Debt reshapes farm landscape

BY GREG NINNESS

SUITS ARE replacing gumboots on many dairy farms as non-farming investors take an increasing stake in this country's dairy industry.

The National Bank estimates that about 500 farms have been sold to groups of investors over the past 10 years, an average of about one a week.

But that pace may be about to pick up considerably. Many farmers who borrowed heavily during the dairy boom to increase the size of their farm or buy multiple farms have been forced to look for new sources of capital to reduce debt and shore up their balance sheets.

"I think [that trend] will continue," said Ben Russell, the general manager of Rabobank, one of the biggest lenders to the rural sector.

"In the next three years we'll see a gradual exchange of equity for debt into farming businesses, not all of them, but certainly reasonable numbers of farming businesses will be looking to strengthen their balance sheets and replace debt with equity.

"One of the big lessons out of the last 18 months for a lot of farmers and a lot of bankers is that if you've got a lot of debt on your balance sheet, you become much more vulnerable during the down times. And there will be down times and not just in dairying, other sectors such as property face the same thing. When you load up with debt, the business is not sufficiently robust to handle a downturn.

"In the dairy industry there have been many farmers that have come to the conclusion that the levels of debt they carried previously may not be sustainable.

"So they are working with their banks and going through the exercise, and in some cases it means selling off part of their business and in other cases it means bringing in outside investors to buy a share of the enterprise, or some combination."

That trend towards reducing debt is showing up in the Reserve Bank's rural lending figures, which shows annual growth in agricultural lending by banks and finance companies dropped back from its peak of more than 22% in 2008 and early 2009, to 9% by last November, and it's still falling.

In October, the total amount of money the banks had loaned to rural borrowers actually declined for the first time since February 2001.

And although Rabobank was optimistic about the dairy industry's prospects in the medium to long term, Russell was not expecting overall lending to the sector to increase.

"We expect aggregate debt growth to be very flat," he said.

That is increasing the opportunities for non-farming investors to take a slice of the dairy industry.

One of the most popular ways for farmers to access capital from non-farming investors is through the use of equity partnerships, a type of syndicated ownership where a farm is sold to a group of private investors, who employ a manager to run it.

This allows a farmer to sell their farm into the new structure, retaining a stake alongside the new investors if they wish, and perhaps also staying on to run the property under a management contract, providing a more acceptable alternative to outright sale for some who find themselves struggling under the weight of debt they are carrying.

One of the biggest farm syndication companies putting such deals together is MyFarm.

"The [dairy] industry is calling out for equity at the moment, there's no doubt about that, but there isn't a lot to go around," MyFarm director Andrew Watters said.

Even so, MyFarm completed new syndicates worth $43 million last year, nearly all in the dairy sector, although the company has also started moving into the beef and sheep sector with a 2265ha property near Taihape it is currently syndicating.

On average, investors buying into such schemes were evenly split between people who have a background in farming – often retired farmers with spare cash they want to invest back into the industry – and investors from completely outside the sector with no farming experience.

Attracting those investors has been helped by the slide in farm prices, with many dairy farms selling for a third less than their estimated values at the height of the dairy boom two years ago.

That reduces the amount of capital required to put syndications together and increases the return to investors.

"What limited us in the past [from completing syndications when farm prices were high] was the cash returns we would have been able to derive from them. At 2-3%, it was not going to excite anybody," Watters said.

As farm prices have fallen back to earth, those cash returns for investors have increased to 6-7%, which "is not going to excite anyone either, but at least it's a step up from bank deposit rates".

But a key question for the dairy industry is whether rising demand from farmers for fresh equity will be matched by investor enthusiasm.

At the moment, Watters is optimistic on that front. "In the last two to three months there has been good, strong interest in quality dairy farm investments, but people do want their i's dotted and t's crossed, so they are looking at quality and security and risk very closely," he said.

Russell sees a similar picture.

The interest came both from non-farmers and those farmers who still have the money.

However, most of the farm investments available so far have been tightly targeted. Generally, they require a minimum investment of around $500,000, and are aimed at so-called "habitual investors", people who by their knowledge and experience of financial matters are presumed to have the necessary expertise to weigh the risks involved. This puts most farm syndication schemes outside of the protections of the Securities Act and waives the need for a prospectus.

But if the clamour for capital from the diary sector increases significantly, it may be necessary to cast the net wider, creating a need for investment vehicles that would be available to mum and dad investors, a possibility that is of keen interest to NZX chief executive Mark Weldon.

His main concern is that dairy industry investments which may appeal to a broader range of investors need to be adequately regulated.

"I think what needs to happen for there to be investment that's good for dairying and good for investors, is that the government needs to move on the Capital Markets Taskforce recommendations and clarify the boundaries [around investments to habitual investors]. Then you will get a whole bunch of vehicles springing up that will be good for investors and good for dairying," he said.

Russell also sees the possibility of new investment vehicles being developed which would allow greater investor participation in the industry, although he is cautious on the role they could play.

"It's very much an evolving space. People will create opportunities out of farmers' need to rebalance their situation," he said.

It was possible that either a publicly listed or public unlisted company model could be used to invest in dairy farms, he said, although the success of such a venture would be uncertain.

"Stock exchanges have never been a particularly successful home for farming enterprises because the stockmarket tends to have somewhat of a shorter-term focus and farming is a very long-term business... it's not a place to make a quick buck."

However, there are already some new investment opportunities starting to appear on the dairy sector's horizon, not all going smoothly.

In November, privately owned dairy company Synlait canned plans to raise $150 million and list on the NZX after it failed to get enough investor support. It is now looking at raising the money off market.

A bit further down the track is Oceania Dairy's plans to raise $75m from a mix of farmer suppliers and non-farming investors to build a milk powder factory, as part of plans which could see it eventually list on the NZX.

And in June, the NZX will launch a new milk powder futures trading platform, although its users will probably be mainly existing players in the industry such as dairy processors and their customers, and possibly the more financially sophisticated farmers, looking to hedge their risk to volatile milk prices.

- © Fairfax NZ News