Grain growers who face reduced yields or lost acreage because of excess moisture and flooding are now contemplating the unenviable task of deciding whether to buy out of deferred delivery contracts.
In some cases, the financial penalties associated with a buy-out can be a tough pill to swallow.
“It’s never good news when you can’t fulfill on a contractual agreement due to weather,” said Errol Anderson, president of Pro-Market Communications Inc, in Calgary.
“But I believe the good news from the farmer’s perspective is that with prices going down, it takes some of the stress out of the situation.”
Buying out of a forward delivery contract is generally less painful when grain markets are in a downturn.
Prices for most grain and oilseed crops are lower than they were a few months ago, meaning penalties will likely be lower or non-existent.
In water-logged regions of eastern Saskatchewan and western Manitoba, market analysts are still assessing crop damage and trying to determine how much production has been lost.
Estimates vary, but it is generally assumed that one to four million acres of seeded cropland will produce substantially reduced yields or be written off entirely.
Brian Voth, vice-president and senior marketing adviser with Agri-Trend Marketing, said the number of contract buyouts this year will likely be higher than normal.
“With stuff being late and looking like yields aren’t going to be much more than average at best … I would say there might be some guys out there who are overcontracted,” he said.
Different grain companies have different approaches to dealing with buyouts.
In general, penalties are linked to the replacement value of the contracted grain.
“Generally speaking … most companies are going to look at what it costs for them to replace the contract, so what’s their bid for the same time frame?” Voth said.
In theory, a farmer who contracts 20,000 bushels of canola at $10 per bu. should not be penalized if the replacement cost of the contracted production has dropped to $9.50 per bu.
Under that scenario, many grain companies will simply cancel the contract at no cost to the producer and buy the grain elsewhere at a lower cost.
Some companies, although not many, will issue a payment to the farmer to account for the company’s lower cost of replacement.
Conversely, some companies will cancel the contract but charge the farmer an administration or cancellation fee, even though the company stands to save money by buying the grain through different channels.
Voth’s advice to farmers is to scrutinize administration fees closely, especially if replacement costs are lower than the price outlined in the original contract.
“It depends a little bit on which company you’re dealing with, but if a farmer is in a better situation than what the current price is to replace that grain and the company still wants to charge a back fee or an admin fee … don’t just roll over and take it because there’s no excuse for that,” he said.
“If the cash price is lower than the contract price, you shouldn’t have to pay anything to get out of it.”
Replacement costs aren’t the only factor to consider, Voth added.
Basis should also be assessed, as should currency rates for grain contracted to U.S. companies.
If basis levels have improved significantly since the original contract was signed, lower basis could offset a higher replacement value of the contracted grain.
Farmers who are unable to deliver might also consider selling their contract position to another grower who has the required tonnage.
Under the right circumstances, both the farmer selling the contract position and the producer supplying the grain could come out ahead.
In rare cases, Act of God clauses may be offered by the grain company or bought by the producer.
However, such clauses are rare in most deferred delivery contracts.
“In most deferred contracts out there, the farmer takes on 100 percent of the production risk,” Voth said.