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Farming leases are common in the agriculture industry. With around 40% of farmland operated by someone other than the landowner, there are numerous varieties of arrangements by which farmers rent their land.
A farm lease lays out the terms of agreement between the farm owner (landlord) and farmer (tenant). Sometimes that lease includes a flex rent provision that allows the landowner to share in the seasonal risk and reward of the farmer’s operation, offering a measure of financial protection for the farmer and of potential upside for the landlord.
This article describes a few of the most common financial farm lease structures used on row crop farms and breaks down a case study of a recent AcreTrader farm offering to illustrate how a flex rent agreement works.
Types of Farm Lease Agreements
Most row crop lease agreements are one of three types: cash rent, crop share agreements, and flex leases:
1. Cash Rent: The tenant agrees to pay a predetermined annual amount per acre to farm the land. In most instances payment is either made in full at the beginning of the crop season or split into two payments, with half due at the beginning of the growing season and half at the end. Depending on the length of the lease, it may contain provisions for rent escalation in future years of the lease term.
Example: A farmer pays $300/acre to rent a farm regardless of the farming outcomes.
2. Crop Share: The tenant and landlord agree to a percentage split of all farm profit. Farm profit can include crop sales as well as crop insurance payments and payments from government farm programs. Often, this kind of agreement involves the landlord sharing in farm input costs as well (fertilizer costs, for example). Additional reporting by all landowners may also be required to qualify for federal support programs through USDA.
A crop share allows for landowner participation in additional upside in years with higher commodity prices or yields, but also exposes the landlord to additional risks around weather, commodity risk, and direct operations.
AcreTrader does not have crop share agreements on any of the farms we manage due to the administrative complexity they would entail for our business model.
3. Flex Rent: The tenant agrees to pay a predetermined amount of “base rent” per acre to farm the land, just like in the cash rent agreement described above. In addition, the tenant agrees to pay an extra amount (often called a “bonus” or “kicker”) after harvest if certain conditions are met.
The additional rent amount is based on current commodity prices for the crop grown and the on-farm yield, or the amount of crop produced that year measured as a per-acre average. This hybrid model allows a landowner to lock in their minimum return from the base rent, but still participate in the upside of high yields and/or high commodity prices.
Flex leases are most common in the Midwest. According to research conducted by Iowa State University in 2017, about 18% of all cash farm leases included some kind of flex arrangement. AcreTrader has multiple ongoing investments with active flex leases, as this arrangement works well with our business model.
Farming Leases and Risk Exposure
It’s important for landowners to be knowledgeable about the details of flex and crop share leases, as they can take many different forms, and each exposes the landowner to different levels of risk and reward associated with the farm operation.
Generally speaking, cash rent brings less risk exposure, as the landowner receives a set payment amount annually. Flex rent brings variable exposure depending on the impact and scale of the bonus payment. Crop share leases bring elevated exposure, as the landowner is often sharing in both input costs and farm income from multiple sources.
Flex Rent: An AcreTrader Case Study
A flex lease has two potential paths for the landowner to receive rent:
Firstly, there is always an agreed-upon base price per acre which is paid on an annual basis regardless of crop yields or commodity prices. This payment is guaranteed. For this farm, that payment is 2.5% percent return on their initial investment.
Secondly, there is a potential bonus payment based on the yield, measured in bushels per acre (bu/ac), and commodity price, measured as a percent return on the initial investment. This payment is dependent on the farm’s actual crop production (its yield) and price of the crop at time of harvest (commodity price).
(For reference, a “bushel” is the most common unit of measurement for harvested crops. A bushel of corn, for example, is 56 pounds of dry grain.)
In a base scenario, the landowners of this farm could expect to receive at least a 2.5% return in rent annually. Using the sensitivity chart as a guide, if in a given year the farmer yields 220 bu/ac of corn and the corn is sold for $5.50/bu, then the farmer will pay an additional percentage per acre in rent for a total return of 3.9% for that year. Any increase in the rent payments could have a direct impact on the net yield paid out to investors.
Flex rent agreements like the one represented here are generated by calculating a farmer’s average gross revenue per acre from that year’s average commodity price for a particular crop and the actual production history of the farm that year. If that gross revenue exceeds the established base rent of 2.5%, the extra revenue is shared according to regional norms for that crop.
The value of a lease agreement should always be considered in the particular context of each property and operation. Here at AcreTrader, our priority is negotiating lease agreements that allow for the farmer’s long-term success on the parcel as well as steady, attractive returns for investors.