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Brazilian Farm Life 08-09-19: "Head north my son"

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Brazilian Farm Life 08-09-19:

“Head north my son!” The tradition of westward expansion that transformed the U.S. prairie into fertile farmland has marked the history of many farmsteads across the Corn Belt. A similar trend occurred in Brazil with two slight variations. First, it was an expansion northward, not westward. Second, it has been fueled by the large leaps in technological innovation of the last century.

For the sake of simplification, let us talk about three generations and three regions in Brazil. Suppose the grandfather was born sometime in the 1940s in a small rural community settled by German or Italian immigrants in southern Brazil (Rio Grande do Sul, Santa Catarina, Parana). He grew up without much education (only elementary school), minimal agricultural equipment, lots of siblings and not much land. He was used to living off the land, not having much money and working hard. He did not have access to enough land to offer a promising future to his children. So, in the 1970s, this grandfather and some of his brothers visit underdeveloped lands in central Brazil (Mato Grosso, Goias, Mato Grosso do Sul) and decide to expand the family business. The second generation, born in the 1970s, grew up in the vast expansion areas of central Brazil. Tractors become much more common and this generation was able to finish high school. Now, the generation born in the 1990s is starting to make decisions, they have college degrees in agronomy, management and veterinary medicine. Regions like the MATOPIBA (Maranhao, Tocantins, Piaui, Bahia) are exciting frontiers. The technological and educational gaps that separated USA farmers from those in Brazil have all but closed.

In the Daily Grain Plan last week John showed a projection on Brazil’s soybean expansion. The official projection is an increase of 32.9% over the next 10 years, but this estimate may be conservative. Ben, a subscriber from North Dakota shared his concern, that “Brazil is increasing output even as the world is flooded with soybeans. He wondered if Brazilian soybean cost of production is simply that much lower than the USA.” If you look at the cost of production in USD/acre or USD/bushel, the decreasing cost of production of Mato Grosso soybeans answers Ben’s question in a very straightforward way. In the figure below, the green bars measured by the left axis shows the Mato Grosso cost of production in USD/acre and the black line measured by the right axis shows USD/bu. Mato Grosso cost of production has fallen approximately 20% over the last four years. This competitive advantage makes a difference in the export market and global competitiveness of Brazilian soy, but it is not how Brazilian farmers think about their costs, revenue and investment decisions.

To understand Brazilian farmer decision making, it helps to look at numbers through their vantage point. Farmers in Brazil look at production budgets in Brazilian currency (BRL) per hectare. The following table shows the breakdown of fixed and variable costs as well as the revenue based on historic average prices and yields for Mato Grosso. The figures for the upcoming year are projected yields and current prices.

As Brazilian farmers look at their budgets before planting the 2019-20 crop next month, many farmers are looking at numbers in the red. They may well be thinking things like, “if I didn’t pay myself anything, I could make money”. The last two years have been profitable, and throughout the crop year it is quite likely that prices will allow for profitability in 2019-20, but farming in Brazil feels like a tight margin industry where profits are far from certain. Sound familiar?

So, if margins are tight in Brazilian farming, what is driving expansion?

Expansion of Brazilian soybean production is driven by improvements in yields, as well as expansion of acreage. The quest for yield improvements is no different in Brazil than in the USA. As technologies allow for better yields, it is critical to improve the yields on one’s own farm in order to stay competitive.

To understand the growth in acreage, you need to think in terms of growth in net worth over a 5-10-year period. Many farm operations prefer to expand into regions of degraded pasture or uncleared land instead of paying higher and higher rents. Funding this expansion, often means cash flows are tight or negative for a number of years, but in the end, land appreciation has historically rewarded these land development efforts. Many Brazilian farm families have expanded business by sending family members further and further north. Family fortunes have been built by supporting expansionary costs from the home farm until the new area is a much larger operation than the initial farm in the south.

Brazilian soybean production is competitive globally. Production costs measured in USD/bushel have fallen over the years. In Brazilian currency, production costs tend to be well above variable costs, but close to total cost. The economics of expanding acreage comes primarily from choosing to grow equity through land development as opposed to competing for higher and higher rents of developed land. Brazil’s expansion of soybean production acres is fueled and funded, at least in part, by farm families willing to be cash poor and asset richer, and richer.

 

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