In 2014, a share lease or other form of flexible lease may be needed to help both landowners and tenants survive the adjustment period to new market conditions. Land rental costs have not fallen to the same extent as the recent drop in crop prices. Projections of revenue and expenses for 2014 do not bode well for positive net returns, especially for a tenant. Moreover, crop price projections do not indicate a foreseeable return to the levels of recent years.
In a cash rent lease, tenants receive all crop revenue and pay for all direct expenses of growing the crop, overhead costs, and rent to the landowner. They also have an expectation of receiving some income for unpaid labor and management. Landowners do not receive any revenue from production. Landowners have overhead expenses such as real estate taxes and insurance plus they have an expectation of a return to the value of the land from production. Government payments may or may not be shared.
Adjustments in leases may be slow. Given the financial position of many farms, some tenants in a traditional cash rent lease may be willing to pay rent for which they will lose money in 2014 on rented land. The current tenant may not want to lose acreage, so they sign the owner's lease agreement for the high rent knowing they are losing money. This loss may not create cash flow devastation for the farm if they have sufficient cash reserves. Their view may say this loss is necessary in 2014 to maintain or increase farm size for future years.
Another option for 2014, or a subsequent year, is for the tenant and landowner to accept that crop price levels have changed and both the land market and land rental market are likely to change or have changed. Then the two parties can negotiate over their expectations.
Tenants will have to change their expectation for returns to labor and management. Landowners will have to adjust their estimated land value and expected rate of return. The amount of adjustment each party has to make will depend on the competitiveness of the rental market and which party has more bargaining power.
For more information, including a sample scenario of cash rent versus 50-50 share rent leases, click here.
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