How will drought impact your revenue stream?

The recent headlines have been about how bad the corn and soybean crops are hurting, but those are only a prelude to wide swings in farm revenue as the result of a drought and actions taken to manage agricultural risk.  The assistance of crop insurance, the actions of marketing plans, and others all have an impact on the bottom line—which will be magnified this year as a result of low yields for many farmers.  What are some of the challenges you will face as a result of low yields?

Revenue is a function of production and price—and if both are going the wrong way, some farmers will suffer severe financial consequences.  Others may be protected by the natural hedge in Cornbelt commodity prices.  Others may have a reasonable year, even without the bushels to sell.  And interestingly, those farms could all be contiguous to each other, have the same acreage and suffered from the same lack of rain.

University of Illinois ag economist Gary Schnitkey explores various scenarios in farm income prospects on a theoretical 1,200 acre farm with a variety of ownership, leasing arrangements, and crop insurance against a trio of drought scenarios. 

Schnitkey says a mild drought that cut the 180 bu. average to 160 bu. would push income down to $220,000.  A moderate drought that cut the yield further to 150 bu. would drop income to $190,000.  However a severe drought of 135 bu. that raised prices of commodities and earned insurance indemnity payments would raise income to nearly $300,000.

Schnitkey’s warnings are:
1) Farms that have no crop insurance or crop insurance at low coverage levels would have lower incomes, particularly at very low yield levels.
2) Farms that hedged a large portion of expected production could face income losses. By hedging, farmers would not benefit from assumed price increases.
3) The above scenarios presume that prices increase as a result of lower yields. If price responses do not occur, incomes would be much lower than presented here.  One of his premises is that low stocks as a result of the drought would keep prices high for a longer period of time.

Schnitkey’s second point—regarding hedged commodities—was also addressed by Purdue ag economist Chris Hurt, who said farmers with forward contracts early in the year would be severely penalized by a short crop that was insufficient to meet the delivery requirements.  Chris Hurt says conversations have already been occurring between farmers and elevator managers, but it is difficult to say what the outcome will be because of the uncertainty of prices.  In addition to losing a crop to sell at high prices, he said the failure to meet contractual obligations of delivery is another issue.

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