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Leasing Game Intro to Flex Leases Henderson County January 12, 2011

Leasing Game Intro to Flex Leases Henderson County January 12, 2011. Greg Halich 859-257-8841 Greg.Halich@uky.edu http://www.ca.uky.edu/agecon/index.php?p=169. Dept. Agricultural Economics University of Kentucky December, 2010. The Leasing Game (#1).

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Leasing Game Intro to Flex Leases Henderson County January 12, 2011

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  1. Leasing Game Intro to Flex LeasesHenderson CountyJanuary 12, 2011 Greg Halich 859-257-8841 Greg.Halich@uky.edu http://www.ca.uky.edu/agecon/index.php?p=169 Dept. Agricultural Economics University of Kentucky December, 2010.

  2. The Leasing Game (#1) • Tenant Farmers: Each have capacity to farm up to 1000 acres each. → Bid on lease land. → Goal is to maximize net profit. • Landowners (Me): Have land to rent out to farmers. Will tell you how much at the start of each game. → My goal to maximize my cash rents.

  3. Time to Bid Make an offer to rent my land.

  4. Results-Leasing Game (#1) What was the winning strategy? Where would rents end up if we repeated?

  5. Increased Production Capacity (#2) • Tenant Farmers: Have capacity to farm up to 1250 acres each. • Landowner(s): Have same acreage.

  6. Time to Bid Make an offer to rent my land.

  7. Results-Leasing Game (#2) What was the winning strategy? Where would rents end up if we repeated?

  8. Increased Commodity Prices (#3) • Tenant Farmers: Still have capacity to farm up to 1250 acres each. • Landowner(s): Have same acreage. • Commodity prices increase.

  9. Time to Bid Make an offer to rent my land.

  10. Results-Leasing Game (#3) What was the winning strategy? Where would rents end up if we repeated?

  11. Uncertainty of Net Revenue What if we are uncertain about net revenue (price and/or yield)? • What affect will this have on rents for a long-term lease? • Who will end up getting most of new leases?

  12. The Leasing GameApplication Today • Was it easier to predict net revenue when corn was at $2.50/bu or today? • What happened in the past if corn fell from $2.50 to $1.50? • What happens today if you base cash rent bidding decision on $5.00 corn and it falls to $3.00?

  13. Risk Management Options • Flexible Cash Leases • ACRE Program

  14. ACRE Program FSA Program: • Give up portion of direct payment. • Get downside revenue protection. • Revenue guarantee can only go up/down 10% per year.

  15. ACRE Price GuaranteesWorst-Case Scenario(Assumes Avg. State Yield) CornSoybeans 2011-2012 $4.37 $10.45 2012-2013 $3.93 $9.41 2013-2014 $3.54 $8.46

  16. What is a Flex Lease? • Lease rate will vary from year to year. • Based on price and/or yield. • Usually has a base rate (floor) that the lease cannot go below.

  17. More Specifically: • Landowner shares price/yield risk. • Limits profit potential when revenue high. • Limits loses when revenue low.

  18. Why Consider a Flex Lease? • Negotiating tool with landowners. • Potentially protect you if prices fall.

  19. Options for Flex Leases Important Point: • These are only examples (although common ones). • Need to tailor Flex Leases to your needs/requirements as well as the landowner. • Infinite ways to write Flex Leases.

  20. Options for Flex Leases • Price Ratio Price • Bushel Equivalent Price • Revenue Ratio Price/Yield • Revenue Percent Price/Yield • Revenue Base + % Price/Yield

  21. 1) Price Ratio • Simplest Flex Lease. • Have a base rent and adjust for price increases. • If price increases by 25% than base rent increases by 25% (typical). Example: $200 base rent. $4.00 base corn price. If actual price is $5, then $5.00/$4.00 = 1.25 $200 x 1.25 = $250 rent for year

  22. 2) Bushel Equivalent • Price-based Flex Lease. • Landowner gets a set number of bushels as rent along with the final harvest-time price. • Thus final price determines the rent. Example: 50 bu base X $4.00 = $200 rent for year. 50 bu base X $5.00 = $250 rent for year

  23. 3) Revenue Ratio • Just like the price ratio Flex Lease. • Have a base rent, a base revenue, and adjust for final revenue increase. • If revenue increases 20% from the base, then rent increases 20%. Example: $200 base rent. $700 revenue. If actual revenue is $840, then $840/$700 = 1.20 $200 x 1.20 = $240 rent for year

  24. 4) Revenue Percentage • Cash-lease version of a crop-share. • But usually with min. base rent. • No inputs contributed by landowner. • Can link yield to county average (or some % of the average) Example: Landowner gets 35% of revenue. 150 bushels X $4.50 X 35% = $236

  25. 5) Revenue Base + Bonus • Base rent, base revenue, and % landowner gets above the base. • Sounds more complicated that it is. Example: $200 base rent; $700 base revenue; 50% of revenue above base. 150 bushels X $5.50 = $825 total revenue. $825-$700 = $125 revenue above base. $125 X 50% = $62.50 additional rent. $62.50 + $200 base = $262.50 total rent.

  26. Flex Lease Summary • Different flex leases have advantages and disadvantages. • Needs to be understandable to landlords. • Need to understand the risk-reward tradeoff. • Not for all landlords.

  27. Let’s Look at Your Examples • Switch over to Flex Decision-Aid

  28. Questions?

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