Ch20 2 by 3iZUqoP


									                               LEASE AND LAND PURCHASE ANALYSIS
 The purposes of this exercise are to:
 (1) compare the cost of cash and crop share leasing
 (2) estimate the maximum cash rent that you can afford to pay
 (3) estimate the economic value of farm land based on its projected future earnings
 (4) look at the cash flow implications of financing a land purchase

 A.     Crop Share Versus Cash Rent Lease Analysis
        Use information from 3 years of crop production records to compare how much it actually cost
        (or would have cost) to rent land under a crop share lease compared to a cash lease.

        The indirect cost of a crop share lease can be computed by estimating:
          (1) the value of the land owner's share (50%) of the gross income, minus
          (2) the value of the land owner's share (50%) of the input costs (seed, fertilizer, pesticides and drying).

       Round values to the nearest whole $                  Year 1                    Year 2                      Year 3

                                                     Corn       Soybeans        Corn       Soybeans       Corn          Soybeans
1.    Average selling price, $/bu.                   $1.95      $5.75           $2.40      $6.60          $3.10         $8.00
2.    Average yield, bu./a.                          166        48              180        60             150           42
3.    Gross income, $/acre (price x yield)           ______     ______          ______     ______         ______        ______
4.    Average gross for corn and soybeans                    ______                     ______                    ______
5.    Landowner share of gross income (half)                 ______                     ______                    ______
6.    Value of input costs, $/acre                   $140       $88             $150       $94            $160          $100
7.    Average input cost for corn and soybeans               ______                     ______                    ______
8.    Landowner share of input costs (half)                  ______                     ______                    ______

9.    Net cost of crop share rent (5 minus 8)                ______                     ______                    ______
10. Cash rent in same year                                    $132                       $132                      $132
11. Which type of rent was cheaper?                        ________                    ________                 ________

12. In what type of year would you expect a crop share lease to be cheaper than a cash lease? More expensive?

 11. Which type of lease arrangement would you consider to be the most risky for the tenant and why?

B.    Maximum Cash Rent Analysis
 Estimate your added income and added costs from cash renting more land, identical to the land you             $/acre
 already own. Round values to the nearest $.
 1.    Average gross income per acre (line A.4, average of years 1–3)                                        _______

 2.    Average input costs per acre (line A.7, average of years 1–3)                                         _______

 3.    Machinery costs per acre, variable plus fixed                                                         $75

 4.    Labor cost per acre ( 3 hours per acre x $10 per hour)                                                _______

 5.    Total added costs (2 + 3 + 4)                                                                         _______

 6. Added net income per acre from land rental (line 1 minus line 5).                                        _______
 This is the most you could pay for cash rent and just break even. Of course, if you have to invest in
 larger machinery, you will have additional fixed machinery costs, as well.

C.    Value of Land (income capitalization approach)
      The net income that could be earned from renting land would also be available if you purchased the land.
      You would not have to pay cash rent, but you would have to pay property taxes.

      1.Net income per acre from additional land (line B.6)                                             $___________

      2. Minus property taxes per acre                                                                      $20

      3. Equals added net income per acre from a land purchase                                          $___________

      Since the expected useful life of land is unlimited, the present value of the land can be found by simply dividing
      the annual added net income by the real discount rate. Part of the cost of investments in fixed assets like farm
      land is offset by appreciation in value over time. To take this into account we can subtract the expected rate of
      inflation from the discount (or interest) rate to get a "real" discount rate.
       4.   Long-term interest rate                                  7.00%
            Expected rate of inflation in land values                3.00%
            Real discount rate                                       4.00%
       5.   Added net income (C.3)$ _______ / .04 = $ __________ per acre, estimated land value.

D.   Financing

     You can obtain credit for a land purchase from the First State Bank. Determine the payments in the first four
     years of a loan. Payments are based on the even principal payment method, also called the decreasing total
     payment method. Terms are:

               -maximum of 75 percent of purchase price, financed for 25 years

               -variable interest rate on outstanding principal (use an expected average rate of 7%).

     1.     Estimated bid price, $/acre (Part C5)
     2.     Percent to be financed (up to 75%)
     3.     Total amount to borrow (D1 x D2), $/acre
     4.     Years to repay                                           25
     5.     Annual principal payment (loan / years)

     Calculate the payments for the first 4 years, in $ per acre, and enter them below.
     Remember, interest is charged on the principal remaining from the previous year.
     Page 354 in your textbook has an example.

                                                                                Net income       Cash surplus or deficit
                            Interest           Principal        Principal        expected        (net income – interest
                         Payment ( 7%)         Payment         Remaining           (C.3)               – principal)
 Amount borrowed (line E.3)                                  __________
 1st year               __________           _________       __________        __________       __________
 2nd year               __________           _________       __________        __________       __________
 3rd year               __________           _________       __________        __________       __________
 4th year               __________           _________       __________        __________       __________

Do you project that a land purchase will create a cash surplus or a cash deficit in the first 4 years?

Where could you obtain cash to make up the cash flow deficit, if there is one?


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