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March 31, 2003

Marketing contracts too often all grain, no gain, economist says

WEST LAFAYETTE, Ind. - Grain sold by contract fetches up to 25 cents more per bushel than corn, soybeans and wheat taken directly to market, a government study indicates. However, farmers shouldn't rush to sign on the dotted line, said a Purdue University Cooperative Extension Service agricultural economist.

Marketing contracts for specialty grains usually require a farmer to follow certain production and delivery practices, which often increase the farmer's production costs, said Corinne Alexander, a grain marketing specialist.

"There are some disadvantages with these contracts," Alexander said. "For instance, a lot of these grains will cost more to produce. One of the largest expenses may be increased transportation costs if the delivery point is far away from your farm.

"Another potential disadvantage of marketing contracts is they're frequently buyer's calls, meaning you would not have control over when you sold your crop. That could cause cash flow problems for your operation."

A contract also might force a farmer to make significant investments in machinery or facilities to meet production demands, she said.

"You'll want to know that the returns from the contract are large enough or that the contract length is long enough to recoup the investment costs."

Marketing contracts are agreements between a farmer and buyer usually a processor that set a price or pricing formula on a specific quantity of a commodity and its delivery. The contracts take many forms, including forward sales of a future crop, price setting after delivery based on quality and yield, and payments determined by the net receipts from the total delivery sold.

Far less grain is sold by contract than is livestock, but a recent study by the U.S. Department of Agriculture's National Agricultural Statistics Service (NASS) could change how grain farmers view marketing contracts.

The NASS study revealed that during the 2001 crop year soybeans sold by all types of marketing contracts earned, on average, 25 cents more per bushel than those sold in the marketplace. Contracted wheat averaged 20 cents more per bushel and contracted corn 17 cents more a bushel. Identity-preserved corn including specialty and niche market types averaged 24 cents more per bushel when sold by contract.

The NASS reported that 10.4 percent of corn, 8.6 percent of soybeans and 4.8 percent of wheat produced in the United States in 2001 were sold by contract. The study was based on surveys conducted with more than 13,000 farmers in 48 states.

Specialty grains commonly are sold by contract, Alexander said. In addition, an increasing number of processors that need grain that is not genetically modified (GMO) are entering into marketing contracts with producers.

"Companies that would like to sell to Europe need to guarantee that their product is GMO-free," Alexander said. "There is pressure from Europe certainly from the grocery stores in Europe for processors here to be able to provide all the documentation from the input purchasing on the farm level through the processing at the plant level. In the soybean area, we've got Japanese consumers wanting non-GMO soybeans, and it's been the Japanese companies that have been offering the contracts for GMO-free soybeans."

Marketing contracts are less popular in the grain industry than the livestock industry for several reasons, Alexander said.

"In the livestock industry there have been larger gains to the processors through contracting, because in the livestock industry there's the potential for genetics to increase profits," she said. "By comparison, 60 percent of corn is sold for livestock, where No. 2 yellow corn works fine. When 60 percent of the crop does not need to be a specialty corn, that limits the momentum toward a vertically integrated marketing contract system."

Also, "We have yet to find a type of corn or oilseed that is so specialized, such that the processor can extract such a huge amount of value, that they would want to go exclusively with a marketing contract arrangement."

Unless there are significant changes in how grain is produced and sold, only certain farmers will profit from marketing contracts, Alexander said.

"The farmers that are going to benefit the most are those farmers that are close to the delivery points that accept specialty grains and offer marketing contracts," she said. "From there, whether or not a contract is going to be beneficial to you will depend on the characteristics of your farm, your soil types and whether or not you face a yield drag or yield advantage with these specialty crops.

"It's worth comparing the expected premium with the expected increase in cost on a per-bushel basis. You should add in the extra potential fixed costs, as well. The other thing to remember when you're adding up the costs is to consider the extra managerial time and time cleaning the planter to ensure identity preservation that it could take to produce these crops."

Writer: Steve Leer, (765) 494-8415, sleer@purdue.edu

Source: Corinne Alexander, (765) 494-4249, cealexan@purdue.edu

Related Web sites:

USDA National Agricultural Statistics Service study, "Corn, Soybeans, and Wheat Sold Through Marketing Contracts": http://usda.mannlib.cornell.edu/reports/nassr/field/pgs-bb/special-reports/

Purdue University Department of Agricultural Economics: http://www.agecon.purdue.edu/

Purdue News Service: (765) 494-2096; purduenews@purdue.edu


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