Producers Are Flying High On Appreciation and Depreciation
Recently I addressed the Northeast Agribusiness Seminar held at Cornell University. It was nice to be back on my old stomping grounds. Capital investment at Cornell is in high gear, as new buildings appear to sprout up overnight with generous alumni funds.
I talked with Andy Rice, a former student of mine and late 80s graduate of Cornell who is now a successful banker. He approached me with a thoughtful perspective. He stated that many producers are making more of their debt and subsequent management decisions based upon depreciation and appreciation. He further asked – “Would that get people into trouble?”
My response is, as long as land and asset prices continue to increase, the appreciation can be a very compelling factor for leveraging the business financially. Where this strategy fails almost every time is when values level off or decline without the necessary earnings and cash flow to earn a subsequent profit and make payments on debt obligations at the asset values. Only the well-capitalized farm or ranch above $2 of equity for every dollar of debt can position themselves to refinance out of trouble.
In the next column I will discuss the challenges surrounding using depreciation as a leverage tool.
Illinois is not the only state facing large increases in real estate values. In upstate New York, land that was $500-600/acre 10 years ago is now selling for $1500-1800/acre. The buyers in this case are the large dairies that need the land for manure application to meet EPA regulations.
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Editors' note: Dave Kohl, The Corn and Soybean Digest Trends Editor, is an ag economist specializing in business management and ag finance. He recently retired from Virginia Tech, but continues to conduct applied research and travel extensively in the U.S. and Canada, teaching ag and banking seminars and speaking to producer and agribusiness groups.
To see Dave Kohl's previous road warrior adventures type Dave Kohl in the Search blank at the top of the page.
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