If shiny new grain bins seem to be growing like corn in July on local farms, your eyes are not deceiving you. Numerous reasons exist for a farm operation to add grain storage to its holdings — reasons that affect long-term profitability. These advantages, however, go far beyond the bottom line, allowing you to run more of your operation on your terms, and that gives you more control.
This article is the first of a two-part series exploring many of the advantages on-farm grain storage provides:
Part 1: Why Store Grain?
Part 2: Run an Efficient Operation
Why Store Grain and Beans?
Farmers have many options for storing their grain including on-farm storage or working with their local elevator, according to Rob Huston, Director of Customer Interfaces, Solutions and Services at Bunge. And those advantages begin right at harvest. “Especially if there is a bountiful crop,” says Huston. “You may see extremely wide basis levels — and that can be very costly.”
Avoid Historically Low Basis Levels
As a function of local supply and demand, basis levels vary across geographies and conditions. Basis is simply the difference between the local cash price for your grain and the corresponding futures price on the Chicago Board of Trade (CBOT). The difference if negative, or at a discount to the CBOT price, often exists because of the of costs required to get the crops from a local elevator or terminal to a buyer or processor and the margin or elevation taken at the point of delivery to cover costs.
Furthermore, crops can also suffer discounting because of other factors, such as quality factors, (e.g. moisture content, damage, or foreign material). Burdensome supplies, expensive freight, or any combination of these conditions can contribute to a “wide basis” situation that, in turn, translates to producers receiving a lower return on crops than the CBOT price. Of course, the local price can be higher than the price quoted on the CBOT with strong demand and/or a limited supply, which we will discuss later.
“Having on-farm storage gives producers a way to avoid wide basis levels driven by peak harvest supply,” says Steven Aldridge, Origination Manager for Bunge. “Typically basis strengthens post-harvest, and storage allows you to participate in that.” You do not even have to erect storage on your farm to take advantage of post-harvest basis strengthening, he says. “Commercial facilities offer storage options, too, such as delayed price or warehouse receipts, but those alternative solutions also come at a cost, and you have to take those costs into account.”
Although waiting out the harvest glut in the market seems simple enough, that is seldom the only factor an operator must consider. The caveat to the use of on-farm storage, says Aldridge, lies in cash-flow demands. An operator still must sell enough of the crop to cover short-term cash-flow needs while waiting for basis to improve. The turning of the seasons creates a regular cycle for operations, flowing from seed purchase and spring fertilizer to fuel bills and crop management inputs and then to harvest costs and crop marketing. “If the farm has enough cash flow to maintain operations for several months, through that portion of the operations cycle, then grain storage has the potential to pay dividends.”
One other aspect of storing grain that needs mentioning is grain quality. “You’re storing a perishable product that can be affected by temperature, moisture and pests,” he says. “Keeping the grain in storage without proper monitoring and maintenance could result in ruin. That’s why you need a plan for grain storage and know how marketing that grain aligns with your operation’s financial needs.”
“It’s not always evident in articles you read about grain storage,” explains Aldridge. “But just like any other strategy, it’s a tool that can help diversify your risk. I’m not suggesting that farmers store all their grain, but maybe store a certain percentage of it, so that it aligns with your bias of the market and what your cash flow needs are.”
Keep in mind that every year presents its own set of conditions, so basis improvement may not materialize as expected. He recommends viewing storage as a part of a well-rounded risk-management portfolio.
ROI and Recouping Investment
If the idea of storing grain to improve your bottom line makes sense to you, your next question is likely: Can I afford to build it? You may find the answer in another question: How can I afford not to?
To get a good idea of the potential return on investment for building on-farm storage, Huston recommends tracking the three- to five-year average on basis. That history can show you trends demonstrating basis-level changes on-farm storage can capitalize upon.
“If it’s a fairly wide range for your geography, like 10-under to 70-under, I mean, the wider the range, the easier it is to think of positive ROI when you’re considering building grain storage,” he says. “Looking at a range, say, from 20-under to 35-under is a lot narrower than the 60-cent rise in my previous example. In this case, you have to consider how much you expect basis to improve: ‘If I’m storing in October, how much do I expect basis — and ultimately price — to improve by January?’”
Overall, Huston considers four to five years as a typical expectation for an investment in additional storage to capture a return on your investment (ROI), with exceptions possible that could either shorten or lengthen this range. The U.S. Department of Agriculture Farm Service Agency runs a program called the Farm Storage Facility Loan Program that typically amortizes the investment over seven years.
“Several university extension programs offer grain storage calculators to help producers visualize the return on investment they can estimate,” says Huston. “So, there are tools out there to help farmers make those decisions.”
Improve Marketing Flexibility
Controlling grain storage improves crop-marketing choices in several ways. When selling to the local co-op or elevator, a producer must compete with other local producers who grew their crops under largely the same conditions. A bumper crop that year? Odds are likely the neighboring farms also saw banner yields. All of that success flowing into the same purchasing entity can result in lower-than-historical basis levels. How far is the elevator or co-op from a processor or export terminal? That basis discount affects your crop and those of your neighbors’ equally.
Until this point, this article has largely compared using grain storage to delay a sale to the same local entity — after basis strengthens a few months post-harvest. But storage gives you many more options than that. With grain safely in storage, an operation’s delivery radius extends dramatically. It allows producers to search for the best opportunity, rather than being forced to sell as-is to the most convenient local entity.
“Your local elevator may be 8 miles away, but you can now look at markets that are 50, 75 or 100 miles away,” says Huston. “If the year is one of those years where basis is volatile and some people have to pay up for those markets, that becomes one of those ‘a-ha!’ moments. Rather than selling to the local elevator that is a few miles away, basis levels may be strong enough to haul the crop 85 miles — including freight costs — and still net more than selling to that local elevator.”
One example Huston describes is a processor looking to secure a continuous supply of grain or oilseeds to keep its mill or crushing facility active throughout the year. “Most of these operations do not have the storage capacity to buy a whole year’s supply at harvest,” he says. “These processors or manufacturers often pay a premium to sellers who will sign a purchase contract and then safely store the grain until the specified delivery date.”
Another possibility involves hauling it directly to an export terminal in a year where international crops have underproduced, pushing up the price on exports. “These are excellent stories of how owning grain storage can help broaden and open markets for your operation,” he says.
The Futures Hedge
On-farm grain storage opens up another important marketing tool that producers can use to manage risk as well as improve their profitability: the futures contract or hedge-to-arrive (HTA)
Theoretically, looking at the three-to-five year basis average, a producer can see that in a typical year basis can vary as much as 40 cents between what’s offered in October vs. selling in January. On-farm grain storage can provide an opportunity to capitalize on that spread. “If that is all the farmer does, there is no guarantee that when January gets here the price will be 40 cents higher than where it was in October,” says Huston. “That may be what history indicates, but the improvement is only a projection.”
With on-farm storage available, a producer can lock in a January or March price in October by leveraging a futures contract. “If you are satisfied with that, great,” he says. “Put it in your bin, store it, deliver it in January and you get a better price than you could have back in October.” The futures contract allows a producer to lock in a price and reduces the risk of prices dropping while storing the crop, but sets up some risk in that prices can continue moving higher after the producer has locked in a price with a cash grain contract.
To hedge against this scenario, a producer can enter into a minimum price contract. “This contract allows the farmer to forward contract a higher price for January delivery, but still have the opportunity for upside potential in the event that the market go higher,” says Huston. Each of these options have some give and take, but are useful tools for managing price risk in an operation’s crop-marketing efforts. The key to unlocking these opportunities lies in on-farm grain storage.
Useful Tools and More Information
NEXT: How on-farm grain storage can help cut costs and make you a better farmer.