ByGary S. Corner
The domestic agriculture industry has been thriving over the last decade. According to the U.S. Department of Agriculture (USDA), six of the past eight years rank among the top 10 income-producing years for the industry (adjusted for inflation) since 1980. As commodity prices and farm incomes soared, farmland prices also surged. Ancillary agricultural businesses, such as farm equipment manufacturers and dealers, have also benefited from recent farm prosperity.
As a result of strong industry conditions in recent years, agriculture banks have generally outperformed community banks without an agricultural focus. The level of problem assets at agriculture banks has, by and large, remained manageable, resulting in lower loan losses. Moreover, given their business model, agriculture banks have generally had lower exposures to the weak commercial real estate sector compared with other community banks. As illustrated in the table below, agriculture banks exhibit stronger asset quality, capital protection and earnings levels than their nonagricultural counterparts.
|District Ag Banks |
|District Non-Ag Banks |
|U.S. Ag Banks |
|U.S. Non-Ag Banks
|Nonperforming Loans + OREO / Total Loans + OREO2||2.39||2.37||4.27||3.71||2.51||2.56||5.66||5.38|
|Tier 1 Capital Ratio||10.31||10.41||9.70||9.44||9.91||9.93||9.69||9.44|
|Net Interest Margin||3.97||4.00||3.88||3.80||3.91||3.99||3.84||3.79|
|Average CAMELS Rating3||1.89||1.84||2.18||2.16||1.89||1.86||2.44||2.39|
|Provision Expense / Average Assets||0.36||0.64||0.39||0.45||0.24||0.41||0.54||0.77|
|Loan Loss Reserve / Nonperforming Loans||95.21||86.74||68.29||70.38||93.12||79.87||54.71||50.27|
|Ag Production Loans / Total Loans||11.60||12.09||1.94||2.04||20.96||21.75||1.40||1.42|
|Farmland Loans / Total Loans||25.17||25.46||5.21||5.21||21.26||20.33||3.00||2.88|
|Total Ag Loans / Total Loans||36.77||37.55||7.15||7.26||42.22||42.08||4.40||4.30|
Despite strong conditions in the agricultural sector, farm debt has remained moderate. In 2010, combined farm debt held by all U.S. banks and the Farm Credit System (FCS) increased 2.01 percent from the prior year, down from a 3.51-percent increase in 2009. According to the USDA, banks and the FCS supply 80 percent of farm credit outstanding. As such, it appears the surge in land values and capital expenditures are primarily funded by cash derived from farm profits.
Data also suggest that debt repayment ability of farmers continues to improve. According to Federal Reserve agricultural credit surveys, agriculture banks reported higher loan customer repayment rates and fewer loan extensions in 2010.
The soaring commodity prices and farm incomes that have strengthened the sector are not without risk. Escalating farm incomes and low interest rates have led to a recent surge in farmland values. The sustainability of higher farmland values depends on this trend continuing.
The table above also highlights another risk facing agriculture banks: the potential for over-relying on collateral values when making credit decisions. Since loans secured by farmland constitute more than twice the amount of credit extended for agricultural production, the majority of agricultural loans on an agriculture bank’s book are secured by farm real estate. In an environment of surging farmland values, lenders must therefore exert additional caution when underwriting these loans.
Overall, industry factors remain favorable for agriculture banks. However, because a concentration in any economic sector can result in volatility, bankers should ensure that strong risk management practices are in place.