Flexible Cash Lease Arrangements - Part 2 of 5: Flexing on Crop Yield

A flexible cash lease is a contractual arrangement between a landowner and operator in which the annual rent payment is determined after the crop has been harvested. Unlike a fixed cash lease, rent amount with a flexible lease adjusts for final yield, commodity prices, cost of production, or some combination of all three. Flex lease arrangements offer opportunities for landowners to benefit should commodity prices rise or better than expected yields occur. In recent years, gains in commodity prices and increasing yields have increased the popularity of flex leases among landowners, and flex leases that allow the sharing of market and/or production risk with landowners are popular with some producers.

Base Rent

Many flex lease contracts specify a base rent amount that adjusts depending on final crop yield. Landowners should use caution in setting a base rent value. Landowners may want to consider a base rent amount that is similar to cash rents from two or three years ago – prior to the increase in crop prices that occurred in 2012. A base rent can also be an amount that would be received under typical price and yield conditions. (Readers interested in reported cash rental rates for South Dakota agricultural land should view the publication South Dakota Agricultural Land Market Trends 1991-2014.)

Base Rent Flexed by Yield Ratio

In this arrangement, landowners and operators agree to flex rent based on a ratio of yields. This arrangement allows landowners the opportunity to share with the tenant the risks associated with crop yield variability. Both parties must agree on a base rent and a base crop yield if this method is used. Flexing cash rent on yield might be a good choice for crops that do not have a readily available market price. For example, flexing on yield might be appropriate for determining rent on land used to produce corn silage or hay. The procedure to calculate annual cash rent is as follows:

• Base Rent multiplied by (current year crop yield/base crop yield) = Current Year Rent

Assume a corn for silage flex lease contract that specifies a base rent of $150 per acre and a base corn silage yield of 15.5 tons per acre. If the farm’s actual yield was 16 tons per acre the annual rent paid is $154.84 per acre ($150 x 16/15.5). Should corn silage yield be 14.5 tons per acre, annual per acre rent is $140.32 ($150 x 14.5/15.5).

In addition to both parties agreeing on a base rent and base commodity yield, a mechanism for calculating an average per acre yield must also be determined.

Rent Flexed by Yield and Fixed Crop Price

This type of flex lease results in a rental payment that is determined by a specific crop price set prior to contract signing and average crop yield to be determined at harvest. This arrangement allows annual rent to flex by crop yield changes. Assume, for a wheat producer, the contract specifies that annual rent is found by multiplying a fixed crop price of $3.00 per bushel by the farm’s average winter wheat yield per acre. If the average wheat yield was 45 bushels, the annual rent payment paid to the landowner is $135 per acre (45 x $3.00). However, if the average wheat yield was 55 bushels, a rent payment of $165 per acre (55 x $3.00) would result. Again, landowner and operator must agree on how average yield is determined.

Additional Considerations

Flexible leases that flex only on crop yield increase the risk for operators. Should favorable growing conditions significantly affect crop production, the resulting increase in supply may result in lower crop prices but higher flex rent amounts. In this scenario, a producer with excellent yields (but low prices) might owe a rent payment much larger than the amount from a typical fixed cash lease.

There are many different ways for flexing rent, including yield, price, cost of production, or some combination of each. All of these are accompanied by some degree of risk, so landowners and producers are encouraged to consider carefully each type before making a final decision. Also, because a flex lease specifies a rent payment amount determined after the contract is signed, these arrangements require that both parties fully agree to, and understand completely, the exact mechanisms for calculating payment.

References:

• Edwards, W. 2014. Flexible Farm Lease Agreements. Ag Decision Maker. Iowa State University Extension, Ames, IA.
• North Central Farm Management Extension Committee. 2011. Fixed and Flexible Cash Rental Arrangements for Your Farm.

This article was written collaboratively by Kim Dillivan and Jack Davis both of iGrow - SDSU Extension Service.

- See more at: www.igrow.org/agronomy