Proposed changes to the 2008 farm bill could mean a quarter-trillion-dollar growth opportunity for the banks that back farmers.
Lawmakers are debating potentially big changes in the way farmers mitigate risk and the government programs that facilitate loans to less qualified borrowers. For the financial institutions that bank these farmers, the bill presents opportunities for growth and an appealing way to diversify their loan portfolios.
What's changing in the farm bill?
The current version of the farm bill in both the House and Senate includes two game-changers for farmers and their banks. First, the revised law would end a $5 billion subsidy for crop insurance premiums. Farmers' insurance expenses would increase, hurting their earnings and cash flow. The added expense could even tempt some farmers to forgo the insurance they really need, just to cut costs.
The bill also proposes a change to the guaranteed-loan program from the Farm Service Agency. Through this program, the government guarantees a percentage of a loan balance for the bank, similar to the Small Business Administration's 7(a) program. If the loan defaults and the bank takes a loss, the government will reimburse the bank based on the percentage of the guarantee. With the proposed changes, banks would now be allowed to offer longer loans to borrowers, yet still have the benefit of the government guarantee. Practically, this means lower monthly payments for borrowers, which would give them greater cash-flow flexibility in a down year.
Wait a second. Did you say a quarter-trillion?
Farming in the U.S. is big business. There are more than 2.2 million farms in the U.S., farming more than 920 million acres of land. According to the U.S. Census Bureau, these farms exported nearly $116 billion worth of agriculture products in 2010.
An industry of this size has credit and banking needs of equal proportion. The American Bankers Association reports that as of 2012, banks carried over $140 billion of loans to farms to acquire acreage and equipment, fund operations, and provide working capital. At the same time, the U.S. Department of Agriculture predicts that, industrywide, farms will increase debt outstanding by $277 billion by the end of 2013. The potential is huge.
Banks are once again finding ways to grow, but that growth is largely being concentrated in one- to four-family real estate. Agriculture lending presents an opportunity for banks to diversify the loan portfolio and grow at the same time.
The vast majority of farm loans are originated by smaller, specialized institutions, but not surprisingly, the big banks have the highest volume in raw dollar terms. Wells Fargo (NYSE: WFC ) is the nation's largest agriculture lender, with $8.9 billion in farm loans in 2012. Bank of the West, a wholly owned subsidiary of BNP Paribas, is the third largest ag lender, but more critically, the bank has a 6% concentration of its loans in the sector. Bank of America (NYSE: BAC ) is the fourth largest U.S. farm lender, with $2.4 billion in loans outstanding.
So who is best positioned to win?
The ABA reports that more than 50% of bank-originated farm loans -- 1.2 million loans, for a total of $74 billion -- go to small farms. Of the 1.2 million small farm loans, 841,000 involve less than $100,000. Since small farms need so much credit, the banks most proficient in small business and community banking have the most to gain from this change in legislation.
Wells Fargo is already adept in government-guaranteed lending programs, leading the nation with $456 million in loan production in the SBA's 7(a) loan program year to date in 2013. That position suggests that the bank can easily take advantage of expanded FSA programs for farms. Wells has committed itself to the community bank model and is already reaping the benefits in the marketplace. Of the big banks, Wells looks to be the lead horse.
Conversely, Bank of America has not embraced government-guaranteed loan programs, ranking 61st in SBA 7(a) loans. B of A is struggling to grow as it continues to battle with its legacy Countrywide portfolio of bad home mortgage loans. That struggle seems to leave the company in no position to capitalize on farm-loan opportunities.
Ag lending is a highly specialized business with unique risks and opportunities. The best ag lenders will always be the specialists -- the banks with a culture built around the farming business. But for the larger institutions, lending effectively to farms can be a lucrative way to increase loan production, diversify the portfolio, and differentiate among the competition on the ground and in the markets.
Should you buy that ag-lending leader?
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