Joelle Faulkner on Canadian Farmland

Joelle Faulkner, CEO of Area One Farms, sent me an excellent guest comment going over farmland as an investment:

Farmland is gaining attention from pension funds, corporations and investors alike. Recently, relevant conferences are growing in size and number, showing there is a real desire for education on farmland investing, and many institutions have begun taking the necessary steps to find a spot for farmland within their portfolios – often under “real assets”, an umbrella that also includes real estate and infrastructure.

Farmland’s fundamental role in food production, a necessity to life, ensures its market stability even in the most uncertain of times – no matter what the economy does, people still need to eat. Due to increases in population and the westernization of diets, the demand for farmland is actually increasing faster than supply, globally. Whether it is through higher productivity that enables supply to meet demand, or higher crop prices that generate more profit on the same acres, profitability seems poised to continue to rise, and land prices will follow. Institutional investors are taking notice.

As the fifth largest agricultural exporter globally, with a strong history of consistent land appreciation and a stable political environment, Canada is a prime investment opportunity in the space.

Why is now the time to look at farmland investments?

Canadian farmland sits on a foundation of strong historical performance, and is expected to continue to hedge inflation and add much needed diversification to most portfolios, while it continues to appreciate in value. Some of the key characteristics of Canadian farmland as an investment are:

• Historical performance: Canadian farmland typically has volatility levels similar to that of bonds, while offering returns more in line with equities, creating an attractive risk-return profile for institutions;

• Inflation Hedge: The market value of Canadian farmland has historically correlated with inflation, and therefore may be a partial hedge for investors seeking to protect their portfolios;
• Diversification: Canadian farmland has a low correlation with other asset classes – profitability changes resulting from the increase in physical crop yields and the addition of higher value crops keep North American farmland drivers distinct from that of real estate, infrastructure and private equity at large;

• Stable appreciation: The national average appreciation is 7.4% per acre (p.a.) for 1949 – 2018, and 7.1% p.a. for 1999 – 2018 with a standard deviation of 2.8%. Further, the Canadian dollar (“CAD”) acts as a hedge for crop prices, which stabilizes Canadian farmland prices;
• Projected improvement: As a result of technological advances and a longer growing season, a result of climate change, Canada has benefited from the from higher crop yields and the introduction of more profitable crops like canola, corn and soybeans:
• The 10-year average canola yield growth increased from 1.0% p.a. (1998 – 2007) to 5.7% p.a. (2008 – 2017); comparative annual yields for wheat increased from 1.7% to 5.1%, respectively; and for oats from 1.4% to 1.9%, respectively; and
• Between 2014 and 2018 seeded acres of crops increased by 6.6%, and seeded acres of the most profitable crops (soybeans, corn and lentils) increased by 20%, in aggregate.

What is holding back institutional investments into Canadian farmland?

Though Canada has a very active market, with over $10 billion of farmland trading annually, it also has significant barriers to access:

• It is estimated that over 80% of Canadian farmland trades off market;
• The majority of Canadian farms are small, in terms of scale, and therefore about 7 – 10 acquisitions are required to build at-scale (+7,000 acre), efficient properties; and
• Protectionist legislation prevents institutional investment in Manitoba, Saskatchewan and Prince Edward Island.

It is perhaps because of the barriers to access that Canada has remained owner-operated, which has created a significant opportunity for investment. Canadian farmers, generally a risk averse community who shy away from taking on high debt levels, are seeking alternative means to scale. Farmers are proving hesitant to take on large bank loans, and traditional lease-back models leave the farmers worried that one bad year could lose them their land. Additionally, financial institutions are not set up in a way which enables them to finance certain capital improvement projects that don’t have same-year cash-flows, such as land conversion, even when they add significant value over the long-term.

While some Canadian institutions have started investing in farmland directly, they have found difficulties operating in the Canadian market due to the lack of large-scale assets available. However, as the desire to make a play in the Canadian market grows, a number of funds driven to enable domestic investment in this space have emerged. There are two primary investment models in Canada: lease-back, which sees investors purchasing the land and renting it back to the farmers, often at high annual rates, and partnership, which functions similarly to a private equity investment alongside the farms themselves. Area One Farms (“Area One”) employs the latter, and has done so successfully.

The Partnership Model – a new way to look at farmland investments:

Area One partners with farmers, and co-invests in land acquisitions and improvement projects. Its unique partnership approach was developed on the principal that by doing well for the farmer Area One can create a sustainable model that benefits both the investors, and Canadian agriculture industry as a whole. The partnership model hinges on providing the farmers with the tools and resources they need to work their land their way, in the most efficient and sustainable way possible.

To date, Area One has 160,000 acres under management, has deployed $250 million of capital, and is currently raising its fourth fund (“Fund IV”). Through its partnerships, Area One has achieved access to the vast landscape of Canada’s off-market transactions, which enables it to build at-scale farms (+7,000 acres). From investing in improvement activities, Area One has realized farmland appreciation beyond that of the ‘natural’ market. Moreover, because Area One offers a different funding solution to Canadian farmers, it has access to a deep pipeline of potential farm partners and opportunities. In the first half of 2019 alone, the fund was approached for over $200 million of investment from over 65 farmers across the country. This is to illustrate that there is no shortage of demand for capital in the Canadian farmland space, and further that there is a need for innovative solutions which allow the farmers to do what they do best: farm.

I thank Joelle Faulkner for sending me this guest comment informing my readers on farmland in general and the intricacies of Canadian farmland in particular.

I met Joelle a few weeks ago at the CAIP Quebec & Atlantic conference where she presented in the real estate panel:

Joelle Faulkner talked a lot about farmland and she really knows her stuff. She said it's not correlated, non-leveraged and you can get anywhere from 8 to 12% return (she cited development projects for higher returns). She said most Canadian farms are small (2000 acres on average) relative to Australia's massive farms (20,000 acres).

She prefers the equity participation model over the own and lease model and I asked her to come back to me on a blog comment to cover farmland in more detail.

I remembered a comment I had written back in 2017 when facing backlash from farmers, CPPIB retreated from farmland, and thought it would be a great idea for Joelle to revisit this asset class and bring us up to date, so I'm glad she obliged and shined some light on the latest developments.

I think it's important to note there was a farmland bubble going on in the United States which imploded and things are getting back to normal there (if anything, many US farmers are looking to cash out, falling on hard times as a consequence of the escalating trade tensions with China).

In Canada, the market is smaller and fragmented so it helps to partner up with local farmers, which is Area One's approach, and work with them to unlock value.

What gives Joelle and her brother Benji their edge is their experience in Canadian farmland:

The Faulkners have been involved in Canadian agriculture for over 75 years. They own and operate London Dairy Farms, London Dairy Supply, ProRich Seeds, and Sequin Farms.

10 years ago, while expanding their main barn, the family had an opportunity to purchase a neighbouring farm. The problem was that they didn’t want to take on any additional bank debt, but also couldn’t find any partners to invest with them. Like countless Canadian farmers, the Faulkners had to pass on what they knew was a great farm expansion opportunity.

A decade later, siblings Joelle and Benji Faulkner created Area One Farms so that Canadian farm operators can get the deal the family wished they could have had.

 Back in August, Kevin Hursh wrote a good article on Area One Farms, Have you ever considered an equity partner?:

Want to expand your farm for the next generation? Want to buy out some of your landlords? Want to work your way out of a difficult financial situation? A Canadian company called Area One Farms partners with producers to meet these sorts of objectives.

The company has relied on word-of-mouth advertising and even though it has been running for seven years, most producers have never heard of what it offers. According to chief executive officer Joelle Faulkner, it has $250 million invested with 18 farm operations in Alberta, Saskatchewan, Manitoba and Ontario.

It’s an equity-based model in which Area One Farms becomes an equity partner in the farm. Farmers get 100 percent of the income and appreciation from their portion of the joint venture, plus 15 percent of the income and appreciation from the portion owned by Area One Farms.

In addition to the land, Area One Farms will also share in the cost of equipment and grain storage. Each deal is designed around the needs of the particular farm operation. No rent or other expenses are charged by Area One.

The initial agreement runs for 10 years at which time the farmer can renew or buy out as much of the joint venture as he can afford. Area One never owns land by itself. The land is either in a joint venture or it’s sold to another farmer.

Faulkner says the biggest challenge has been finding investors. Most private investors prefer the model where they buy land and rent it out. However, some institutional investors are comfortable with becoming equity partners, realizing the deal allows them to do well over the long term.

“By carefully and slowly finding investors, we have been able to maintain our farmer-centric approach,” says Faulkner.

It is now at a stage where it is able to enter into more equity partnerships.

The farmer never deals with any of the investors, but there is a very close relationship with Area One Farms. In fact, Area One has to approve the budget and crop plan as well as capital decisions. It keeps the books, pays the bills and offers advice.

The traditional ways to expand the farm are to take on debt and/or rent more land. There’s a limit to how much you can borrow and debt obligations can be tough to service in a bad year. Renting land can lead to significant losses and rental agreements are seldom secure for more than a few years.

Forming a joint venture with an equity partner is a very different approach. You certainly give up some autonomy, but you don’t have interest and cash rent payments to worry about. Sometimes a farm’s existing land base is rolled into the joint venture and sometimes it isn’t. Each deal is a bit different.

While Faulkner says Area One is happy to have more farm partners, they are selective. They look at a farm’s financial and cropping history before agreeing to be part of a joint venture. And in certain regions, farmland is just too expensive for their liking.

Equity partnerships may never be a mainstream practice in Canadian agriculture, but for some producers it appears to be an option worthy of consideration.

Kevin Hursh is an agricultural journalist, consultant and farmer and he writes very informative articles on Canadian farmland.

For example, back in September, he wrote about how with the exception of a few bright spots, crop prices are disappointing and the outlook is dim as many producers are facing lower returns than their cropping budgets projected.

In August, he was featured in an article discussing how Saskatchewan farmland prices are still a relative bargain.

Another article on Area One Farms I will let you read was written by Angela Lovell on the investment model that offers opportunity for farm expansion.

When it comes to farmland, you need a partner that understands farming and I must say, I prefer Area One's partnership model over the buy & lease model.

As private investors get more comfortable with Canadian farmland, they need a partner who really understands the asset class and the intricacies of the Canadian market.

My readers can learn more about Area One Farms here and feel free to contact Joelle directly at joelle@areaonefarms.ca if you have further questions.

Again, I thank Joelle for her wise insights on Canadian farmland and farmland in general.

Below, a couple of clips on Area One Farms which I found on Vimeo. You can find more here.

Also, Manitoba has some of the most fertile soil in the world but farmers still have to be attentive to their crops. They work long hours during their limited growing season with hopes of great harvest. Here's a segment from Prairie Public's Documentary series "Built On Agriculture".

Lastly, a discussion with Mel Luymes from FarmLINK about what’s driving up the cost of farmland in Canada, and whether or not the next generation of Canadian farmers will be able to afford to farm.

If the average price of farmland is going up, the next generation of farmers will have no choice but to partner up with private investors looking to co-invest alongside them.