Many agriculturalists are watching for signs of the next crisis in agriculture. For the most part, the regulated banks and Farm Credit System, while showing some signs of credit deterioration, are still solvent and positioned to do business with qualified borrowers. However, some of the shadow banks and lending entities are still experiencing financial stress in their portfolios. Let’s examine some of the ways that lenders can get into trouble.
One of the first that comes to mind is the overreliance or a false sense of security built on increasing real estate values. Some borrowers are extremely upset to find they are being rejected for a loan despite having millions of dollars of equity on the balance sheet. The bottom line is that cash flow and earned business profits repay debt. Too many loans have been made with repayment dependent upon capital gains from the sale of real estate; asset sales tied to the sale of collateral works when land values are ascending. However, when the opposite occurs – no secondary source of repayment combined with high-maintenance living withdrawals – it is a recipe for disaster.
Some lenders have had increased challenges in the portfolio with the overreliance on statistical models. Lenders who use credit scores with blinders on where the borrower demands and expects quick and easy credit can lead to problem credit mine fields in an economic downturn.
Some lenders became enamored with growth of the portfolio. They conducted deals that were highly leveraged, extremely complex and in industries where they had no expertise. When seeking a lender, a combination of balance, focus and plain vanilla conservative lending practices is a formula for sustainability.
Editor’s note: Dave Kohl, Corn & Soybean Digest trends editor, is an ag economist specializing in business management and ag finance. He recently retired from Virginia Tech, but continues to conduct applied research and travel extensively in the U.S. and Canada, teaching ag and banking seminars and speaking to producer and agribusiness groups. He can be reached at sullylab@vt.edu.