Water is a central component of the Canadian farmland investment thesis – indeed Canadian farmland (as distinct from US or other farmland) might be seen as a proxy for investing in water itself for several reasons:
- Because the impacts of water shortages, droughts and climate change are anticipated to be less in Canada than in most other major Ag exporting countries, it stands to reason that Canadian farmland should, over time, attract premium values as compared to farmland that is more subject to these risks.
- As relative yields suffer and/or even decline in other parts of the world, it is anticipated that yields will increase in Canada (along with Brazil and potentially Russia). We are already seeing this trend in a significant shift in the corn belt north and west into Ontario and Manitoba.
- Some Canadian farming regions like Temiskaming and Grand Prairie should benefit disproportionately as compared to other countries and other regions that face climate, water and drought pressures.
- It is becoming apparent that China has adopted a policy of effectively “importing water” from countries like Canada by increasing imports of water-intensive products like soy and corn and concentrating domestic production on more less water-intensive crops due to the serious drought and water pollution issues they face at home. This trend will benefit Canadian farmland disproportionately as compared to farmland in water-stressed regions.
We here at Bonnefield view water as a key competitive advantage of Canadian farmland as compared to farmland in many other parts of the world. This is not to say that farmland in some parts of Canada will be immune from periods of drought as climate change progresses. But drought-related risks in Canada tend to be location and property specific. It could be argued that for Canada as a whole, the bigger water-related risk over time will be too much water as opposed to too little, since much of Canada is expected to see increased precipitation as a result of climate change rather than less. The risk of excess water is as important a consideration as too little water, when Bonnefield invests in farmland. Do the soils have natural drainage characteristics or can excess moisture be mitigated through tile drainage and surface shaping? Conversely it may be best to avoid investment in properties and regions that face a significant drought risk that can not be mitigated through some combination of irrigation or high-quality, moisture-retaining soils, etc.
Overall, Canada can expect to suffer less stress from climate-induced water shortages than many other parts of the world. Canadian farmers will certainly face increasing challenges in some parts of the country from both drought and excess moisture, but on the whole, these risks should be manageable through careful farming techniques and proper risk mitigation.
Two back-to-back seasons of high crop yields in 2013 and 2014 increased world stockpiles of several important commodities – particularly corn and soy. Harvests in 2015 were uneven in different parts of the world, but were sufficient to maintain relatively high global stock levels. As a result, corn and soy prices have not rebounded to the highs of 2012. Is this a new norm? Not likely.
As we have pointed out in previous research, the 2013-2014 worldwide bumper crops were the first such back-to-back occurrence since 1991 – 1992; a once-in-a-generation event. And while current corn stockpiles are roughly in line with those experienced in the late 1980’s, worldwide consumption has more than doubled since that period, so on the more important measure of stocks-to-use, worldwide supplies are still at the levels of the early 2000’s and remain susceptible to supply disruptions (source USDA data).
It is also important to keep in mind that the weakening Canadian dollar has helped to insulate Canadian growers from declining world market prices that are quoted in US dollars. As we pointed out in our previous blog post, as at the end of Q3, corn prices were off only 8% in Canadian dollar terms since May 2014 (versus 24% in USD), wheat was off 11% (versus 26% in USD) and Canola was actually up 23% (versus 2% in USD). Canadian dollar price swings of these magnitudes are considered fairly standard intra-season volatility. The only major crop to experience a significant decline in Canadian dollar terms was soy (off 28% in CDN vs 40% in USD).
It is also important to recognize that corn and soy prices impact only a portion of the Canadian farm sector’s overall profitability. Prices for pork, dairy, vegetables and specialty crops all remain very strong and beef prices are at all time highs. So the net impact of lower corn and soy prices on Canadian farm financials is expected to be modest. FCC is predicting robust farm profits again this year only slightly below the records set in 2013 and 2014.
The current crop price outlook is analogous to the the difference between local weather conditions and a warming climate. Weather conditions are becoming more volatile – with extremes of both heat and cold – but our climate is inextricably warming with serious implications for agriculture worldwide. So too, future crop prices will be volatile – both up and down – around a steadily increasing trend driven by climate change, water shortages, changing diets and population growth.
So we view current grain prices as a temporary fluctuation around a steadily increasing long-term trend.
MCSI recently published their quarterly “Global Quarterly Infrastructure Asset Index” comparing the returns generated by both listed and private infrastructure classes with other asset classes such as bonds, real estate and equities.
The report also provided debt ratios for the components of the private infrastructure index. Using this information and some conservative assumptions for the debt ratios typical of the other asset classes, we were able to reverse engineer the unlevered returns of these asset classes and compare them to the unlevered returns generated by Bonnefield Canadian Farmland LP I and LP II over the same time periods.
The results (shown in the following chart) demonstrate that Canadian farmland is capable of generating superior returns without the risk and extra volatility that comes with leveraging your investment with debt.
As Canada’s largest farmland investment manager and property manager, Bonnefield has had many requests for comment about Saskatchewan’s recently announced review of its farmland ownership rules and the immediate enforcement of tighter regulations pending completion of the review. Rather than respond piecemeal or incompletely, we have outlined our comments in detail below.
An Open Letter about Saskatchewan Farmland Regulation
On April 13th the Saskatchewan government announced a review of its farmland ownership rules, which are already among the most restrictive in Canada. At the same time it announced additional interim regulations to prevent farmland ownership by pension funds and to prevent farmers – especially new immigrant farmers – from receiving funding from friends and family back home.
No one can fault the government’s intent – ensuring that Saskatchewan’s farmers own and control their land and that they don’t face undue competition from big corporate or foreign interests; laudable goals to be sure. But despite their well-meaning intent, further restrictions on farmland ownership will damage the competitiveness of Saskatchewan agriculture and increase the financial risks faced by the province’s farmers. The government’s measures hurt the very farmers they are intended to protect.
What problems do these regulations hope to solve?
Saskatchewan’s move to strengthen its farmland ownership rules is based largely on commonly held misperceptions about farming in the province. There is a belief that corporate farming is squeezing out family farms in Saskatchewan when in fact virtually all attempts at large-scale corporate farming in recent years have failed or gone bankrupt while large family farms have prospered. There is a common belief that investors have driven up the price of land in Saskatchewan despite data that clearly show farmland investors in the province have paid less than farmers (as a multiple of assessment value) for farmland purchases since 2010. Yes, farmland prices have increased significantly in Saskatchewan in recent years but these price increases have been in lock step with increases in farm profitability. And farmland prices in the province are often well below similarly productive land elsewhere in Canada.
Others claim that institutions are buying up huge tracts of the province’s farmland when in fact institutional farmland investors have purchased only 1% of the farmland transacted in Saskatchewan since 2003, versus 99% by farmers themselves. There are also whispered concerns about “foreigners” buying up the province’s farmland through under-the-counter deals with new immigrants. This concern smacks of xenophobia or worse. Saskatchewan – indeed all of Canada – was built by immigrants and if there is one thing the province needs as much as investment capital, it is new Canadians to help build a prosperous, growing and vibrant provincial economy.
The real challenges
Contrasting these myths are some real challenges facing agriculture in Saskatchewan today. The average age of the province’s farmers is 55 and the capital required to help the next generation of young farmers buy out those retirees is enormous. Average farm sizes are increasing and the technologically advanced equipment required to farm them profitably is prohibitively expensive. How will the next generation of Saskatchewan farmers buy that equipment and finance their operations? Saskatchewan government officials have publicly stated that the province needs a $3 billion investment in irrigation infrastructure. Who will make that investment? Billions more are required in additional storage and transportation infrastructure to prevent the kind of disastrous supply chain bottlenecks that hit Saskatchewan farmers in 2014. Where will that capital come from if not from institutional investors like pension funds?
At Bonnefield we are staunchly pro-Canadian. We are proud that 100% of the funds we have raised to date have come from Canadian individuals and Canadian pension funds and that all of that money has gone to provide land lease financing to Canadian farmers. Yet Saskatchewan’s rules make it difficult for us to help farmers in that province.
In the past year alone, Bonnefield has had requests from Saskatchewan farmers for over $100 million of land lease financing. But all of these requests have gone unfulfilled because the Saskatchewan regulator takes the position that Canadian pension funds are ineligible to hold farmland in the province (except Canada Pension Plan, which was somehow deemed uniquely eligible to hold farmland in the province before the new rules were announced on April 13th). Meanwhile, Bonnefield has provided hundreds of millions of dollars to farmers elsewhere in Canada to help them reduce debt, expand operations and finance succession plans – advantages that Saskatchewan farmers are denied under the province’s farmland ownership regulations. In fact, of some $325 million raised by Bonnefield from Canadian investors since 2010, less than $12 million has gone to Saskatchewan farmers because of that province’s regulations. The remainder has benefited their peers in Alberta, Manitoba, Ontario, New Brunswick and Nova Scotia.
Saskatchewan’s regulations hurt farmers
The harm to Saskatchewan farmers is real. They cannot freely sell their land, depressing land prices and reducing their net worth – an especially big problem for retiring farmers. With fewer financing options at their disposal, Saskatchewan farmers are more heavily reliant on debt than they would be without regulation. Indeed, the interim rules announced on April 13th require that farmland purchases can only be financed by licensed banks and no alternative or off-balance sheet financing from non-bank lenders will be permitted. Lack of access to capital is the biggest barrier preventing young farmers from entering agriculture in Saskatchewan.
High debt levels raise operational risk for Saskatchewan farmers and are especially troublesome in volatile markets like those currently caused by lower crop prices. This lesson was learned the hard way in Saskatchewan during the farm bust of the early 1980s. During the 1980s only Saskatchewan farmers were able to own farmland in the province, which severely restricted farmers’ access to capital. As a result, farmers in Saskatchewan were the most heavily indebted in Canada when the double whammy of high interest rates and low crop prices hit the sector in the early 1980s. Not only did Saskatchewan farmers suffer more destruction in farmland value than farmers elsewhere in Canada, but it took longer for those values to recover than it did in provinces where farmers had unregulated access to capital. Saskatchewan farm values fell 39% from their 1982 high compared to a decline of 24% in Ontario where no ownership regulations were in force. Moreover, it took a full 25 years for farmland values in Saskatchewan to regain the levels of the early 1980s destroying wealth for an entire generation of farmers. By comparison it took just 5 years to 7 years for farmland prices to rebound in most other provinces where capital could flow in more easily to recapitalize the sector.
Saskatchewan’s reputation at risk
The impacts of Saskatchewan’s farmland ownership regulations extend beyond the agricultural sector and beyond Saskatchewan’s borders. These regulations contribute to the province’s international reputation as a difficult place to invest and do business. I have had first hand experience of listening to an audience of investors in Boston openly snicker as Saskatchewan’s Deputy Minister of Agriculture declared that the province was “open for business” and a good place to invest in agriculture. I have personally met with some of the largest natural resource investors in the world in London, Zurich, Geneva and New York and listened to them decry Saskatchewan’s reputation as unfriendly to business as a result of the rejected attempt by BHP to acquire Potash Corp. I have participated in hearings of Saskatchewan’s Farmland Security Board where staff, openly and on the record, complained about investment in the province’s agricultural sector from Ontario and elsewhere in Canada.
To realize its economic potential, Saskatchewan’s economy needs capital investment from investors across Canada and around the world for a broad range of industries and sectors including agriculture. The tightening of farmland ownership regulations will be viewed by skeptics as another example of a parochial, business unfriendly atmosphere in the province and runs counter to the Wall government’s worthy efforts to attract international investment to Saskatchewan.
Better ways of regulating farming
Most Canadians would agree that, in the national interest, some industries should be controlled by Canadians. Our banking and broadcast industries are two such examples. Yet we have found ways of ensuring that Canadians maintain control of other strategically important industries without restricting their access to capital or putting them at a competitive disadvantage. Alberta requires farmland owners to be majority Canadian controlled but does not care if they are individuals, corporations or pension funds. Australia recently introduced rules to ensure that farmland acquisitions by foreigners of more than A$15 million are reviewed to ensure they are in the national interest. Several Canadian governments have used “golden shares” when privatizing assets to protect legitimate national interests. None of these measures restrict the free flow of capital to the same extent as Saskatchewan’s farmland ownership rules.
Many question whether farmland ownership needs to be regulated at all – BC, Ontario, New Brunswick and Nova Scotia have no such regulations and farmers in those provinces benefit greatly from free access to capital. Saskatchewan’s stance on farmland ownership stands in stark contrast to its relaxation of regulations governing the uranium and potash industries. But the irony is unmistakable: as with the province’s oil and gas, once the potash and uranium is extracted, it is gone forever – not so with farmland that will always remain in Saskatchewan regardless of who owns it, and will always remain in production as long as there are mouths to feed.
Perhaps it would be more effective to regulate who farms Saskatchewan farmland rather than who owns it or finances it. Why not require farmland in the province to be operated by Canadian farmers and let them freely decide how best to finance their operations, with whom and whether they would prefer to own land directly or lease some or all of it?
Despite the evidence that its farmland regulations are harming farmers themselves, it is clear that the Saskatchewan government has decided that farmland in the province should be more tightly regulated. We can only hope that these new regulations do not inadvertently cause even more harm to the very farmers they are intended to protect.
Bonnefield is Canada’s largest farmland investment management and property management firm. To date Bonnefield has provided over $300 million in land lease financing to help Canadian farmers grow, reduce debt and finance retirement and succession in Alberta, Saskatchewan, Manitoba, Ontario, New Brunswick and Nova Scotia.