Comparing Farm Investments: Permanent Crops Versus Row Crops

Known for historical inflation hedging and noncorrelation to traditional assets, farmland as an investment has been touted as a strong alternative to assist in an overall portfolio diversification strategy.

It may strike you as a niche alternative, but with roughly 900 million acres in the U.S., farmland is a vast asset class with tons of diversity. That means real estate investors have a lot of choice about what kind of farmland to invest in, and it’s very possible to achieve further diversification within a portfolio of farmland.

When it comes to farmland investments, one of the most useful distinctions is between row crops and permanent crops. Although there are many more, these two types of cropland encompass just about all productive land directly used to grow food, fuel, and fiber.

Each type offers different risk and return profiles, behaves differently with respect to cash flows and appreciation, and requires different diligence considerations. Read this article to start designing a farmland investing strategy that takes these differences into account.

Contents

• What Are Row Crops and Permanent Crops?
• How Farmland Generates Returns
• Row Crop Investments
• Permanent Crop Investments
• Final Thoughts

What Are Row Crops and Permanent Crops?

Row crops are traditional commodities like corn, soybeans, rice, and cotton, as well as dry beans, sunflowers, sugar beets, and other grains and vegetables. These are annual crops that are planted, grown, and harvested in 6-12 month cycles. This cycle allows farmers the option to plant different crops, or rotate, each year to capture optimum soil productivity and nutrient benefits and/or pricing and profitability upswings.

In the U.S., row crop production dominates in the Midwest and the Southeast.

Permanent crops are perennial trees or vines that are generally harvested every year and have 20+ year lifespans. Examples include almonds, apples, pistachios, olives, and wine grapes.

The large majority of permanent crops are grown on the West Coast and in the Southwest because the Mediterranean climate allows for adequate growing-degree days paired with chilled winters, which promote proper budding and bloom.

New permanent crop developments typically take 3-6 years from initial planting to produce a commercial crop and up to 10 years to reach full maturity. This production lag can create an unresponsive (i.e., non-income-producing) supply in the short term but the potential for price upside down the road.

This means that a permanent crop investment is exposed to the long-term supply and demand fundamentals of the crop, an important concept in permanent crop investment.

How Farmland Generates Potential Returns

Investment returns in farmland are generated from (1) cash flows from annual lease payments or commodity sales and (2) annual appreciation of the underlying land; these two elements combined comprise the total potential return of a farmland investment. When AcreTrader considers the latter value of appreciation, we abide by the long-term data average annual growth rate of 6%, from the USDA (1970-2022).

Historically, row crop investments have offered modest cash flows, generating a majority of their return via appreciation. Permanent crops generally require higher initial investments but have experienced historically higher cash flows and higher total returns, with appreciation more variable than for row cropland. Keep in mind, distributions are not guaranteed from any investment.

Row Crop Investments

Row Crop Investment Cash Flow

Row crop annual cash returns are often generated from the payment of a cash lease by the farmer to the landowner. Cash leases frequently offer lower cash returns than income from permanent crops, but they also reduce the landowner’s exposure to operational risk.

With land that grows row crops, investments are generally not exposed to the performance of the crops themselves or the operations of the farm. The farmer pays the landowner a cash rent to use the land for growing crops, taking on all operational risk of running the farm and commodity price movements.

Most rents are finalized before the annual crops are planted, and these rents tend to be stable or growing over time, as many leases are set up with multi-year terms. As a result, annual cash returns to row crop investors also tend to be far less variable than those of permanent crops.

Cash leases are a very common method by which investors earn income from farmland and the structure AcreTrader most often uses with row crop investments. Lease rates vary within and between different productive regions; for example, in the same year a competitive rental rate might look very different in Minnesota, Iowa, and Mississippi.

Row Crop Investment Appreciation

Without exposure to depreciation of trees or vines, row crop investors’ financial exposure is limited to the underlying movement in land value.

Row Crop Investment Due Diligence

Thorough due diligence is crucial when embarking on any investment. Farmland diligence involves evaluating the asset itself, its price, and the market in which it’s located.

AcreTrader’s evaluation process examines a myriad of information like soil types and productivity, water availability, irrigation infrastructure, historical yields, county rents, tenant density, regional commodity prices, local sales activity, and much more.

Permanent Crop Investments

Permanent Crop Investment Cash Flows

Given the substantial amount of investment capital needed to develop and operate permanent crops, in addition to the time it takes for the crops to become productive, permanent crop investments’ average cash-on-cash return tends to fluctuate based on how much of the overall project is currently producing. A permanent crop planting orchard may take 3-5 years to become fully productive, but permanent crops have historically yielded an average of 8.7% on a whole-project basis, according to the NCREIF Farmland Index.

Importantly, an investment in permanent crops involves exposure to a farm’s actual operation. An investment’s distributable cash flow is typically based upon actual revenue (crop prices x crop yields) or, more commonly, on profitability (actual revenue less total expenses).

Thus, there can be larger swings in permanent crops’ annual income as compared to row crops, due to variables such as weather affecting crop production or crop prices fluctuating.

Permanent Crop Investment Appreciation

Another consideration in permanent crop investments is crop life cycle. Most permanent crops have a productive life of several decades, but eventually, the trees or vines will start to decline in production and may need to be replanted. In other words, the crop assets themselves tend to lose value, or depreciate, over time. This is an important factor to consider when acquiring a mature orchard instead of a new development.

For example, assuming an equal investment in land and almond trees, 6% annual appreciation in the underlying land value each year alongside 3% annual depreciation in the value of the trees would imply 3% total appreciation annually.

Permanent Crop Investment Due Diligence

When identifying and underwriting permanent cropland to purchase, it is important to have a firm economic understanding of the crop itself and its market outlook. Our team conducts substantial ongoing macro research on the specific crops we offer for investment and makes this research available to investors.

Successful permanent crop investments also depend on working with a solid operating partner, what we call “Farm Sponsor”. As the managing member and operator of the investment, the Farm Sponsor typically has a presence in the region and participates in the business economics by working directly with the local farming team and community.

The Farm Sponsor model allows investors and Sponsors to share economic upside, aligning interests in the optimization of farming and investment outcomes. Meet an AcreTrader Farm Sponsor here.

Final Thoughts

• Row and permanent crops can provide unique investment characteristics with respect to operational exposure, cash flows, and appreciation.
• Both types of farmland can play an important role in a diversified portfolio.
• Rigorous diligence and evaluation is important for both types, but knowledge of the commodity market and your operating partner is extra important for permanent crops.

AcreTrader makes it simple for investors to start adding farmland to their portfolios. Not only that, a regular cadence of different types of farmland offerings makes it easy for investors to gain broader exposure across this important asset class.

Create your account today to start diversifying with farmland.

The above content is not intended to be a comparison between products, but is intended for general, educational and informational purposes only. Any performance noted is historical and there is no guarantee any trends will continue. All investing involves risks, including the complete loss of principal. Diversification does not guarantee a profit or protect against loss in a declining market. It is important for each investor to review their investment objectives, risk tolerance, tax liability and liquidity needs before investing. Investment vehicles have differences in fee structure, risk factors and objectives. Investments are considered speculative, involve a high degree of risk, including complete loss of principal, and therefore are not suitable for all investors. Investments are illiquid, not listed on an exchange, and not a short-term investment.

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