For every report on the growing Asian demand for Australian food there’s another of a previously successful family farming businesses now in financial difficulty.
It is important to be clear where farming sits: it is the first link in an interconnected, global value chain. Anything that happens at any point in this value chain impacts the farming sector.
The reality is in commodity agriculture farmers have little ability to influence the dynamics of the value chain. The old adage ‘farmers are price takers not price makers’ rings true for commodity producers.
Yet there are opportunities, promising opportunities, beyond the commodity chain.
To look first at the challenges though. Rising global demand means the long term outlook for the Australian farming sector is bright but those challenges are significant:
1. Climate change
Not withstanding the remaining climate change sceptics, extreme weather events are a reality
- Farming operations have been impacted variously by drought, floods, cyclones, frosts and high winds.
- Changing weather patterns are also exacerbating pest and disease issues.
- Permanent horticulture crops which are dependent on micro climates (e.g. wine, nuts, fruit) are finding long term weather patterns significantly changed.
- Climate volatility has impacted production yields, cost of production and therefore income.
2. Increasingly high levels of farm debt
The “average” farm debt levels have grown to unsustainable levels
- The prolonged drought forced many farms to borrow heavily to survive.
- Many over invested in technology and scale (buying neighbouring properties), in attempts to improve efficiency.
- Even though most districts have returned to more normal seasons, debt levels have not declined because margins are now much lower.
- The boom cycles are not as strong as they were and farms have trouble servicing debt.
- More acute seasonal variability has added to the challenge.
- In some cases, gearing ratios have gone beyond bank limits due to declining property values. Many have sold off water which has decreased farm value.
- Farms with high levels of debt are exposed to interest rate rises
3. The on going cost/price squeeze
Farming has historically faced a cost/price squeeze trend but the squeeze today is even tighter
- The long term trend in farm gate prices has not kept up with rises in input costs for most industries.
- Australian Bureau of Agricultural and Resource Economics and Sciences (ABARES) reports that farm productivity is around 2 per cent per annum less than the inflation rate.
- The historic ‘step change’ breakthroughs like superphosphate and glysophate have not transpired in recent years.
- Farms have responded to rising costs by increasing scale but this has simply added to debt and risk levels.
4. The high Australian dollar
The $A needs to be in the 75-80c band for Australian agricultural exports to truly be competitive
- The vast majority of world commodity trade is in $US.
- The $A has appreciated against the $US due to the GFC and the mining boom.
- Australian exporters must be competitive on the basis of world parity prices. This means that the $A returns have needed to drop substantially.
- Because a large percentage of domestic commodity output is exported, it has eroded the total industry value.
5. Supermarket power
The market power of major retailers is felt at every level of the supply chain
- For those commodities where the domestic market is the largest, once it was usually also the best returning. However, because supermarkets have a dominant share of the domestic market, they have driven out the one reliable source of margin for these businesses.
- Supermarket power dictates farm gate prices e.g. the $1 milk campaign has impacted the price processors’ can pay dairy farms per litre of milk. The same dynamic is influencing on-farm meat prices.
- Supermarkets are also dictating how the product is produced. The cost of switching production systems is largely borne by producers e.g. hormone growth promotants in beef or cage free eggs.
6. The commodity trading paradigm
The vast majority of Australian agricultural commodities is processed off shore
- The Australian agricultural sector does not benefit economically from the value-adding of the commodities it produces. This value is usually exported.
- As a general rule, the returns increase as a commodity moves through the value chain. For example a $250 tonne of grain converts to a $10,000 per tonne in packaged breakfast cereal. This means we are exporting a large proportion of the product value.
- Australian traders have a reputation of being opportunistic. In contrast, our Southern Hemisphere competitors (South Africa, New Zealand, Chile, etc.) are better at building longer term customer loyalty which translates into better stability and premium returns.
7. Impact of the Murray Darling Basin Plan
The Murray Darling Basin plan has forced farms to shift from ‘farming land’ to ‘farming water’
- The separation of water from the land title and the MDBP buy back scheme has put a true economic value on water.
- Historically irrigators treated water as a right and never factored it into their costs. But with ability to trade, water now has an opportunity cost.
- Under the new paradigm, many enterprises become uneconomic at a threshold price per e.g. irrigated pasture for dairy becomes uneconomic at $100 per megalitre."
- The complexity of the legislation and water asset management generally has required a whole new skill set which some aging farmers have struggled with.
8. Access to growth markets
In some sectors, market access is the key blocker to industry growth which is hurting at the farm gate
- Despite recent advancements in ‘free trade’ agreements, Australia is generally disadvantaged by market access restrictions.
- Competitors with FTAs have a significant cost advantage
- Even when trade agreements exist, Australian product can be totally denied access on bio-security grounds or subject to other arbitrary punitive blockers.
- In other markets we pay high and discriminatory levels of duty compared to our competitors or are subject to import quotas.
- Collectively, market access directly and significantly impacts on farm returns as it limits the price processors or traders can pay to be competitive globally.