$110 -$157$4.00 $184 -$16 -$32$5.00 $230 $62 $93$6.00 $276 $141 $217$7.00 $322 $219 $342
Soybean Price 2.2 x Corn Price.
Price Ratio Flex LeaseFlex Lease Information: Cash Rent $200Base Rent $200Minimum Rent $150
CornSoy-
beansPrice Ratio (current price / base price) 1.00 1.00
Flex Rent (base rent x price ratio) $200 $200
Flex Rent (rotation) $200Increase from Cash Lease 0%
Example:Price Ratio Flex Lease
$200 Cash Lease ComparisonCorn Price
Flex Lease
Net w/Flex Lease
Net w/Cash Lease
$3.00 $150 -$107 -$157$4.00 $160 $8 -$32$5.00 $200 $93 $93$6.00 $240 $177 $217$7.00 $280 $262 $342
Soybean Price 2.2 x Corn Price.
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Flex Lease Summary Different flex leases have advantages
and disadvantages. Needs to be understandable to
landlords. Need to understand the risk-reward
tradeoff. Not for all landlords.
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Let’s Look at Your Examples
Switch over to Flex Decision-Aid
Agricultural Economics
Questions?