profits and risk: choosing the best lease arrangement · 2019. 12. 11. · share lease 1/3 –2/3...

Jim JansenNebraska Extension Regional Economist

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Profits and Risk: Choosing the Best Lease Arrangement

Jim Jansen

Agricultural Economist

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402-261-7572

Agricultural Land LeasesPerspectives on Nebraska Agricultural Land

mailto:[email protected]


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U.S. Farmland Ownership, Tenure, and Transfer SurveyUSDA–Economic Research Service, Aug. 2016

• In the United States, nearly 40 percent of farmland receives some form of rent for crop production or grazing

• Changing landownership patterns across midwestern states increased the popularity of cash leases• Cash leases limit the ability of landlords and tenants to share risk/return

• Share and flex leases base rent off actual production (yield), price, or revenue

Percent of U.S. farmland rented by County US Farmland, Ownership, and Tenure, USDA-ERS, Aug 2016


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Cropland Acres Owned by Operator Age Group in Nebraska

Source: Cornhusker Economics, January 23, 2019

Cropland Acres Rented by OperatorAge Group in Nebraska

Source: Cornhusker Economics, January 23, 2019


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Types of Agricultural Leases

• Share: landowner receives percentage of production (actual crop yield) as payment for leasing the agricultural land to tenant. Landowner may share input and production costs.

• Cash Lease: landowner receives an agreed upon cash payment amount for leasing the agricultural land to the tenant.

• Flex Lease: landowner and tenant set a base cash rental rate which can flex upon actual production, prices, or combination of the two (revenue).

Cropland Lease Arrangements in Nebraska by Region

Source: UNL Nebraska Farm Real Estate Survey, 2015


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Prevalence of Crop Share Lease Arrangements in Nebraska

Source: Nebraska Farm Real Estate Market Development Survey, 2017.

Risk & Uncertainty Under Lease DesignFactors for Lease Considerations


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Cropland Lease Arrangements Risk and Returns

• Risk and returns vary based upon expected prices and yields

• Crop share or flex leases allow for effective rent to vary based upon yield, price, or revenue

• Preferences for the lease type vary based upon land owner and tenant

Risk

Ave

rage

Ret

urn

Tenant

Custom Farm

Crop Share

Flex Lease

CashRent

Landlord

CashRent

FlexLease

CropShare

Custom Farm

Flexible LeasesShared Risk Tool

Cash Lease

Share Leases

Flexible Lease

Unit Change

Rent per Bushel

Rent per Unit Price

Bushel Bonus

Price Bonus

Net Change

Percent Yield

Percent Price

Percent Income

Gross Change

Overall Yield

Overall Income


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Entity Responsible for Maintaining Irrigation System as Part of Cash Lease in Nebraska


Discount on Cash Rent per Acre When Tenant Owns Pivot for Irrigation System in Nebraska



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Expenses Paid by the Landlord to the Tenant in Common Crop Share Leases


Seed

33 : 67 20 80

40 : 60 44 56

50 : 50 75 25

Fertilizer

33 : 67 33 67

40 : 60 84 16

50 : 50 89 11

Chemicals

33 : 67 28 72

40 : 60 62 38

50 : 50 77 23

Average Percent Distribution

- - - - - - - - - Percent - - - - - - - - -

Expense and Crop

Share Lease

ArrangementLandlord

Proportionally Share

Landlord Do Not

Proportionally Share

Marketer of Landlord’s Portion of Crop Produced Under Crop Share Leases



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Lease Provisions for Existing Farm Grain Storage as Part of Cropland Rental Arrangements


Nebraska Farm Real Estate ResourcesCash Rental Rates & Related Information


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Nebraska Farm Real Estate Survey

• Annual survey conducted since 1978 of Nebraska agricultural appraisers, professional farm managers, and bankers engaged in the land industry.

• Preliminary results for land values and rental rates published the second week of March.

• Full report published in June.

• Nebraska Farm Real Estate website full access to these resources: http://agecon.unl.edu/realestate

Dryland Cropland Rental Rate Ranges – 2019 Season

North

H: $74/ac

A: $50/ac

L: $36/ac

Northwest

H: $40/ac

A: $27/ac

L: $21/ac

Southwest

H: $55/ac

A: $38/ac

L: $31/ac

Central

H: $110/ac

A: $84/ac

L: $67/ac

Northeast

H: $245/ac

A: $205/ac

L: $170/ac

East

H: $230/ac

A: $200/ac

L: $160/ac

By Region

High Grade (H)

Average (A)

Low Grade (L) South

H: $105/ac

A: $73/ac

L: $47/ac

Southeast

H: $185/ac

A: $155/ac

L: $125/ac



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USDA-National Agricultural Statistics Service Cash Rent Survey

• Biennial survey conducted by the USDA-National Agricultural Statistics Service (NASS) of farmers and ranchers

• Survey starts in late-winter and conducted through mid-summer of odd-numbered years

• Analysis published around the second week of September

• Nebraska county estimates in addition to other resources may be found at: www.nass.usda.gov/Statistics_by_State/Nebraska/Publications/County_Estimates/

Dryland Cropland Rental Rates – 2019 Season

Source: Farmland Rental Rate Survey, USDA-NASS, Sept 10, 2019


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Fillable PDF Leases – AgLease101.org

Click

Document

Library

Fillable

PDF

Forms

Lease

Publications

Evaluating Agricultural Lease PerformanceRepresentative Farm Research


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Flexible Lease Arrangements

• Agricultural, commercial, and retail properties use flexible lease arrangements in renting of properties across the United States

• Flex provisions seek to more equitably divide revenue generated from the operation of the leased assets and allow for risk sharing between tenant and landlord. • Flex lease provisions create uncertainty as production, prices, or sales may

fluctuate due to risk in unforeseen events.

Evaluating Cropland Leases

Representative cropland yields based off actual crop yields from the Eastern Nebraska Research and Extension Center (ENREC)

ENREC


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Lease Scenarios

• Cash Lease –fixed cash payment equal to non-irrigated cropland cash rent from USDA-NASS survey 2019

• Crop Share – one-third / two-third division of crop yield

• Flex Lease – base cash rent plus bonus based on amount exceeding trigger• Price – planting time price average base and harvest time trigger

• Yield – expected yield base and harvest yield trigger

• Revenue (Price x Yield) – base revenue and harvest revenue

Simulated Crop Price & Yield

Harvest Time Price Irrigated Corn Yield

Hvst Price: $4.00/bu

Per

cen

t

Per

cen

t

Price per Bushel Bushels per Acre

APH: 158 bu/ac.


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Flex Lease Formula

R, effective cash rent, consists of the base 𝐵 and value of the flex 𝐹, given by:

𝑅 = 𝐵 + ത𝐹𝐹, depends on the percentage above a trigger value for the random variable

෨𝐹 = 𝐵 × 𝑒𝑥𝑝 −𝜌 𝑇 − 𝑡 × 𝔼෨𝑋 − 𝑋

𝑋, 0

+

𝜌 is a discount rate, 𝑇 (𝑡) is harvest (present) time, 𝔼 is an expectation operator for the random variable ෨𝑋 and 𝑋is the trigger or threshold for the random variable

A Monte Carlo simulation for the variable ෨𝑋, be it price, yield or crop revenue, results in simulated values for 𝐹 the mean of which is the value of the flex provision of the lease, ത𝐹.

Base Simulation Results

Leasing Alternative Feature Landlord (GR/ac) Tenant (GR/ac)

Cash Rent -$198($0)

$392($207)

Share Lease 1/3 – 2/3$197($69)

$394($138)

Flex Lease $175 Base

Price $4/bushel$175 + $19 = $194

($37)$571

($187)

Yield 193 bu./acre$175 + $3 = $178

($7)$587(205)

Gross Revenue $772/acre$175 + $7 = $182

($21)$584

($191)

**GR = mean Gross Revenue with the standard deviation directly below in parentheses.


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Flex Lease ScenariosPrice & Yield Bonus

Price Bonus Yield Bonus

Per

cen

t

Per

cen

t

Dollars per Acre Dollars per Acre

P(base>$198) = 4.4%

P(base<=$198) = 95.6%

P(base>$198) = 23.5%

P(base<=$198) = 76.5%

Flex Lease ScenariosCrop Share & Revenue Bonus

Crop Share Revenue Bonus

P(base>$198) = 42.8%

Per

cen

t

Per

cen

t


P(base<=$198) = 57.2%

P(base>$198) = 10.0%

P(base<=$198) = 90.0%


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Base Scenario Simulation Results

• Cash rent provides a higher return to the landlord over crop share and flex leases• Cash rental rates might be higher than yields or prices financially support

• Crop share lease factors such as the division of the yield and sharing of expenses remain important in negotiations

• Flex leases allow for increases or decreases in cash rent based upon varying factors, but the flex tends to reflect lower revenue potential

Certainty Equivalents and Risk Aversion

• Certainty Equivalent (CE) is the guaranteed return that would deliver the same utility as an uncertain outcome

• Research identified flex lease trigger price, yield, and revenue parameters which have an Expected Value (EV) equal to the CE plus Landlord Risk Premium

Wealth ($)

Uti

lity

(W)

E(U)

CE

Landlord Risk Premium

EV


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Certainty Equivalents per Acre Under Alternative Landlord Risk Aversion Levels

• The difference between the base scenario mean and the certainty equivalent amount represents the risk premium required to induce a risk averse landlord to accept the risk in the base scenarios.

Leasing Alternative

Hardly Risk Averse

Moderately Risk Averse

Very Risk Averse

Cash Rent - - -

Crop Share $191.06 $175.03 $162.29

Price Flex $192.75 $188.53 $185.82

Yield Flex $178.12 $177.90 $177.70

Gross Rev. Flex $181.24 $179.96 $179.17

Price Flex Lease & Risk Aversion

• As an example, the base scenario price flex lease is $175 for certain and a random $19 for a total random gross return on $194/acre

• A hardly (very) risk averse landlord would take the lesser CE of $192.75/acre ($185.82/acre) with a moderately risk averse landlord taking $188.53 instead

• A risk averse landlord will take less to avoid risk, or alternatively, require more (i.e. the premium) to take on riskWealth ($)

Uti

lity

(W)

E(U)

$186

Very Risk Premium$194 - $186 =$8/ac

$194

Risk Premium=$8/ac.


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Threshold Price, Yield and Gross Revenue

Risk Aversion Price Yield Gross RevenueHardly $3.69 154 $3.13 x 186 = $582.18

Moderately $3.47 149 $2.97 x 183 = $572.79Very $3.31 144 $2.94 x 179 = $526.26

Base Scenario $4.00 193 $4.00 x 193 = $772.00

• The prices, yields and gross revenue thresholds required to ensure that the certainty equivalent is equal to the base cash rent of $198/acre

Very Risk Averse – Gross Revenue

P(base>$198) = 10.0%

P(base<=$198) = 90.0%

Critical Thresholds & Risk Preferences

Base Scenario – Gross Revenue

Per

cen

t

Per

cen

t


P(base>$198) = 44.5%

P(base<=$198) = 55.5%

profits and risk: choosing the best lease arrangement · 2019. 12. 11. · share lease 1/3 –2/3...

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