Rampant inflation and rising interest rates mean some farmers could struggle to break even at the current milk price forecast for the dairy sector.
Farmers have benefited from a buoyant commodities market in recent years but higher farming costs, fast-rising interest rates, and lower prices have put farm debt back in the spotlight.
The Reserve Bank has in the past listed high farm debt as a potential risk to the financial system - particularly during the slump of 2014 to 2016, when milk prices hit $3.90 a kilo of milk solids (kgMS). But farm balance sheets have improved since then.
Prices have improved since the bad old days, the milk price peaking at $9.30/kgMS in 2021/22.
The current Fonterra forecast range for 2023/24 has an $8.00 mid-point - which looks fine relative to history.
But rising costs and interest rates mean that many would struggle to break even at that level.
The New Zealand Herald is running a series taking a closer look at the nation’s debt levels, which have hit a new record high of $790 billion - up from $739b last year.
Agriculture debt makes up $63b of that debt and is up 1.6 per cent in the last year. The dairy sector, which is New Zealand’s largest export earner, is carrying around $36b of debt.
The Reserve Bank, in its latest Financial Stability Report, said weaker dairy prices and increasing farm input costs - fuel, fertilisers, and labour - were putting pressure on farm profit margins.
It noted that slowing global demand had seen dairy prices fall. “Another significant concern for the dairy sector is increasing debt servicing costs,” the report said.
At an aggregate level, average interest costs per unit of production increased to $1.20/kgMS from $0.50/kgMS in mid-2021, it said.
“Narrowing margins from rising costs and falling international dairy prices have led to more requests from farmers for working capital and overdrafts to meet short-term cashflow needs,” the central bank noted.
While conditions have suddenly become more challenging for farmers, farm balance sheets have come a long way.
DairyNZ’s head of economics, Mark Storey said the dairy sector has been focused on prioritising debt repayment in the past five years.
Farm debt-to-asset ratios have reduced consistently since 2019/20, and this trend is expected to continue in the next couple of years, although at a slower rate due to currently-high interest rates, he said.
“Dairy sector debt has decreased by $5.4 billion - dropping from $41.7 billion in 2018 to $36.3 billion in 2023, which places farmers in a much better financial position than they otherwise would have been, now that debt-servicing costs are rising rapidly,” Storey said.
“With total expenses having increased on average by 33 per cent over the past three years and forecast to be around $8.96/kgMS for the 2023/24 season, we expect farmers will be focused on making ends meet over the next couple of seasons,” he said.
“Consequently, more farmers may be opting for interest-only payments.”
Rural lending specialist Rabobank, whose New Zealand rural lending portfolio stands at $12.75b, noted that total agri debt had recently started to grow again after a period of flat or lower agri debt levels in recent years.
“This period of flat or lower debt was largely down to the strong industry profitability which allowed farmers to repay debt and strengthen their balance sheets,” a bank spokesperson told the Herald.
“In recent times, farmer margins have been squeezed considerably due to lower commodity prices and higher farm input/interest costs, and this has resulted in debt starting to lift again as farmers’ ability to repay debt has reduced,” the spokesperson said.
When it comes to farm debt, the focus tended to turn to dairy because that’s where the larger amount of it lies, said Christchurch-based Mark Grenside, who is the regional manager, business and agri, for New Zealand’s biggest rural lender, the ANZ.
“The beauty of dairy is that farms produce a product that is picked up every day, then it goes off to the milk processors to handle the after-farm care,” Grenside said.
While it can have its ups and downs, dairy farmers nevertheless have the security of a milk cheque arriving every month.
Grenside points out that a lot of debt has been paid back - particularly in the dairy sector.
“The majority of these farmers have built a stronger, more financially-flexible position,” he said.
Expenses, however, have been challenging.
“We are seeing a huge spread in farm working expenses (up to $3/kgMS in dairy) and so efficiency of farm systems and the expense-to-income ratio will have as big of an impact as interest rate movement (up to $1/kgMS) on farm business resilience over the next few years.”
What’s been tough to manage for farm businesses is the fast turnaround in revenue and interest rates over the last 12 months in a period of rampant farm working expense inflation.
Farmers generally show a huge amount of discipline with their cash management and how to allocate it, Grenside says.
“People are trying to cut their cloth and be resourceful.
“A lot is made of the dairy farming book and all the debt - and there is no doubt that it is a challenge.
“But I think it’s often over-stated.”
Grenside said farmers were wiser after the shock of the price slump nearly a decade ago.
In terms of what is break-even, an $8.00 per kg milk price is talked about in the industry, but Grenside said there is a lot of variability around that number - depending on individual circumstances.
Beyond the farm gate, Grenside said the big co-ops like meat company Silver Fern Farms and dairy co-op Fonterra have done a lot to make themselves more resilient, by shoring up their balance sheets.
“The outside farm gate businesses are generally stronger than where they were 10 years ago.”
Many farmers have also taken measures to hedge their bets.
“A lot of farmers have taken the opportunity to invest off-farm so that they have other income streams,” Grenside said.
“They have used money wisely over the last few years to improve their assets and productivity, through irrigation and automation and diversification into kiwifruit, for example.
“But banks recognise that farming is a long-term game.”
Nation of debt
Monday: How much more do Kiwis owe?
Tuesday: Rising costs and falling milk price means farmers could struggle to break even
Jamie Gray is an Auckland-based journalist, covering the financial markets and the primary sector. He joined the Herald in 2011.