The terms of many arable contracting agreements were drawn up during a period of consistently low farming margins. In this situation, a split substantially in favour of the contractor was perhaps the correct arrangement.
As margins improved, most agreements incorporated a two tier split to give the farmers a greater share of the surplus in a high output year, typically 50%. Some of these agreements led to unrealistically high payments to contractors in 2007 and 2008. In addition, with the farmer exposed correctly to the whole of any deficit created in a poor return year such as 2009, it becomes clear that these terms are not valid during periods of substantial crop and input price changes.
Due to large movements in world stocks of combinable crops and particularly with the increased interest by fund managers in soft commodities, prices are set to fluctuate between years in the future.
Many farmers and contractors have now grown used to quoting the return to the farmer as a rental equivalent. If an arable contract is being administered correctly, the farmer should be funding the costs of seeds, sprays and fertilizer together with a contract fee that should not be below the contractor’s costs of operation. The farmer is therefore exposed to the entire risk of the enterprise and must be seen to be responsible for and actively involved in the management of the enterprise.
These arrangements are therefore entirely different from a tenancy and should yield a greater return to a farmer/owner than a rent from a tenancy agreement. By the same token, the distribution of surpluses to the contractor is not a share of profit but a performance based bonus.
Many farmers, due to the history of the agreements, or a desire for the contractor to have a proactive involvement in decision making will wish to continue with their existing two tier divisible surplus distribution arrangement. However, Fisher German are now increasingly advising on agreements whereby the farmer wishes to be far more actively involved, whether for the reasons mentioned earlier, because they wish to be entirely in control of the crop marketing or, because they are currently farming with in hand labour and machinery and wish to use professional contractors to achieve economies of scale and reduce costs. Furthermore, at high crop prices the yield benefit generated by a high performing traditional contract agreement is entirely negated by sharing the entire surplus with the contractor.
It is striking that, with a wheat price at £150 per tonne, a crop yielding 3.0 tonnes per acre on a stubble to stubble contract will show a better return to the farmer than a crop yielding 4.0 tonnes per acre on a two tier contract agreement. At a price of £120 per tonne, the two agreements are broadly comparable but with yield differentials. For this reason, Fisher German has incorporated a third tier into many of our more recent contracts whereby the farmer retains the vast majority or, in some cases all of the surplus over and above a fixed level. Typically, this generates a contractor’s payment, including his fixed fee ranging between £100 per acre to £150 per acre depending on the margin generated in the year.
Undoubtedly, a substantial change in the market for combinable crops demands a change in the way contract agreements are administered going forward. Fisher German feels that the improvements to contracting arrangements noted above, address the issue of fluctuating crop prices, satisfy the farmers objective to optimise returns on risk and investment and provide the contractor with a realistic and fair remuneration through a range of yield and price scenarios.
For further information on this article please contact Richard Sanders on 01858 411 234 or e mail firstname.lastname@example.org
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