Nov 9 2022
How Do Farmers View ROI in High-Cost Environments?
To continue the inflation series, there is no way to have an in-depth discussion on high-cost environments without dedicating an article to return on investment (ROI). Farms are businesses, operating to not only feed and power the world, but remain profitable in order to continue operating year after year. The ideal situation, just like any other business, would be scaling or maintaining a solvent operation. However, many external factors influence the reality and ease of doing so today.
Commodity prices, marketing, and market volatility are large factors in considering ROI in times of inflation as these are the main forces in generating revenue. Insurance also plays a role in determining management practices as a source of guaranteed income during times of extreme volatility.
A largely followed topic that could potentially reduce ROI is derived from the rapid increase in interest rates from the Federal Reserve Bank (Fed). While interest rate hikes are being used to curb inflation, raising interest rates could easily transition to impacting producers negatively. Agricultural loans are typical due to the capital intensive nature of the industry. Lending priorities have shifted from expansion and equipment to operating and refinancing.
Producers, the USDA, and those who closely follow the agriculture industry are well aware of the impact, risk, and pressures associated with operating in high-cost environments. The Farm Service Agency (FSA) has distributed $800 million in efforts to keep farmers farming amid the lingering effects of Covid-19 and inflationary times. This is part of the Inflation Reduction Act (IRA) to alleviate financial risk for farmers facing financial crises.
With skyrocketing inputs and farmers focused simply on staying afloat, commodity prices and marketing strategies will be key components of ROI and profitability. While commodities have generally been historically high, it is important to understand the risk associated with accepting current prices as the new normal. While markets have found a comfort zone and situated themselves appropriately, capitalizing on prices above operating margins is vital.
In times with lessened inflationary pressures, ROI is relatively simple to calculate with consistent interest rates, input costs, and commodity prices. However, ROI in the traditional sense is a minimal factor in the minds of farmers in high-cost environments.
Farms, much like businesses, tend to invest in growth and expansion in times of increased profitability. This is not one of those periods of growth historically seen in agriculture. 2023 will be a year of focusing on the bottom line rather than ROI, because investments will be minimal. USDA intervention has already signaled alarms for the decline of farms’ liquidity. If input costs continue to rise in conjunction with stagnant or decreasing commodity prices, farm income will be the only concern. Revenue will be of the utmost importance, while returns on investments take a backseat–mostly due to the limited number of long-term investments taking place.