Kansas State University provides a very good map of basis for most of the major crops over most of a five state region comprising all of Kansas, Nebraska, Oklahoma and parts of Texas and Colorado.  These maps on a weekly basis show what the current basis is and how it compares to the three year average.

During 2010, the basis maps for Soybeans show that the average basis has both increased in some areas and decreased in others, but overall  has not moved to much.

The basis maps for corn show that the basis is narrowing in some areas.  At the first part of the year, in some areas the local cash price was 40 cents higher than futures.  That has decreased to about 27 cents while the lowest basis areas remains steady at 84 cents cash price under futures.

Now, wheat basis has shown a dramatic change since the first of the year.  On January 6, cash prices ranged from 29 cents under futures all the way up to $1.14 under futures.  As of August 25, this spread has widened to 35 cents under futures to almost $1.65 under futures.  This represents a 44% increase in basis for the worst areas of these states.

So even though futures may be rallying, this does not always mean the local farmer is getting the benefit of these prices.

Many more farmers are using futures contracts to hedge their crops these days than 20 or 30 years ago.  Hedging income and losses are treated as ordinary income or loss as part of the farming operation.  What many farmers do not know is that if they are using futures to speculate in other commodities or crops that these transactions are considered speculation and the income tax treatment is very different.  If a farmer is speculating, then these losses are treated as capital gains and losses.

I will give you an example from when I was in college.  I had a very good friend that was speculating in the commodity market.  During year #1, he enjoyed a very profitable year and lets assume he made $300,000.  All of these gains were short-term and at that time, the top rate was 50%.  Therefore, his tax bill from his speculation that year was $150,000.  During year 2, he lost the $300,000 he made in year 1 and then lost another $300,000.  When he filed his tax return for year 2, he deduction, the net loss of $600,000 on the return, but the capital loss rules limit you to only claiming a net capital loss each year of $3,000.  Therefore, he got a credit of $1,500 for year 2.  Adding the two amounts together resulted in net tax due of $148,500.

If he had all of the transactions in one year, he would have gotten a net refund of $1,500.  As you can see, if your capital gain income occurs earlier than your losses, the tax laws provide a large penalty to taking advantage of any future capital losses.  You can use $3,000 each year or use your capital losses to offset other capital gains.

In your farm operation, make sure to note what is actually hedging and what might be speculation and subject to the rules above.

Moe Russell, of Russell Consulting Group wrote a very good article in the Corn and Soybeans Digest clear back in 2007 on the fact that you do not need to own land to be a farmer.  I personally think in today’s environment, most farmers who already own a bunch of land with no debt are most likely not maximizing their return as a farmer.  They are probably doing a good job of maximizing the return to them as land owners since they are farming it themselves. 

However, as both a landlord and a farmer, you need to review each year what your return has been as both.  Make sure in your management reports that you have allocated cash rent to yourself as landlord that is reflective of what cash rents are bringing in your area.  Make sure that you do not use the highest or lowest, but somewhere in a median range.  Once you allocate this cash rent to your farming operation, how profitable was your farm for the year and what is the trend.  I believe, in many cases, the farmer will find out that it is earning a good cash rent return, but as a farmer, it is generating a loss or very little profit.

If this situation continues for too long, the farmer has two good options:

• Stop farming and either sell the land or cash rent (this would probably be the most difficult for most farmers), or
• Increase the profitability of the farming operation to take advantage of the land that the farmer owns.  This may require renting more acres, sharing equipment with other farmers, etc.

Have you taken the time to do this analysis on your farm.  If not, I think the results may surprise you.

Reuters is reporting that Potash Corp. has formally put pressure on BHP to raise the price for its takeover of Potash Corp. or have the company get sold to some other company.  BHP originally bid $130 per share for the company or $39 billion in total.  The price has already jumped to over $150 per share and there are rumors that if BHP raises their bid to $162, the company would be theirs.  However, BHP may not want to go that high.

It is interesting that the CEO of the company, Bill Doyle will earn over $500 million if the deal goes through.  One party that may come to the rescue of Potash is the Chinese company Sinochem, China’s top fertilizer firm and No. 4 oil company.  Sinochem’s Chinese connection is significant due to an expected surge in fertilizer usage by China, India and other emerging economies.  China has bought resource companies located in Canada before (Potash headquarters is in Saskatoon).

Another bidder may be the Brazil mining company Vale, however, it appears they have backed out of the process.

Another option is to break up the company or sell out to a consortium of companies that would jointly bid for the company and then divide it.

Based on where the market price is and the ability of BHP to make the deal, I have a feeling that this will happen and soon.

I am flying out of Seattle early Sunday morning and meeting up with my farm partner at the Kansas City airport.  We are then driving up to Sioux Falls, South Dakota to meet up with all of the Crop Tour participants that are doing the western leg of the tour.

The plan is to spend Monday to Thursday traveling through South Dakota, Nebraska, Iowa and Minnesota.  Another set of participants will leave Ohio on Monday and then meet up with us in Austin, Minnesota on Thursday afternoon. 

I plan on writing a updated post each night and let you know what we did that day and what my thoughts about the corn and bean crop are.  This is my first time of participating and I look forward to it.

As I write this post September 2011 wheat futures are trading at slightly more than $7 per bushel.  If I had asked any wheat farmer three months ago would they like to lock in $7 wheat for next year’s crop, I am fairly certain that 100% of them would have said yes.

These farmers now have that choice, subject to the basis issues as discussed in a previous post.  I would strongly suggest that all wheat farmers review their budget for next year and see if it makes sense to try to lock in prices near the current level.  Any time that a farmer can at least lock in good prices to cover all of their estimated production costs allows the farmer greater flexibility in marketing their crop and it also pleases the banker.

In a side note, I spent Friday and Saturday driving combines for my cousins down in Walla Walla.  I drove a Case IH 2388 and 1470 for about 18 hours and that was my idea of a vacation.  Yields ranged near 125 bushels for dry land wheat and with the current good prices, I think my cousins might have a good year in farming.  They have some steep hills down in this area and kicking in the 4 wheel drive is always fun for a combine driver.  Using three machines, you can cover a lot of acres in a day, however, this year the fields had a lot more down wheat and the speeds are much lower than normal.  it is fun to see 3 combines, 2 bunk-out wagons and 2 semis all going strong.

Since the June crop report came out, wheat has rallied over a $1 per bushel, corn is up about 50 cents and soybeans have rallied also.  Now, it appears that the world wheat supply is looking at drought issues around the world (except for our hemisphere it seems) and this is continuing to help wheat prices rally.

Although I am not a marketing expert, as a CPA, it is always good to review your farm budget for the year and I believe that for most of our farmers, especially wheat farmers, your estimated crop price is less than what the market it now.  Therefore, you should review with your marketing expert what options you have right now such as taking advantage of forward hedging, buying a call, etc.

I remember when I was in my teens and wheat prices had rallied about a $1,50 and I was talking with my uncle.  He had not sold any of his crop yet and the market price was very near a round number such as $6.00 a bushel.  He told me he was going to sell when it hit that number.  As you can guess, it never got to that number and he rode the price decrease all the way down to the very low of the market when he sold.

Make sure this does not happen to you this year.

The large health care act passed earlier this year had an up to 35% credit available to farmers who paid for health insurance for their employees.  The credit is based upon the percentage amount of health insurance that a farmer pays times 35%.  As long as you pay at least 50% of the premiums for your employees, then the credit is based upon the amount paid times 35%.

However, there is a cap on how much premium that you can use.  This cap is based upon the average premium for small group markets for each state.  The IRS just published revenue ruling 2010-13 that outlines what this cap amount is for each state.   The cap is based either on employee-only coverage or family coverage.  I will give you an example of how this cap might work for you as a farmer:

Suppose you have two employees.  One is single and one is married with kids.  Assume that you pay 80% of the medical insurance for each employee.  Also, assume you are a farmer in Iowa.

Lets calculate the maximum amount of the credit by assumimg that the cost of this premium is $500 per month for the employee and $950 per month for the family.  The credit that you could take is 80% of the premium times 35% for the year.  This would equal $500*12*.8*.35 or $1,680 for the single employee and $950*12*.8*.35  or $3,192 for the family employee or a total credit of $4,872.

Now, we need to determine how much of this credit is allowed by comparing it to the small group market tables from the IRS.  For the single employee, the maximum credit allowed for Iowa for a year is $4,652.  Since the farmer only paid 80% of the premium, this would equal a total allowed amount of $3,721.60 times 35% equals $1,302.56 maximum credit allowed for a single employee.  For the family employee, the state of Iowa maximum annual amount is $10,503 times 80% times 35% equals $2,940.84.  These two amounts added to together results in a maximum credit allowed of $4,243.40. 

Our original calculation resulted in a credit of $4,872.  The IRS only allows $4,243.40 based upon the small group market tables, so the actual credit you would use on your tax return is the $4,243.40.

A quick way of determining whether you need to worry about this is to look at your premium on a monthly basis and compare it to the table amount (after dividing by 12 to make a monthly comparison).  If your premium is less than the table amount, you can ignore it on the tax return, however, if your premium is greater than the table amount, you will need to limit your credit based on this calculation.

Of the 2,401 Minnesota farms included in the “FINBIN” survey for 2009, the median farm saw a 63% decrease in net income from $91,242 to $33,417.  Each year, the Center for Farm Financial Management performs a survey of Minnesota farmers.  Their response for 2009 represented about 3% of overall farms and about 10% of the farms with total sales over $100,000.

A summary of the results for 2009 show the following:

• Median farm income peaked in 2007 at about $105 thousand and have declined in two years to about $33 thousand.   The 2009 numbers are also the worst net income for any year in this decade other than 2001 when the median net income was about $24 thousand.
• Incomes were down substantially for virtually every type and size of farm.
• Livestock farms of all types, on average, did not provide enough income to support family living expenses.
• While crop farms were more profitable than livestock farms, the median earnings of crop farms dropped 55% to about $60 thousand.
• Dairy farm profits were down substantially falling to an average of about $5 thousand per farm.  The average price for milk dropped from about $19 to $13 in one year.
• Hog farms eked out a small profit as their income dropped about 87%.
• The average return on assets dropped from 10.5% in 2008 to 3.1% in 2009
• The average farm’s net worth increased by about $60,000, however, almost all of this increase was due to increasing land prices and not earned net worth growth.
• The average farm spent $52,000 on living expenses and needed to generate $72,000 from farm and non-farm income to cover family living, income taxes and other ongoing non-farm expenses.

Dave Kohl is an ag economist who writes the Road Warrior of Agriculture for Corn and Soybeans Digest.  His columns are usually very insightful regarding economic issues related to agriculture.  Back in March, he had an article regarding working capital being the financial shock absorber for farms and business.

Working capital is the excess of a farm’s current assets over it current liabilities.  Current assets are your short-term liquid assets such as cash, crop inventories, and receivables for crops sold.  Your current liabilities are what you owe on a short-term basis such as notes payable to banks, accounts payable, wages and taxes payable and your current portion of any long-term debt payments.  Many farmers forget to include this item when doing their current ratio calculation.

It used to be that the current ratio was very important to calculate.  This number is based upon taking your total current assets and dividing by your total current liabilities.  If this ratio was about 2 or higher, this was considered very good, between 1 to 2 was marginal to good and below 1 was bad.  However, we are now stressing that your working-capital to revenue is a much more important metric to measure and strive for.

The problem with the current ratio is that it does not indicate how much working capital is available to fund your farm operations.  For example, assume your annual farm revenues is $1 million dollars.  Assume you have total current assets of $250,000 and current liabilities of $125,000.  Your current ratio is 2 to 1 which is considered good, however, your working capital as a percentage of revenues is only 12.5%.  This means that you would need to have the ability to borrow from a bank to fund current operations until you are able to harvest your crop and convert it to cash.

Based upon information from FINBIN, the top 20% of crop producers had working capital divided by gross farm revenue ranging from 28% to 43% in the past four years.  The average producers ranged from about 20% to 33%, while the bottom 20% were in the low 20% range for these four years.

As more lenders use this metric in assessing farm operations, you need to know what yours is and what it should be.  I would suggest that you strive for it to be at least 30% for most crop farm operations.  Livestock operations would be about 5-10% lower.