It’s Going to Get a Little Bumpy – How to navigate the next 36 months of lower prices and high costs. Part 1 – The Causes

“Only when the tide goes out do you discover who’s been swimming naked” – Warren Buffett

 

If you have heard the phrase “the new norm” then this blog is for you. I have been hearing this phrase about commodity prices for the last five years. The world needs food and farmers, prices cannot go down, and canola will never be $9 again. These are all sentiments I have heard numerous times, and they are all based on absolutely nothing. I believe it is called a hope and prayer, and as prices continue to slide, this may be what many producers are now counting on.

 

In this two-part blog, I’m covering the areas of cost and inflation that are currently hindering farms. Not just the progressive large-scale farms, but also the family farms that are trying to keep up with changing technologies and times. This blog is all about the causes, and Part 2 will offer solutions, so hang on, because it’s about to get a little bumpy.

 

The Causes

 

Crop Inputs

 

Although it would be easy to pick on the equipment retailers first, let’s delay for a few paragraphs. The largest expense on the income statement currently is crop inputs. Now, as I have stated numerous times in front of thousands of farms, never cut the muscle, cut the fat. However, tracking crop inputs over the last decade has become a new headache. The “new normal” for many farms has become $300 per acre or more on crop inputs.

 

Before pulse growers jump on me for a false narrative, this applies to many farms in wheat and canola country. I grew up in this type of operation, and a large number of producers I currently service are not from Southwest Saskatchewan. Pulse crops are not primary, they are secondary for many producers across Western Canada. So, what is the current cause of escalating crop inputs and nutrient planning?

 

First, volatility in cost per unit. Commodity prices go up and crop inputs tend to follow. We can talk about logistics, wars, natural gas, and all these other factors, but the truth is when margins widen, everybody wants a piece of the pie. This graph demonstrates this trend over the past years. Now we can argue the chicken or the egg, which leads to what first, but in the end the trend still ends up in the same position.

 

The second reason is that farms continue to push back against technology. I will get into some trouble for saying this, but the data shows that most farms today (not necessarily acres) are still not utilizing the technologies that have been available for decades on controlling stewardship of inputs. The right source, the right rate, the right time, and the right place. 

 

Without technologies such as soil sampling, variable rate, sectional control, and the spray technologies of “see and spray”, the cost to producers continues to go up. All these technologies do come at an equipment cost, but you need to determine returns and what that means to your individual operation. But I can tell you, too many farms are still using one type of fertilizer blanketed across numerous acres with no data on any of the 4Rs. As we continue to state, the most dangerous phrase in agriculture is “because we have always done it this way”.

 

Lastly, we continue to ignore what happens in our soil. Whether it be moisture data, soil sampling, tissue sampling, multiple applications of nutrients and chemicals, or as simple as proper crop rotations, these are all coming at a cost. The ability to treat crops based on their future potential is one of the main areas where I see costs squandered today. 

 

Equipment

 

Now we can attack the equipment manufacturers (this is usually my favourite place to start as a recovering accountant). 

 

The second largest cost on your income statement is equipment (assuming you do not custom farm or have some other arrangement). I have often stated that on most operations the amount of machinery is the problem, not necessarily the cost or the new equipment purchases. I will eat some crow as over the last two years things have occurred that have drastically affected this statement. First and foremost, the cost of new equipment is out of control and even though we know it, farms continue to purchase.

 

When I pulled the most recent combine data on our farm and our benchmarks, I had to step back a bit. The retail price of new combines based on our sample size has increased by 143% from 2021 to today. Many will say the trades are worth more as well but the increase in the cost to upgrade machine hours is up 100% while the amount you pay for the hours on your trade is only up about 25%. Furthermore, the capacity increase that you would expect for this new price is only averaging around 30-40%, so the value for the cost is not equal.  The numbers don’t work on any farms today.

 

Not to kick a dead horse, but farms also are not utilizing equipment as they have in the past. I grew up on a 4,000-acre farm, we had a 40ft drill. If you were to grow up on this same farm today, the smallest drill size of the big manufacturers is closer to 60ft. It would not be unusual for me to see two class 9 combines on a 4,000-acre farm which right now is our multiple-for-one combine. Not to generalise all farms, but as a consensus farms are convincing themselves to be overequipped today. Often, they will use crop timing as the answer, but our benchmarks show that based on the proper timing number of days for seeding and harvest, many farms are significantly overequipped which is leading to increased costs.

Lastly, let us focus on the cost of parts, insurance, and repairs. All of these have been caught in an inflation trend that I am not sure we even noticed. On our farm, general and machinery insurance has increased 100% over the last two years. Some of this is due to the higher cost of machinery, but also the fact that insurance on all items is increasing (check out your house policy this year compared to the past). Parts you can probably tie back to the manufacturers, but it has gotten to the point where we could fund having a parts manager on the farm just with savings by calling around and finding off-label parts.

 

Cost of Living

 

Many of you probably thought I would jump to interest rates, labour costs, or other “business” aspects. But the truth is when times are good farmers indulge. My parents owned a trailer when I was born. I don’t remember it, as we moved into a farmhouse soon afterwards, but times were tough and personal spending did not have a spot on the cash flow statement. Now, it is going to be a bit hypocritical having me write this with my new truck parked outside, but personal spending today on farms has gotten out of control. 

 

It used to be $10 to $15 per acre on personal ownership draws (whether salary, dividends, or other compensation). On a 5,000-acre farm, this would be $50K to $75K. We are now triple this amount on many farms in Western Canada today. I always make the joke that when I review capital listings on farms today, I need to watch for the “Malibu boats’; but this is truer than you know. Cabins, new houses and renovations, sleds, ATVs, new half-tons, and SUVs are on most of the capital listings I see today. When times are good, we don’t tend to hold back.

 

So what happens when times are bad? With the increasing costs of food and living, this area is going to be tough for many operations to turn back. Yes, the big-ticket items can be slowed, but how many were bought on financing and the cost of fuel in a boat is not cheap. I can remember clients in my public accounting days living off the GST cheques as their form of a personal budget. This would not cover many house payments today. This is an area where I do see a high concern in down cycles.

 

In the end, I have been told lately that it might be coming on a little thick but that is why I am in the position I am. I push growth in many areas of business, especially in real estate investment and labour. But when it comes to machines and personal spending, I am harder on my clients than most. As my business partner has often stated, and going back to the metaphor of bumpy roads, it is my job as a consultant to keep them between the ditches.