Managing Farm Risk

managing farm risk Soergel storefront web

Albert Einstein’s conundrum that “everything that can be counted doesn’t necessarily count” applies fairly neatly to managing farm risk. Today, there are more tools and strategies for minimizing risk than ever, but there are also more types of agricultural enterprises with more individual characteristics than ever.

From financing acreage acquisition to offsetting livestock attrition, there is no single model for tolerating and managing risk. But there are some basics to consider. What’s in the mix in 2018? Here’s a sampling.

 

Traditional Strategies

Many of the risk mitigation strategies that farmers regard as vital today were just as important to their great grandparents. They may be mixed with newer technology and specific management tools, but the basic ideas are familiar to generations. None is more fundamental than diversification, which can be thought of in several subsets.

Crop diversification

Planting different crops to refresh/replenish the soil and to reduce dependency on just one market remains a risk management basic.

“Not putting all your eggs in one basket is part of so many other risk management techniques you’re using as a farmer,” said Jayson K. Harper, professor of agricultural economics at Penn State University. “Even if you’re a major commodity-crop producer in the Midwest and you’re growing just two crops like corn and soybeans, you’re rotating them.”

Corn and soybeans have long been known to be complementary from a soil fertility perspective but also from a commercial one. “Sometimes the [growing] year favors one kind of crop over another,” Harper noted. “By having a mix of things, you mitigate risk.”

The practice applies to farmers from vegetable and fruit growers to livestock producers. Not only can multiple products hedge against market variations, they can also allow the producer to effectively “time” the market.

In Iowa, for example, corn is at its lowest price during the October/November post-harvest season. Producers who invest in on-farm storage (another risk strategy) can hold their corn until later in the year when it becomes scarce in regions like Pennsylvania, whose livestock-dominated production market requires feed-corn.

“It gives the farmer the opportunity to not just be a ‘price taker,’” Harper added.

Enterprise diversification

“Diversification is probably one of our biggest assets,” says Adam Voll, farm manager at Soergel Orchards in Wexford, Pennsylvania. “We’ve gotten out of some vegetable and fruit [production] and gotten into different foods, catering, and value-added products to spread risk a bit.”

managing farm risk Soergel shelves diversification web

The interior of Naturally Soergel’s, Soergel Orchards’ natural foods store. Soergel Orchards started out as an apple-grower and wholesaler, but over the years has diversified its operations, spreading its risk. Photo courtesy of Soergel Orchards

Established in 1850, family-owned Soergel Orchards is a good example of enterprise diversification: It started out purely as an apple-grower and wholesaler but expanded as times changed to incorporate its own retail markets, garden center, bakery, wine shop, cider house, and more.

“We try to minimize our waste and maximize everything we can produce,” Voll said. The maximization he refers to comes in many forms, from spreading risk across Soergel’s two main growing acreages – half an hour apart – to raising and producing non-core crops/products including tomatoes/spaghetti sauces, Bloody Mary mixes, apple sauces, and apple cider.

Such value-added products lower risk by increasing sales/retail diversity and utilizing “seconds” or less-than-market-perfect fruit. Multi-channel activity helps to reinforce the Soergel “brand” as well.

“Being able to offer our own local produce as part of our catering [service] helps set us apart,” Voll added. And the enterprise diversification doesn’t stop there. Like many fruit/vegetable producers, Soergel is leveraging the “agritainment” phenomenon with pick-your-own orchards.

Allowing the public onto the farm comes with its own liabilities and losses, Voll admitted. “But it’s driving business. The public is demanding it.”

managing farm risk Soergel pumpkin patch web

Soergel Orchards’ pumpkin patch meets “agritainment” demand and represents one of the ways that the business has diversified. Photo courtesy of Soergel Orchards

Soergel’s farm manager tries to address risk in the soil too, cultivating different apple tree varieties that mature at different times and address different markets. “By spreading the varieties, if the weather’s bad earlier [in the season], later varieties might [ripen] sooner, but at least you’re not missing the whole season.”

Forward Contracting/Hedging/Futures

Though the idea of producers pre-negotiating commodity prices may seem new, farmers have agreed on terms for delivery of specified quantities/qualities of commodities at a specified time for a specified price since ancient Greek and Roman times.

“If you’re not using these strategies or tools, you’re just taking whatever the market will pay you when it comes time to deliver [the crop],” Harper said. “The ability to [access] the futures market now is much easier than it was in years past. There are a lot more tools available to farmers now to make better decisions.”

Online communication allows producers to literally sit at their desks and, if confident, to hold a futures position and take advantage of the flexibility that hedging offers. If a producer doesn’t have sufficient acumen, commodities brokers are more available than ever while commercial processors and storage providers often offer their own alternatives.

“Here in Pennsylvania, for example, most elevators and feed mills offer the opportunity to participate in the strategy that they use,” Harper explained. “They can actually band groups of farmers together to take advantage of the services they use.”

Diversification Diversity

While traditional diversification strategies may be easier to employ than ever, the U.S. Department of Agriculture (USDA) points out that, ironically, diversification itself is on the decline.

“I can tell you that livestock diversification has fallen; fewer crop farms also raise livestock, and more livestock farms only raise livestock,” said Jim MacDonald, chief of the Structure, Technology and Productivity Branch at the USDA’s Economic Research Service.

“I would also say that there is greater specialization in crop production, in the sense of a shift toward more farms with two to three crops and away from farms with four to five crops.”

While farm production has been shifting to larger farms for some time, off-farm sources of income and diversification have diminished as larger enterprises focus on their core business. MacDonald added that the USDA’s latest study shows no trends toward greater vertical integration, or on-farm processing.

“In short, I think that farms, particularly the commercial farms that account for most production, rely less on those risk management strategies than in the past.”

 

Insurance

Crop insurance is the primary risk management tool for American farmers. According to the USDA, 290 million acres are insured under the federal crop insurance program, including more than 80 percent of the acres of major field crops planted in the United States.

National insurance took hold in 1939 after the passage of the Federal Crop Insurance Act in 1938. However, its high premium costs yielded low participation rates among farmers until the introduction of a public-private partnership between the federal government and private insurance companies in the early 1980s. Restructuring of the federal crop insurance program in the 1990s heavily subsidized premiums, and the Agricultural Risk Protection Act of 2000 and the Agricultural Act of 2014 expanded the types of insurable crops and insurance policies.

A minimum level of crop insurance, called catastrophic or CAT insurance, is available to all farmers regardless of size at no premium cost (all premiums are paid by the federal government) though a fee is required.

managing farm risk crop insurance web

Drought damage to crops in Fresno, California, in 2014. Crop insurance is the primary risk management tool for American farmers and provides protection when crop yields or crop revenues are lower than expected. USDA photo by Cynthia Mendoza

Federal crop insurance is comprised of two major classes: crop yield insurance and crop revenue (or revenue protection) insurance. Basically, the former covers yield losses. The latter pays when gross revenue (yield times price) falls below a specified level. Producers purchase crop insurance coverage levels generally from 50 percent to 85 percent of yield with premiums priced accordingly. Under the current premium subsidy structure, about 62 percent of total premiums (more than $11.5 billion in 2013) is paid by the federal government on behalf of insured producers.

Revenue insurance has become increasingly popular, accounting for more than 75 percent of the federal crop insurance policies sold today, according to the industry trade association National Crop Insurance Services (NCIS).

“Now you’ve got a crop insurance policy that not only gives you production risk mitigation but market risk mitigation as well, because you’re essentially locking in a price that reflects what’s going on in the market,” Harper said.

While crop insurance “provides a financial floor under your operation,” Harper stressed that it also encourages better risk management by legally requiring producers to use recognized best management practices (applying herbicide, for example). There have been cases, he added, where farmers who intentionally dispensed with such practices were charged with defrauding the crop insurance program.

Fifteen private-sector insurance companies currently sell and service policies through the Federal Crop Insurance Program, and their adjusters provide a kind of quality control as well, evaluating yield and revenue policy claims. Banks and other creditors typically require farm borrowers to carry federal crop insurance, a self-reinforcing outgrowth of government underwriting.

Protection from loss, subsidized premiums, and new types of federal policies from the Supplemental Coverage Option to Price Loss Coverage and Agriculture Risk Coverage have made government insurance more broadly accepted than ever.

“Look at the Midwest,” Harper said. “The number of acres covered under crop insurance is 90 percent-plus. Insurance is widely used for the major commodities though it is less [subscribed] for specialty crops.”

Specialty crops illustrate the general rule that no two farm enterprises are the same and that each operation and operator has different priorities. Apples, for example, are significantly more expensive per-acre to insure than soybeans or corn. As a result, fewer producers seek coverage beyond CAT.

That’s the case at Soergel Orchards, which has only about 20 acres under federal coverage.

“That’s all we’ve ever done, though we may look into it more,” Voll said. “That’s the way it is in this industry. I have a lot of other stuff to figure out. But with the way weather patterns are changing, I think it’s definitely worth looking at.”

The multi-faceted Soergel enterprise has put more of its resources into whole-farm insurance. The 2014 Farm Bill created Whole-Farm Revenue Protection, a new crop-neutral revenue insurance product for diversified farming operations. Unlike traditional yield or revenue insurance, it is not intended for a single specific crop, but for all the crops and livestock grown or raised on a given farm. Private insurers often include additional liabilities that pertain to diversified farm enterprises.

“It’s a pretty hefty policy,” Voll said.

Producers who do subscribe to more traditional federal crop insurance tend to split between those who opt for the lowest level of coverage and those who seek the maximum protection, according to Harper.

“They say, ‘I want that 50 percent level of coverage if I have a real train wreck, but I don’t think that train wreck is very likely.’ Others say, ‘I want that 75 or 80 percent level of coverage for the kind of financial risk I have.’ It’s an individual thing.”

 

Facing Risk

“I guess it’s what gambling game you want to play,” Voll opined.

The variety of risks facing farm operations go well beyond familiar weather, disease, attrition, and business cycle challenges. While technology has made available more powerful tools than ever, knowing what to integrate and when – what tools may last and which may quickly be superseded – is more difficult than ever.

Soregel Orchards is not on the cutting edge of technology, its farm manager acknowledged, but it does leverage digital recordkeeping, and Voll is interested in the potential of drones, moisture sensors, and timers.

“The main considerations are the size of our place and if can we justify the expense. It’s like an insurance thing – it only pays if it saves you. Otherwise, it seems like it’s wasted money for a farmer.”

Ironically, large, aggressively expanding corporate producers are often risk takers, USDA’s MacDonald said.

“I think that large-scale producers have more years of formal education than they did 20 or 30 years ago, and that this may allow them to more quickly pick up on risk management strategies.”

Though risk management education and resources (including the USDA’s Risk Management Agency) are more readily accessible, risk management is still learned from a variety of sources. Voll attended Penn State for his agriculture business management degree.

“You learn a bit in class, different ways of thinking about risk. But you also learn a lot through the agriculture extension program and just talking to other farmers.”

“Most producers see [risk management] as part of the culture of farming,” Harper agreed. “They do what they can to manage it, but they realize there are going to be times when it doesn’t rain, when markets are in turmoil, when disease appears, when bumper crops in South America affect prices. I think most are pretty comfortable with their profession.”

“It gets pretty hectic and you don’t think about risk enough,” Voll admitted. “Eventually, it’s out of my hands anyway.”

Caption for top photo: Soergel Orchards, a diversified farming enterprise, has turned to Whole-Farm Revenue Protection to help manage its risk. Whole-Farm Revenue Protection was introduced in the 2014 Farm Bill and is a crop-neutral revenue insurance product for diversified farms. Photo courtesy of Soergel Orchards

This article was originally published in the 2018 edition of U.S. Agriculture Outlook.

One Response to “Managing Farm Risk”

  1. Aaron Yoder says:

    Another risk that should be considered but is often overlooked is Human Risk. A majority of small to medium farms go out of business after a fatality or serious injury. They can also be very costly for large farms. A great source of information on all types of risks is the Ag Risk Library: https://agrisk.umn.edu/library

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