The first quarter of each calendar year is a time when agricultural producers and their lenders evaluate the crop lines of credit to confirm adequacy of amounts and structures, and to evaluate the leverage position of each producer. While commodity prices for grains and fertilizers both increased in 2021, until the Russia / Ukraine conflict the changes were less dramatic and uncertain that they are today in 2022. Now with the fluctuations in grain and other commodity prices and fear of availability of needed agricultural inputs, producers and lenders are uncomfortable with line of credit structures and worried about the adequacy of commitments.
Why is the Russia / Ukraine conflict problematic for US producers?
Crop producers in the US require fertilizers, and fertilizers are largely exported by Russia and China. Russia and China had 2020 fertilizer exports of $7 billion and $6.57 billion, respectively. The six largest exporters of fertilizer are Russia, China, Canada, US, Morocco, and Belarus. Therefore, disruptions in supply from Russia, China and Belarus impact fertilizer prices for all users.
Turning to importers of fertilizer, the US is the third largest importer of fertilizers, only behind Brazil and India.
Comparing the US exports of fertilizer at $3.56 billion to the US imports of fertilizer at $5.79 billion shows the US as a net importer of fertilizer. Farmdocdaily, a part of the University of Illinois, used data from the 2021 US Geological Survey to produce the next table. This table shows that the US imports 12% of its nitrogen, 9% of its phosphate, and 93% of its potash. Of the US potash imports, 12% come from a combination of Russia and Belarus, both of which are currently impacted by US sanctions.
What is the relative impact of the changes in fertilizer costs on the financial performance of producers?
Like many state universities, the University of Illinois produces an annual crop year budget and tracks crop year performance costs over time. The data from the University of Illinois’ 2022 crop year budget for corn and soybeans, as defined in December 2021, is included in the next tables in the base performance column for the 2022 crop year. In the columns to the right of the base year estimates, the cost of fertilizers was increased by 30%, which is the current increase over 2021, and increased by 60%.
First looking at corn, a farmer’s earnings per acre could potentially decrease from 32.9% of revenue to 20.6% of revenue, or a decrease of $138 per acre. A farmer producing corn on 10,000 acres would have their cash available to service debt and provide a return for the farmer decrease $1,380,000.
Next looking at soybeans, a farmer’s earnings per acre could potentially decrease from 44.1% of revenue to 36.9% of revenue, or a decrease of $61 per acre. A farmer producing soybeans on 10,000 acres would have their cash available to service debt and provide a return for the farmer decrease $610,000.
The risk of negative impacts on the financial performance of the farmer during the year, including impacts on loan covenant compliance for the fixed charge coverage ratio, is significant. Many farmers will have problems producing profits unless commodity prices increase to offset the increased costs of inputs, or other costs can be reduced. Given the current inflation levels and labor issues, expecting other costs to decrease is unrealistic.
How are farmers and lenders dealing with line of credit structures?
The total line of credit is the first concern lenders and borrowers need to address. If the costs to produce a farmer’s crop increase by $1 million, the farmer and their lender will need to determine how to finance that additional cost. Some borrowers may have funds to support all or a portion of the increase; however, in most cases the lenders will be requested to increase the total availability on the line of credit.
Many lenders have limitations on the dollar amount of crop borrowing per acre by crop planted. Lenders may need to consider addressing those standards as input costs are fluctuating.
Lenders may also have limitations on the amount outstanding under a line of credit structure at different times during the crop life cycle. If initial input costs have risen, the line of credit structure will need to be adjusted to handle the changing costs at different times in the crop life cycle.
Lenders may have relationships between growing crops and the total line commitment, or other unique structural components that could be problematic.
Farmers will need to develop alternative forecasts to calculate a collar around the high and low performance expectations, and then plan for approaches to respond to changing prices. Many farmers prepaid for inputs at the beginning of the year and will not feel the full impact of these changes in 2022. However, the supplier to the farmer may have difficulty sourcing product because of the sanctions against Russia and Belarus, and there may be requests to make additional payments for fertilizers to ensure availability. Farmers may also adjust quantities and frequency of various inputs such as fertilizer and pesticides to develop multiple strategies and performance estimates. Farmers may still be considering adjusting their plantings for this year.
Based on the information compiled by the University of Illinois, the fertilizer costs for corn had already increased 50.3% from the 2021 levels to the base forecast for 2022. Soybean fertilizer cost increases were 126.7% from the 2021 levels to the base 2022 levels.
Farmers had enjoyed higher commodity prices in 2020 and 2021; however, these input cost changes are eating into the profitability gains farmers made. Both the farmers and their lenders will have challenges going through the 2022 season and the best practices for forecasting, hedging, and working capital management will be key to success in 2022 and beyond.