Can Operating Ranches Be an Alternative to Farmland?
Investments in land suitable for agricultural production have generated quite a lot of press over the last couple of years. Most of that press has been directed toward Midwestern farmland in relatively high rainfall areas where row crop production is prevalent. Competition for this land has been fueled by traditional farmers re-investing farm income, absentee investors looking for investment diversity and decent returns, and institutional investors such as pension funds, private equity firms, and even hedge funds.
At the same time, prospective farm sellers are unable to find alternative investments that offer the same returns and advantages that farmland offers and are therefore quite content to sit on their holdings. The combination of low-interest rates, which have cut yield expectations for alternative investments in half, and strong crop prices have created a scenario where year-over-year farmland price increases are raising eyebrows and people are asking how much higher prices can get.
Throughout our trade territory, we have seen a marked increase in the desire of the “investor class” to own real operating ranches as an alternative to farmland. We are not referring to trophy homes on relatively small acreages. Rather, we are talking about quality livestock operations that offer current income, economies of scale, inflation protection, and a safe place to invest money for the long-term.
The main ingredient that distinguishes a ranch from a farm is the fact that ranchland is generally at its
lowest possible use. In other words, ranches produce native grass that grows every year and requires little additional inputs such as herbicides, pesticides, and fertilizer. Harvesting grass and converting to cash does not require a lot of equipment or fuel; the best harvester/converter is a cow!
It is unlikely that county or state governments will suddenly make zoning changes and outlaw livestock grazing. Ranchland is in its natural state and will perennially produce grass even without human intervention. This is the essence of what makes a ranch such a solid fundamental investment.
As a rule, these ranches are not generating “row crop” type gross returns north of five percent. Many of them, however, are yielding a 2 – 2.5% return. For example, the baseline value of a ranch’s agricultural component can be up to $10,000/Animal Unit (An animal unit is defined as enough land/forage to carry one cow for one year and support her calf at the side through weaning). The typical annual lease payment of $250/ AU equates to a 2.5% gross return. It should be noted that these are gross returns and, like a comparable farmland investment, the owner will have to pay real estate taxes, insurance, and some maintenance. While this may not seem like a high return, it’s considerably better than the .5 to 1% returns ranch owners have seen over the last 10-15 years. Plus, it is substantially
better than the sub one-half percent returns on cash being held in banks or short term treasuries.
M any good quality operating ranches possess other ingredients that do not contribute to the livestock operation. Elk, deer, antelope, upland game birds and waterfowl hunting add value, as does fishing, and other outdoor recreation. High-end homes and stream enhancements are becoming more common. The value of those assets can be significant, but they may or may not be easily monetized. Even if they are not formally monetized, many investors freely admit that a part of their return on investment is “psychic;” it is the pleasure of being there that forms part of the return on investment. One bit of good news for a buyer is that what are often described as “super adequate improvements” can often be bought for cents on the dollar as part of the ranch purchase.
INCOME FROM A RANCH CAN BE EARNED IN THREE WAYS:
- By leasing it out to an operator in its entirety. This delivers a sure return with the lowest risk. It can, however, limit one’s personal use of the ranch.
- Run other people’s cattle but retain control of the ranch and how the cattle are run. This reduces the return but allows for the better personal use of the ranch.
- Direct operation of the ranch. This requires significant additional capital investments in machinery and livestock. The main benefit is that one completely controls one’s own destiny.
As one savvy old rancher once said, “Only a fool tries to predict cattle prices or the weather.” That said there are many compelling reasons to invest in ranchland today. The most compelling reason is the fact that, while there is a limited and even decreasing supply of rangeland in the world, the demand for high-quality protein in the form of beef is likely to increase with the growing prosperity worldwide.
China’s middle class, for example, will very shortly equal the entire population of the United States. In the shorter term, the combination of volatility and uncertainty in national and international economies is creating a growing appetite for alternative investments in hard assets – and ranchland is about as hard as it gets.
If you are a prospective ranch owner and are not comfortable with operating the ranch yourself, give us a call. Hall and Hall is currently involved in the management of over one million acres throughout the western United States. We can help you get started either by hiring a manager or engaging a quality tenant and then following through with budgeting, bookkeeping, and oversight. Our most common undertaking is blending agriculture, recreation and the ecological health of the land with an eye toward long-term capital appreciation.
Also check out these ranches for sale.