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AcreTrader 101

August 28, 2018

A Brief Explanation of the AcreTrader Relative Risk Score (ARRS)

The AcreTrader Relative Risk Score (ARRS) is a score we designed internally to judge the relative (not absolute!) risk of various offerings reviewed for listing on our site. While we share this score with our users regarding specific offerings, please note the ARRS is not to be relied upon as a single determinant of risk. Additionally, note the information below is not intended as investment advice. Please see disclosure of additional risks here.

What is Relative Risk?

Put simply, standard investment risk and return usually share a somewhat inverse correlation; the lower the risk of a given investment, the lower the expected return, and vice versa. Government bonds for example, are often seen as low risk, but they offer low returns. Inversely, speculating on currencies in developing countries or typical equity crowdfunding may offer high potential returns, but often come alongside high risks.

Agricultural farmland has historically shown what we view as impressive returns alongside relatively low risk (check out our white paper for more info). However, not all farm investing or general crowdfunding opportunities are created equal. Thus, we created 3 basic questions to help us determine our AcreTrader Relative Risk Score (ARRS):

  • Is there existing or planned debt on the subject investment property?
  • Are there necessary or planned improvements for the property?
  • Are there additional business risks (non-core to farming)?

Examples of the AcreTrader Relative Risk Score

Based on the simple yes or no answer to the above questions, we then describe the project's relative risk as one of four categories:

  • A Low ARRS means a "no" answer to all of the above questions. While these properties will typically have a lower IRR, this comes with a low risk relative to other properties we have reviewed.
    • An example might be an existing corn farm with no debt, no external businesses and no planned improvements.
  • A Moderate ARRS means a "yes" answer to one of the above questions. This type of farm may offer a slightly higher IRR.
    • An example of a moderate relative risk farm would be an existing farm where there is a planned investment in improving the grade of the land, but the project is funded with cash raised up front.
  • A High ARRS means a "yes" answer to two of the three questions.
    • An example might be the same farm above with planned investments, but the project is funded with debt in order to increase returns. While the IRR may be increased via debt (as opposed to using up-front cash from investors), the risk profile is potentially higher as well.
  • A Speculative ARRS means a "yes" answer to all three of the questions. These properties will typically offer the highest IRR but come with the highest risk relative to other properties.
    • An example might be a farm with an attached dairy operation, where debt is issued to improve the property and the dairy business output. Most of the real estate crowdfunding deals we see on the major crowdfunding sites would fall into this "Speculative" category given often high levels of leverage, complex organization, "value-add" necessity, and/or other potential business risks.

Conclusion

To summarize, there is no "one-size-fits-all" in investing, and this holds true with farmland as well. While many farms are lower relative risk, this comes with a lower potential IRR. We don't view agriculture and farmland as a get-rich-quick scheme, but rather as a conservative way to earn attractive risk-adjusted returns.


Note: The information above is not intended as investment advice. Past performance is no guarantee of future results. For additional risk disclosures regarding farmland investing and the risks of investing on AcreTrader, please see individual farm offering pages as well as our terms and disclosures.

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Farmland Ownership in 3 Charts

One of the most frequent questions we get is “Don’t farmers own all of the land they farm?” The short answer is no, but farmers are often looking to grow their business by farming more acres. They already own the tractors, have employees, etc., so many of them end up renting land they don’t own to farm. In fact, almost 40% of all farmland is rented out per USDA research.

Chart 1: Only 61% of U.S. Farmland is Owner-Operated pasted image 0.png

The chart above shows 61% of crop land is owner-operated (typically not rented or leased). However, much of that land is only partially owned by the farmer. Often cousins, siblings and even neighbors will own land together. In reality, situations in which a farmer owns cropland outright make up a much smaller percentage of land.

This is one of the many ways AcreTrader helps farmers and landowners. Individuals selling a minority share of a property join with buyers wanting to be aligned with long term owners. Often, land is partially owned by the farmer operating the land and a few relatives, and we can provide an attractive solution for all parties involved.

Breaking down Chart 1, Chart 2 below shows that the majority of non-operator landlords are actually individuals owning whole parcels.

Chart 2: Most Non-Operator Owners are Individuals or Partnerships pasted image 1.png

While 21% of farmland is owned by individuals and partnerships, an even smaller amount is owned by corporations, trusts or others. However, companies and trusts are often set up for those who inherit land and no longer live near a farm. Thus, for argument’s sake we could say less than 5% of US farm land is owned by professional or semi-professional investors.

In what other asset class is less than 5% of a several trillion dollar market owned by professional investors? And, why don’t more investors own farmland?

We believe high barriers to entry keep most people out of this asset class. For most, buying an individual farm is too expensive, the asset is illiquid on its own, and good deals are hard to identify.

Chart 3: Buying Farmland Directly is Very Difficult pasted image 2.png

Despite the historical difficulty of investing directly in land, it is an attractive asset class that has appreciated greatly over time and often protects capital during times of economic turmoil.

This is where AcreTrader comes into play - we allow investors to own farmland without the traditional frictions and headaches. It is simple - buy shares of land on AcreTrader and receive annual rent from the farmer while the underlying land increases in value over the long-term.

Note: The information above is not intended as investment advice. Data in the charts above is sourced from the USDA, Economic Research Service and National Agricultural Statistics Service, 2014 Tenure, Ownership, and Transition of Agricultural Land (TOTAL) survey. Data excludes Alaska and Hawaii. Additional calculations and analysis performed by AcreTrader. Past performance is no guarantee of future results. For additional risk disclosures regarding farmland investing and the risks of investing on AcreTrader, please see individual farm offering pages as well as our Terms & Disclosures here.

Who Owns U.S. Farmland?

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We at AcreTrader are borderline obsessed with farmland investing. Along with steady income from cash leases and rising land prices, there are countless other reasons to consider investing in farmland and holding it as a long term investment. Underlying this belief, however, is an important consideration: for every buyer there must be a seller. If farmland is such a great asset, why would someone ever sell it? Are buyers taking advantage of owners who should not be selling? No! There are many good reasons to sell land. Beyond circumstantial reasons, there are several financial incentives and structural benefits that lead people to sell farmland when the time is right for them.

Financial Reasons Owners Sell Farmland

The first and most obvious is the right price. There are times when a piece of land is just worth more to a buyer than it is to a seller. If this is the case, then why wouldn’t a landowner sell their asset? Sometimes a seller just wants to realize their gains in asset appreciation or trade land for cash to invest in another opportunity. A frequent circumstance also occurs when a landowner has found another investable property and wants to sell out of one piece of land to invest in another. Often farm owners are able to purchase land they have long sought, land in a more suitable location, or a larger piece of land into which they want to invest the equity they have built in a different property. They will then sell their original property and use the proceeds to fund the purchase of the next one.

Structural Reasons Owners Sell Farmland

Other reasons to sell land may be structural. For instance, there are times when land has been passed down through multiple generations and there are as many as 40 or 50 owners. A family this big may not be interested in personally handling the management of an asset for the return they get on it. Or one of those family members may want to buy the land from the rest. Problems arise when there are many owners without a defined plan for management. Often, it can be better to sell a property rather than trying to align ownership interests among a large group of people. Another structural issue occurs when a land owner buys a farm with several large tracts of land and a small satellite tract. The owner may want to keep the larger tracts but not want the smaller one. This situation provides a great opportunity for farmers in the area as well as strategic investors to gain a valuable asset while solving a problem for someone else. Specified holding periods can be another structural reason for land sale. When a farmland investment fund is formed, it has a limited timeline and must sell the land it owns in order to give money back to investors. In these cases, farmland funds may sell to a competitive fund, to friends in the industry, or even to the next in their series of funds.

Conclusion

AcreTrader works with landowners selling farmland for all kinds of reasons. We understand that transactions can be complicated, and we are unique in that we can allow for more flexible ownership structures. We also often find sellers with nonstandard property types that may fit our investors’ needs better than their own. Farmland investors are fortunate to be in an industry where all parties in a transaction have the opportunity to make money. With appropriate holding periods and a fair purchase price, land has performed very well over time. This allows AcreTrader and our investors to be great partners for people who know it is the right time to sell their land.

Why Do Owners Sell Farmland?

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Despite the fact that millions of acres transact every year, there are few resources available to guide those who plan to sell their farm. Some immediate resources are wealth managers, trust companies, lawyers, and land brokers. While each of these have varying experience and expertise, exploring additional options and opinions with a third party like AcreTrader can be of tremendous value.

Overview of the Sales Process

This post is an introduction to a series of posts where we discuss the process of selling a farm. It also provides good information for those who might be interested in purchasing a farm either by understanding how AcreTrader’s process works or by doing their own research. However, this is not by any means the only resource one should use. It is a thorough introduction meant to help guide one’s own research and understanding.

All that said, below is an introduction to the factors one should consider when initiating a transaction to sell land.

Price

Price is the first component any person considers when selling an investment. “What did my family or I pay for this investment? How long ago was it? How much will someone pay me for my best property? I heard land in __ was selling for __.” We have heard all these questions and many more. Ultimately, the best price is usually the one where the land will transact in a reasonable time frame under the terms for which you are hoping.

Land investors value land two primary ways. First is comparable sales: this is where an investor compares similar land that has sold recently in the same region. Second is capitalization rate: this is where an investor tries to understand what the rent will be as a percentage of the purchase price of the land (for example, $5 rent on land worth $100 is a 5% capitalization rate). The investor will have a percentage range to hit and will need to adjust either the rent or the purchase price accordingly.

Most investors look at both methods and derive a price by reconciling the two different methods. Sellers who match their land purchase price with the market will have the best chance of finding a buyer willing to work with them.

Terms

Terms are one of the most under appreciated parts of any transaction. As we have been reminded many times, the saying “your price, my terms” can be either dangerous or lucrative. Terms can be anything from time to close and who pays for the transaction costs to other contingencies.

Common terms and contingencies we see are sale leaseback agreements, life leases for homes on a property, carve outs for portions of a property on which there are buildings like a farm office, hunting rights, mineral rights, and right of first offer on resale. There are many things a seller might want besides a purchase price, and all of these should be considered before selling, as they may affect the ultimate value of the transaction.

Land Characteristics

Sellers should know about the details of their property in order to understand how their property compares to other sales in their region, as well as to understand who might want to buy their property. Property size, tillable versus non-tillable acres, field slope, irrigation, drainage tile, distribution of different tracts over an area, soil quality, crop yield history, and the buildings and other assets on a property all make up what the property’s price will be.

Each of these factors can also make a property more or less attractive for a certain type of buyer. For instance, farms of a smaller size may get the best price from a neighbor or local investor, while farms over 1,000 acres are often bought by land funds. We at AcreTrader work with farm land at both ends of the spectrum.

Buyers

Knowing what kinds of different buyers exist in the land market can help a seller understand who should help them sell their land. If a seller owns a property in an area where auctions are common and price is well defined, then it may be easier to sell a property there than in an area where there are few buyers locally and state laws make corporate ownership of land difficult.

Leases

What leases are currently in place matters to buyers. Many farm buyers are farmers themselves and would prefer to take over farming the land. Land investors are more likely to work with the existing seller, and they often prefer longer term leases, because it requires less effort on their part to find a farmer year after year.

From a farmer’s perspective, it is good to have a long term lease because they can make long term decisions based on having a certain amount of property to farm. However, a buyer may not be interested in buying a property that has seven years left on a lease if there are no rent increases over that time. The rent would not keep up with commodity prices or inflation. Further, the farmer and new owner might not get along.

To summarize, leases can serve as an asset to some and a liability to others, so it is important to understand expectations for all parties involved in a land transaction.

Financial and Structural Characteristics

Sellers and buyers should also understand typical structural and financial preferences involved in a transaction. If one sibling wants to sell but three others do not, then that sibling will have a difficult time selling an undivided interest. Selling a corporation that owns a property instead of the property itself can be extremely difficult, even though it may be the only tax efficient way for a property to sell from an owner’s perspective. Many other problems may exist like outstanding liens, disputed titles, or disputed property lines.

Making sure one understands the financial and legal implications of selling a property is imperative for a seller. However, many kinds of buyers exist. There are those like AcreTrader and some of its partners who specialize in complex transactions. Finding the right buyer for your farmland is necessary to make almost any sale go through.

Documents

There are many documents which can help a buyer understand all of the information above. Many of them are readily available from the government, current and past tenants, and title companies who have done work on the property in the past. We have compiled a list of initial information and documents that AcreTrader and most buyers would request to get started; you can download our free farm seller packet here. Note that not all documents and data are required, but the more information the seller can compile up-front, the easier it will be to value and ultimately sell the land.

Special Situations

Many properties have special situations that a buyer and seller will have to work through. Many of these were listed in the terms we laid out before. However, all of the various circumstances should be considered before agreeing to sell a property. Special situations may include sale leasebacks, retaining hunting rights, mineral rights, pre-existing easements on a property, environmental waste issues that exist on a property, transferring a property enrolled in a government program which does not allow the land to be farmed, selling a property either in or soon-to-be in foreclosure, or selling a property with questionable water rights or availability.

Again, buyers of all types are looking for different qualities in a property and are agreeable to all kinds of special situations, but information and communication are critical.

Conclusion

Selling a farm can produce material cash and flexibility that enable a seller to have freedoms that he or she might not otherwise enjoy. However, having a solid understanding of all of the qualities on which a buyer might judge a property is fundamental to achieving the best outcome for both the buyer and the seller.

The AcreTrader team has experience with all kinds of buyers and transactions, and we are able offer attractive solutions for complex situations that may have few viable alternatives. Our goal is to make the process easy for both buyers and sellers of land, while also providing up-front transparency to investors, buyers, landowners, and farmers.

If you have a farmland asset or questions about farmland investments, we would love to speak with you.

We know farmland. It’s what we do.

How to Sell a Farm Part 1