The folly of land ownership?

Institutional investors whose operating model is based around owning land and leasing it out to local farmers do not currently see the UK as a viable market for investment in farmland because the rental yields do not compare favourably to other locations according to OFC Chairman and investor, Martin Davies.

His comments may be strident, but his subsequent explanation could be useful for UK landowners and tenants alike. 

Mr Davies, European CEO of Westchester Group Investment Management has a crisp and clear view on investment in land: “It is a “good” investment, however it is only attractive if the return compares to other options institutional investors have available to them. There is no certainty about future land values and appreciation so institutional investors focus on annual cash returns.

“For ‘row crop land’, [land growing annual crops such as cereals, oilseeds and vegetables as referred to by US institutions], annual rental returns and capitalisation rates in the UK range from 1-2%, whilst in Australia equivalent returns are between 4-5% and in the USA, 3-4% yield is reliably achieved in the main row crop areas,” he explains.

Land values
“In Illinois for the best quality land capable of growing up to 250 bushels/acre, or 15.7t/ha of unirrigated corn, values range between $9,000 and $11,000/acre.  Such land would currently command a rent of between $300 and 400/acre,” he notes. 

“For the US Delta - the states including Mississippi, Arkansas, Tennessee and Louisiana, cotton and rice widen the rotational options over just soya and corn. Land values of up to $6,000/acre and rents between $150-200/acre make for sound investment.” 

He also considers that permanent crops such as tree nuts, wine grapes and citrus in California offer higher annual returns but suggests that the dynamics are different to row crops because of their infrastructure needs. “A significant proportion of value is contained in trees, irrigation systems and trellis systems which are depreciating.” 

The investor’s perspective on Eastern Europe is that it offers rental yields a little lower than the US but still between 3-3.75%. Brazil, Chile and New Zealand are all delivering similar returns to the US, depending on crop and region; no land has this level of return in Western Europe,” he says. 

Political regimes
“Ownership restrictions are an important consideration for institutions. Political regime change has seen a law change on foreign ownership in Argentina, currency risk still needs to be overcome but the climate and soil quality fundamentals in the main cropping areas in Argentina are good,” Davies adds. 

He shares his wariness for countries that suffer with bribery and corruption, such as Ukraine, or where there are ethical considerations.
 
“Africa has limitations for foreign investment in land as there is no freehold market in many countries and long term leases only are possible. More importantly, if domestic populations are nutrient deficient, how ethical is it to invest in land in these countries?”

Mr Davies points out that liquidity in the market is an important consideration for institutional investors. “Land comes to the market for various reasons but with an aging global farming population generational drivers are common the world over,” he states. 

“In Australia family-related land divestments to release capital to buy out parents or partnership dissolution often result in sale and leaseback. In the remote parts of the Southern US Millennials don’t want to live there, so land is sold in the absence of successors.”

Movement of land between institutional investors is common with investment funds having a defined timeline and exit. Institutions draw comfort from buying land where there is a track record of returns.

Institutional investors
It may seem to some readers that this view of land as an asset to yield return is a slightly mercenary way to view farming, but Mr Davies suggests a counter view. 

“With row crops we aren’t interested in `farming’ the land we buy, we want to lease it out to the best, most progressive people who want to farm. We want forward-thinking, entrepreneurial tenants who are good custodians of the land and will enhance our investment.” 

Starkly he adds: “In the UK land value does not sufficiently reflect the actual earning potential of the land, residential value, because factors like generational wealth transfer tax advantages cause a major distortion in the market. A change in fiscal policy could result in a recalibration of values”. 

Understandably, Mr Davies highlights political risk as a major consideration for investors. “Ironically we are in a period where investors need to be as concerned about the risks in developed countries as emerging market countries. Putin has brought order to Russia, albeit at a cost, India has a stable pro-business government. The uncertainty resulting from BREXIT has damaged the UK’s reputation.”

Poor capital deployment
The wedded view to owning and farming land has changed in the UK, but not fast enough he chides. “Owning land is a very poor way of deploying capital, how many businesses in other sectors want to own the premises they operate from?”  He urges landowners to ask themselves, is there a strategic reason for owning land?

He calculates that the blended annual returns from owning and renting out row crop land globally averages around 3.5-4% which is attractive to an institution looking for a stable lower risk return and inflation hedge. This sort of return is much less in the UK.” 

However, for a farmer who has operating skills, expertise, a greater appetite for risk and can see double digits returns from renting land in from an institution, this is highly attractive as a proposition.

The final big area of consideration for Mr Davies and his peers is managing the risk and volatility associated with farming. “We have to plan for the risks and volatility, it’s fundamental to the success of our investments.”

One common belief is shared with any farming business investors in land want to spread their risk across different countries, regions and crops. Certainly for institutional investors this in built “risk hedge” is vital.