Analyst warns of debt tsunami

Eighteen months ago, independent analyst, Colin Riden, of Manawatu, described as "economically perverse" some of the decisions being made by farmers and the agricultural industry. In a series of articles in New Zealand Farmers Weekly he deconstructed some of the sacred pillars of Kiwi farming, including Fonterra, the value of research and even the disconnect between farming and the rest of society. Riden's concerns included swollen debt levels from Fonterra down to farmers. They drove him to pay a visit to Treasury almost two years ago to express his concerns. "We had a reasonable reception until we moved further up the chain and then it seemed to be dismissed at that time." Today, Riden could be forgiven for dishing out a big "I told you so" as Fonterra shares, farm-gate returns and all accompanying assets take a slide in value, while some farmers grapple with bloated debt levels. His concerns revolve around the 40% of dairy farms wearing reasonable to substantial debt, although he is also sceptical even about the future of those farms carrying as little as $3/kgMS. Riden describes dairying's debt issue as systemic and dating back over the past decade, particularly since the formation of Fonterra. He believes there was an implicit expectation from farmers they would benefit from Fonterra's near-monopoly position from then on and valuations quickly drifted from any semblance of income stream analysis to potential capital value gains. The $5-$6/kgMS lift in farm prices every year since 2001 regardless of payout level and the almost exponential lift in Private Sector Credit (PSC) from July 2001 are all evidence of a dairy property bubble inflating on these monopolistic expectations. "The story of the debt increase is significant, beyond just a story about dairying." Recent events, however, have highlighted the industry's Archilles' heel. Greater use of debt to prop up the poor returns of the 2006/07 season in an easy credit environment managed to still see land prices jump by 18% pa that year alone. This was followed by a heightened borrowing binge from the 2007 announcement of higher milk solids price, one that has seen dairy debt account for $30 billion of the total $40b of farm debt to the end of September 2008. Even with a global credit crunch, banks have continued to lend apace almost to the end of the year, with November borrowings up another 22% on the same month a year earlier. This was the third consecutive month the increase exceeded 20% on a year ago and came as financing dried up for all other sectors of the economy. Riden is damning about the effects this will have on the survival of NZ farms and comes as rumours swirl about large farming enterprises facing bank management and forced sales. He notes 7500 dairy farms only carry 10% of dairy's $30b debt, or $400,000 each. However, only 350 farms also carry 10% of that debt. Some of these properties, fully leveraged have debt up to $80/kgMS. He fully expects to see many to fall over as dairy returns continue to beat the dollar in a race for the bottom.