Some Thoughts on Farmland Investing on the Downside of a Commodity Cycle

By Tom Schenk, TerViva’s Director of Business Development

A good case can be made that over the last 10 years, most of the “easy” money has been made in farmland investing. Corn, soybeans, wheat, and many other commodities more than doubled in price over their prior decades, and then maintained those levels – until this past year. Surges in worldwide demand and weather-related shortages primarily fueled this explosive rise in prices.

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Farm income rose sharply as interest rates plummeted and suddenly a once-sleepy asset class called farmland (and agriculture in general) became the darling of hot investor money. As investors swarmed to this asset class, farmland prices were bid up even faster than lease rates were rising.

Farmland that once fetched an 8% cap rate declined to 3% and in some cases even lower. Total annualized returns (lease income + land appreciation) ballooned to 15% and many expected those returns to stay close to those levels far into the future – until this year. Additionally, tillable acres worldwide grew sharply as technology improved farming methods and varietal yields.

So in 2014, faced with a worldwide surplus of grains, we are reminded once again of the fundamental laws of supply and demand.

Farmland values are related to lease rates. Lease rates are related to farm incomes. Farm incomes are related to crop prices, input costs, and tax rates. And none of the latter has been kind to profitability.   Growth in profitability drives appreciation expectations for this asset class.image009

As a result – and in the near term – investors are dreaming if they are expecting traditional row crop farmland returns beyond their current lease rate. Row crop farmland has entered an “adjustment” period where crop supply/demand ratios slowly re-align, where land prices re-align with rental rates, and where rental rates re-align with farm income. This is nothing new in agriculture world, but certainly may be for investors new to this asset class.

But rather than concluding on a gloomy note, I’d like to leave readers with two thoughts.

  1. Finding/creating alpha from this asset class will take some thinking outside of the box. In other words, instead of passively owning traditional farmland and riding the commodity cycles up and down, explore ways to proactively drive your own returns.

Advances in precision farming have the ability to make the land, inputs, machinery and the farmer more productive. However, converting to precision farming is expensive and especially at current crop prices, can take many years to just break even.

Agriculture will always need supporting businesses, handling, and processing infrastructure assets. Opportunities should be explored here, as well.

And finally, another approach for traditional farmland investment portfolios may be to add an “alternative” crop that can be grown on under-productive or low-value land. Though it is a shameless plug, the oilseed tree crop called pongamia is one such crop that, to date, is showing extraordinary promise to achieve just such a goal on abandoned citrus land in Florida as well as abandoned pineapple and sugar land in Hawaii.

  1. The final thought here is a macro observation about investing in general in today’s crazy world. I attended one of the top business schools, and worked in Wall Street firms for 36 years specializing in commodities and money management and I am completely dumbfounded at where we find ourselves today. I was taught that a healthy economy saves and thus creates capital to invest in the production of goods and services and good things result for the society as a whole.

The “Quantitative Easing” experiment that the central banks have embarked on has little precedent and even fewer image007beneficial results for employment or the economy as a whole. Years of artificially suppressed interest rates have resulted in mis-allocating capital and mis-pricing risk across all asset classes. Japan has probably the longest experience in following this politically expedient money-printing experiment and is a good place to look to for a preview of what we can expect in Western economies. There is a mind-blowing quantity of: debt, leveraged debt, trillions of derivatives and swaps written on this debt. Let’s be clear: nothing tangible is created other than esoteric derivative paper instruments or making the spread off borrowing from the Fed and investing in Treasuries!
Just like Will Rogers quipped years ago, that he is more interested in the return of his money than the return on his money, so too should investors be today. Farmland is truly a real asset – and it cash flows. (Not even gold can make that claim.) People will always have to eat. Farmland is always taking the energy from the sun and the rich earth and creating food. Even at today’s low returns, there are few better places to store one’s wealth until this economy returns back to some fundamental economic reality. If you own farmland, sleep well.

Don’t Give Up on Biofuels Yet, HECO. Introducing the 10-10 Plan.

Last week, TerViva attended the Asia Pacific Clean Energy Summit in Honolulu, where we presented our vision for Hawaii. We call it the “10-10 Plan”: to use pongamia to produce 10% of Hawaii’s current petroleum needs annually, using 10% of Hawaii’s available farmland.

In response to the Hawaii PUC’s call to action (http://1.usa.gov/1x2PFWc), Hawaiian Electric (“HECO”) recently presented its strategic goals for Hawaii’s energy future (http://1.usa.gov/YXk1ei). It prominently features the use of liquefied natural gas and increases the amount of solar energy production. It does not put much emphasis on biofuels. Hawaii currently generates most of its expensive electricity from oil-fired power plants, and it has been long-hoped that biofuels could replace the use of petroleum. While not explicitly stating so, HECO now seems to view biofuels as only a small part of Hawaii’s future energy mix.

TerViva hopes to change that with pongamia. The 10-10 Plan is ambitious. Hawaii currently uses approximately 42 million barrels of petroleum per year. 10% of that is 4.2 million barrels, or 178 million gallons. At our current projected yield for pongamia of 400 gallons per acre per year, that means we’ll need almost 4.5 million acres of land. But Hawaii’s total land mass is only 4.1 million acres, and total available farmland is only 1.2 million acres. 10% of that farmland, or 121,000 acres, means that pongamia will have to produce 1470 gallons per acre per year for the 10-10 plan to work (121,000 acres X 1,470 gallons per acre = 178 million gallons). That’s a big increase from 400 gallons per acre, and it’s quite bold to suggest that we will plant 10% of Hawaii’s farmland with pongamia.

So how will we make the 10-10 Plan a reality? There are 2 necessary developments:

Example pyrolysis process, courtesy of www.btgworld.com

Example pyrolysis process, courtesy of www.btgworld.com

 

First, we’ll have to find a way to take all those seed pod shells produced from pongamia and turn them into oil. Like other nuts such as almonds or peanuts, pongamia seeds grow inside of woody shells. Right now, the shells are a waste stream – it’s really the oilseeds that we care about for their vegetable oil and protein seed cake (for cattle feed).

But there is technology that converts woody biomass it into oil (e.g., pyrolysis).

We’ve done some modeling using assumptions provided to us by UOP, and we estimate that we’ll be able to double the oil yield per acre per year if we can convert the shells into oil.   These conversion technologies are not quite yet ready for primetime, but we hope that in the near future, they will be.

Second, we’ll need to move pongamia toward intercropping and/or agroforestry. There’s no way that 10% of Hawaii’s farmland should be dedicated exclusively to any one crop. We should decrease the spacing of pongamia trees per acre to accommodate row crops or cattle grazing on that same land.

By decreasing the tree density per acre, pongamia can be "intercropped" with row crops or cattle

By decreasing the tree density per acre, pongamia can be “intercropped” with row crops or cattle

To allow for intercropping or cows, we estimate that we’ll have to reduce the number of trees per acre by 40%. This means that each tree will have to be even more productive. Assuming a 40% reduction in tree density per acre, as well as the ability to convert the pongamia shells into oil, we’ll have to produce 140 kgs of seed pods per year per tree to make 1,470 gallons of oil per acre per year (1,470 gallons per acre X 120,000 acres [10% of Hawaii’s farmland] = 4.2 million barrels of oil [10% of Hawaii’s current annual petroleum usage]).

140 kgs of seed pods per tree annually is more than double what we are currently forecasting (60 kgs).  Hence why the 10-10 Plan is ambitious. But it’s not undoable. Here’s a picture of a mature 25’X25’ pongamia tree in Australia. This is about the size of a tree that we’d expect at maturity in our Hawaii fields. This tree produces about 200 kgs of seed pods annually.

A pongamia tree full of seed pods (estimated 200 kgs)

A pongamia tree full of seed pods (estimated 200 kgs)

 

Not all of our trees, every year, will produce this prolifically, but we believe that over time, with proper agronomy and tree selection and breeding, pongamia is capable of producing 140 kgs of seed pods per tree per year.

We understand why HECO hasn’t put much faith into biofuels. They’ve gone down the road with a few other promising biofuels projects, only to see them flounder. We didn’t come up with the 10-10 Plan as some PR stunt. We did it to show that biofuels should still be in the conversation, and we’ll let our trees do the talking for us.

 

An Oilseed Crop for Florida’s Lost Citrus Acreage

Diseased abandoned citrus acreage in Florida

Diseased abandoned citrus acreage in Florida

While the United States is the most efficient agricultural producer on the planet, it also is home to one of the greatest agricultural disasters on earth. Few people outside of the state of Florida realize that the 150 year old citrus industry could be on the brink of collapse in as little as two years, according to some industry observers. Citrus contributes $9 billion in revenues to the state and employs 76,000 people. A series of severe freezes back in the 1980’s drove the majority of the citrus industry from the northern half of Florida to the southern half of the state – generally from Orlando southward.

Ten years ago, in its heyday, the state produced about 240 million boxes of fruit. As of the most recent USDA crop report, that number has declined to as low as 104 million boxes. And that rate of decline is not linear, it is accelerating. Estimates are that as production declines to 80 million boxes, most of the remaining processing plants will begin to shut down. After that, citrus in Florida could remain only as a niche crop.The cause is a pinhead-sized insect that transmits a bacterial infection to citrus trees and slowly chokes off the flow of water and nutrients from the roots to the leaves. Not only have scientists been unable to come up with a viable cure, they haven’t even been able to culture it in the lab.

Infected trees can take years before the first symptoms appear. By then the tree has already lost a great part of its root mass. The best strategy growers have is to just keep the progress of the disease at bay by feeding it repeated heavy doses of pesticides and fertilizers. It used to cost growers close to $500 per acre for these sprays. Today, those cost are exceeding $2000/acre! These high costs with declining yields are squeezing the life out of the growers’ profit margins. And it’s not doing much to help the long-term health of the soils, either. Imagine if an incurable disease wiped out corn and soybeans in Illinois and you’ll get an idea of the magnitude of the impact to the state.

To be sure, tens of millions of research dollars are being thrown at the greening problem at the state level, federal level, and even worldwide. One of the most promising solutions is inserting a spinach gene into the citrus which makes the tree quite resistant to the deadly bacteria. However, this veers into the genetically modified world and risks considerable consumer backlash over GMO food. There is a wasp that preys on these insects, but that is considered too little too late for Florida.

The Headwinds against Florida Citrus

Even if a cure is found, growers still face other headwinds. Annual consumer sales of orange juice (the main product from Florida citrus) in the US have declined from about 5 gallons per person in 2000 to about 3 gallons currently.   High prices, recession, alternative energy drinks, concerns about sugar and obesity have all contributed to eroding the demand side of the consumer equation. It could be difficult to reverse those trends.

Citrus groves that once sold for $18,000 per acre now sit barren, weed-infested, and end up looking like the above picture. They sell for close to $3000 per acre. Not only has millions of dollars of landowners’ wealth evaporated, but also have the state’s tax revenues.

The Problem With Alternative Crops

Some growers are replacing their lost citrus by planting peaches and blueberries. However, those crops are expensive, labor intensive, and can have intense price competition from other states when their harvest comes to market. Planting only a few thousand acres could swamp the marketplace with over-supply and crush prices. Stated differently, if there was a viable alternative crop to grow, there wouldn’t be over 125,000 acres of abandoned citrus land.

Arguably, the only agricultural industry with deep enough demand to accommodate the tens of thousands of acres of dead and dying citrus land is the oilseed industry where the worldwide demand for oil and protein is huge and growing. Currently, the oilseed demand is being met primarily by soy, and to a lesser degree by cottonseed, canola, and other minor (by comparison) row crops like flaxseed, safflower, etc.

So why haven’t some of these row crops filled in the void in these lost groves? There are two major problems in the soils in the southern half of the state. While the Florida is blessed with a long growing season and generous rainfall, the soils where citrus is grown are extremely sandy with a hard clay layer underneath.   This sand layer makes it difficult for them to hold nutrients. During the rainy season which runs from June to October, the almost daily rainfall flushes fertilizers and other nutrients out of the soil. The other problem is the field configurations. Citrus cannot tolerate its roots standing in water for long periods of time so the great majority of the groves were “bedded-up” when the groves were initially set up. Top soils were pushed into raised beds with a furrow in between to remove water in heavy rain events. Over the years, soil compaction occurred while in this configuration. Attempts to simply grade the raised beds flat for row crops still resulted in a wavy topography (once the soils settled) which created drainage issues. Some tried deep-disking this sand and the underlying clay layer in an attempt to blend the two into a sandy loam-like consistency, but the result was a mud bog that seemed to never drain properly.

Ground Rules for any Successful Replacement Crop

Any time that a new crop is introduced into a local geography, it has to meet some fundamental tests if it is to have any hope for viability. For example:

  • Hardiness. Does this new crop fit the climate?
  • Does it fit within the growers’ existing infrastructure?
  • Is it easy to grow and harvest?
  • Can growers generally utilize their existing body of agronomic knowledge?
  • Does it minimize labor requirements/costs?
  • Is it profitable enough to make it compelling versus alternatives?
  • Can growers use their existing machinery or at least need minimal new machinery?
  • Does it require high CAPEX to process?
  • Are there readily available downstream markets?

However, there is one beam of hope in this sea of gloom that has shown great promise for current citrus landowners and extraordinary opportunities for agriculture investors – and checks off on all challenges listed above.

Pongamia

A young company called TerViva has been working for several years with an oilseed tree crop called pongamia. Pongamia is an oilseed tree that is native to Australia and India. It is adapted to tropical and subtropical climates.  In the US, we already know that the tree thrives in Florida.  It was introduced back in the 1920’s when it was planted as an ornamental.  Many mature pongamia trees can be observed in southern Florida on both coasts along freeways, in neighborhoods, and in state parks and shopping centers.

Conceptually, growing pongamia is like growing soybeans on trees. The tree yields a generous harvest of nuts (which is why it fell out of favor as an ornamental) whose seed properties are similar to soybeans.  It has a high tolerance to salt and cold tolerance is similar to citrus so it is geographically suited to the same sites where citrus grew.

What’s the advantage for pongamia over soybeans? Pongamia’s per acre yields of oil are 6x greater than that of soybeans on prime Iowa farmland, plus it can grow on a footprint where soybeans generally cannot!

One of the first things growers notice about this tree crop is that it drops right in to the existing citrus field architecture. Some growers have literally planted it between the old citrus stumps.

Pongamia is very much like any orchard tree crop. The tree must first get established. It will begin to flower around year 3-4, and it should be commercially harvestable around year 4-5. Then the tree can produce for over 50 years.

There is also a strong ecological theme with pongamia.   This tree is a legume so it fixes nitrogen in the soil and enriches it.  To date, no pesticides have been used- or needed – in any geography TerViva has planted – Florida, Texas, or Hawaii. Insects and deer really do not care the leaves that much.

 

Mature pongamia acreage in Florida (photo courtesy of Paul Family operation near LaBelle)

Mature pongamia acreage in Florida (photo courtesy of Paul Family operation near LaBelle)

Growing – Harvesting – Processing – End Markets        

  • Harvesting can be mechanically done with a nut tree shaker. This is how pecans, almonds, pistachios and other nuts are harvested. Mechanical shakers also minimize the cost and challenges of dealing with manual migrant labor that is necessary for most orchard crops.
  • Processing after the harvest is all low-tech and low CAPEX; the seeds are shelled with a peanut sheller, and the seeds (about the size of lima beans) are crushed with a soybean crusher.
  • The End Markets are a separate discussion, and that’s where this gets interesting. Like soy, there are two end markets for pongamia: the oil and the seedcake.

Several oilseed crops used in industrial applications are surrounded in controversy. Soybeans should be for feeding people, not trucks. Palm oil production is coming at the expense of the rain forests which have caused a huge backlash from environmental groups and consumers. Chemically, pongamia oil is practically a first cousin to soybean oil, but it has some bitter flavenoids, so it is not edible. Its utility is for broad industrial applications that currently utilize soybean oil and palm oil. Industry loves soy and palm oil because these seeds contain rich long-chain carbon compounds which are high in energy content and can be separated into compounds such as oleic acid, palmitic acid, linoleic acid and others. These plant-based compounds are used in soaps, detergents, lubricants, cosmetics (like Oil of Olay), surfactants, inks, paint binders, and even plastics. In fact, a whopping 60% of the pongamia oil is oleic acid, compared to soybean with 24%.  Oleic acid is so valued that Monsanto has created a new GM version of soybeans called Visitive, just to increase the oleic acid content.

Pure pongamia oil being used in crop spraying

Pure pongamia oil being used in crop spraying

The oil also has known biopesticide properties. There is a recent study on this where it was more effective than DDT.   There is a body of literature on the use of a 50/50 mix of neem oil and pongamia oil as an exceptionally effective biopesticide. Early evidence also has shown pongamia oil could be an effective substitute for “435 mineral oil” that growers mix with many of their crop sprays.

As a jet fuel, the Department of Defense and the airline industry have a strong interest in fuel refined from plant oils called biojet fuel. It is 7% lighter than conventional jet fuel so a plane can fly farther or carry larger payloads. But most importantly, it burns considerably cooler than fossil-based jet fuel which means longer engine life and lower maintenance costs.

The deepest market, however, is to simply refine the oil into diesel. When that long-chain carbon compound in the oil is combusted, it releases a lot of energy. (Ethanol is only a C 6:1 compound that releases much less energy when combusted. This is why it is such a poor fuel for performance and mileage.) Currently, about 80% of biodiesel is produced from soy oil. Refiners are hungry for feedstocks for their refineries. No matter what you think about renewable fuels, they are going to be around for a long time. Both political parties are even in favor of them. Additionally, most countries around the planet have aggressive mandates for renewable fuels. It is important to emphasize that the biodiesel market is the base case scenario and con turn a fine profit at that.

The remaining seedcake can be used as a high protein animal feed. It has about a 27% protein content which is quite high. Tests are currently being conducted with Texas A&M as an animal feed. So far Phase 1 livestock feed tests have been quite positive, and Phase 2 testing is now being done. The next step is submitting the results for regulatory approval. Livestock and poultry feeders are always in the hunt for protein to blend in their feeds. Animal feed is quite the growth market in China, by the way.

Separately, the seedcake can also be used as a high-nitrogen (4%N) organic fertilizer. Nitrogen has become a very expensive crop input in recent years. Additionally, as a fertilizer, it is also reported to have great nematocidal and nitrification properties in the soil.

Processing

Once mechanically harvested, all that remains is to shell the pods and (just like soybeans) crush the seeds into oil and seedcake. A facility for shelling and crushing is not a large capital expense; perhaps $1MM-$2MM would suffice for a crushing facility that could service about a 75-mile radius. Several municipalities have indicated that the state has generous economic development funds for these small rural communities for economic development for these facilities.

Expected Returns                                                                                                                                                      

The other downstream markets (mentioned above) are fun to talk about and are very high-value markets, but the point is that simply selling this oil to refiners to make into fuel can be deliriously profitable. …Certainly more profitable than most traditional agricultural row crop commodities. We can produce oil for about $1.60/gallon. There is broad demand for good virgin oils for biodiesel refining that generally are in the vicinity of about $3.50/gal. There are a couple of small refineries in south Florida, and major biofuel refineries nearby in Georgia, Louisiana, and Texas.

In any new endeavor, risk must be commensurate with returns. TerViva conservatively believes a grower can make >20% 8-year IRR growing pongamia assuming the base case of just selling the oil to the biodiesel refiners. Stated differently, net income to growers who already own land is estimated to be about $800-$1200/acre with some fairly conservative yield assumptions – about 400 gallons of oil per acre and about 2.25 tons of seedcake.

Pongamia seeds are available on the internet, but the problem with propagating from seed if that you don’t know what you are going to end up with because the tree is an out-crosser (you don’t know who the other parent is.)   No serious grower is going to make the capital investment to start a grove and find out five years later that his genetics are no good. Growers want uniformity at harvest time as well consistency on other traits like oil content in the seed, gross yield, as well as other desirable traits. TerViva propagates their young trees clonally from a licensed library of highly selected mother stock from science groups in Australia and India who have documented their research over meaningful time periods. In other words, TerViva’s science team wants as close as possible to 100% probability that these trees are replicas of the mother.

Establishment costs per acre are close to citrus – about $2000-$3000/acre. However, annual input costs are a fraction of citrus amounting to primarily weed maintenance.  

Indeed pongamia is a new crop. There is always uncertainty in agriculture. However, based on how the trial sites that TerViva has established throughout southern Florida have performed over the past few years make it feel like a pretty high-probability bet. The trees have grown astonishing well. The oilseed industry is big, globally, and it is not going to go away. There’s a great chance that this $3000 land will be productive $13,000 land again. It is quite rare to observe a massive agricultural transition of this scope in our lifetimes. And for it to happen in a US geography may be unprecedented. For farmland investors facing low returns on conventional row crop farmland, or sovereign risk in South America, or infrastructure and transportation risk in Eastern Europe or Africa, investing in this oilseed crop in Florida looks like a slow pitch over the plate.

Tom Schenk is Director of Business Development at TerViva. For more information:   : 509 251 2565

Various News Bits from the World of Ag 2.0

Hi Ag 2.0 Readers – I’m short on time this week so I’m providing links to some of the more interesting articles that I read in the last few days.

 

Props to Syngenta for Putting the Focus on Problems Like This

Props to Syngenta for Putting the Focus on Problems Like This

1.  “Soil Leadership Academy” formed by Syngenta and UN Convention to Combat Desertification (UNCCD) (http://bit.ly/1prluVy).

Some interesting facts from the press release and related links:

  • UNCCD estimates that globally, at least, 24 percent of usable land is already degraded.
  • On average, every year we lose 24 billion tons of fertile soil to degradation. As a result, more than 12 million hectares of productive land becomes barren due to desertification and drought processes.
  • Syngenta estimates that we lose a soccer field of farmland every second to soil degradation.
  • Through its Good Growth Plan (cool website:  http://bit.ly/1hDofek), Syngenta has committed to improve the fertility of 10 million hectares of farmland on the brink of degradation.

 

Farmed and Dangerous2.  Chipotle has launched a mini series on Hulu called “Farmed and Dangerous”:  See the 4 episodes at this link:  http://farmedanddangerous.com/#.  I’ll admit, I haven’t watched it all, but it’s already stirring up some controversy (http://bit.ly/1lJ4lS7).  One of the plot lines:  fictional industrial company “Animoil” comes up with an animal feed made out of petroleum, called “Petro Pellets”.  Laughable as this idea sounds (maybe?), it’s not laughable to link the attitudes of Big Ag to those of Big Oil.  Entrenched companies in both industries seem to often think of innovation as “how to sell more oil” and “how to sell more corn seed”.

 

Prez in Corn Field3.  President Obama openly gets behind ag biotech:  Obama recently wrote a letter to the family of Dr. Norman Borlaug (the “Father of the Green Revolution”) to mark the the dedication of his statue in the US Capitol (http://bit.ly/1l7ihEA).    Obama hasn’t been very public on this issue, leading some to think that he might be in the anti-GMO camp.  But in this letter, he clearly states: ““I share [Dr. Borlaug’s] belief that investment in enhanced biotechnology is an essential component of the solution to some of our planet’s most pressing agricultural problems”.  I agree with the President on this issue, and it’s good to see him put out his opinion on it.

Naveen is TerViva’s CEO and hopes that one day the President visits a field of pongamia in Florida, where we are helping to combat citrus greening disease with a form of crop diversification.

The Agriculture — Energy Connection

On the TerViva website, it says that I have familiarity with  “the nexus of agriculture and energy”.  Just what is that nexus?  There are two ways of thinking about it:  agriculture as energy supplier and agriculture as energy user.

Ag as Energy Supplier

This topic has gotten much mainstream discussion over the last several years.  There are numerous public companies and start-ups working on “bioenergy”, loosely defined as electricity and transportation fuels created from “biomass”, itself defined as a collection of organic non-fossil materials (e.g., commodity crops, forest residue, organic waste, dedicated energy crops).

One type of bioenergy, biofuels, is already a big business in the US.  Our largest crop by acreage is corn, and about 40% of it is used to make ethanol.  Our second largest crop by acreage, soybean, is popular with biodiesel producers because of its high quality vegetable oil.  The use of these two crops for bioenergy has triggered a debate over “food vs. fuel”.  That’s a topic for its own post.  But briefly, what’s our philosophy about the use of crops for bioenergy?  We think it’s an excellent idea in theory that has to been implemented well in practice.  In other words, for each bioenergy technology, the positives have to significantly outweigh the negatives.

Positives of ag bioenergy vs. negatives

Positives of ag bioenergy vs. negatives

For better or for worse, the current US legislation for biofuels, RFS2, takes into account only some of the factors. We like pongamia for bioenergy because we believe it’s “best-in-class:  it more than checks the box on cost, land, and carbon.  A gallon of US pongamia fuel will cost $3.00 or less to produce.  We are growing pongamia on land that’s no longer suited for prime ag.  And because pongamia is a tree, our orchards permanently sink an estimated 10 tons of carbon per year — potentially making pongamia a source of carbon-negative energy.

 Ag as Energy User

Far less discussed is agriculture’s consumption of energy.  Ag is not a huge consumer of energy – it represents 3-4% of energy use in developed countries and 4-6% of energy use in developing countries.  That energy is consumed in two forms:  directly via agriculture crop cultivation and processing, and indirectly via the production of chemical fertilizers and pesticides.

But energy use in agriculture is becoming more important.  The world is looking for more arable land, and we’re turning toward Africa and Asia to find it.  On those continents, ag land has had lower productivity, in part because of a lack of direct and indirect energy.  To put it another way, the more energy we put into land, the more we get out of it.   And if we want to improve farmland productivity in developing countries — where ag is already a whopping 30% of GDP on average — we’ll need to produce more energy.

Recently, developing countries have made significant improvements in electrification (e.g., power plants, transmission infrastructure) and household energy systems (e.g., cookstoves, solar water heaters).  But comparatively fewer initiatives have targeted energy supply for agriculture.

Enter bioenergy: we can use agriculture to produce energy for agriculture.   There’s lots of potential.  Let’s examine our favorite crop, pongamia, in this vein.

Easily extracted via basic crushing equipment, pongamia oil is not a perfect substitute for diesel, because raw pongamia oil (like other raw vegetable oils) contains water and gums.  But it can be used on a limited basis in tractors and generators, and improvements in this regard are being made. Cummins, the large engine manufacturer, built a special generator that runs on raw pongamia oil to power a rice mill in a remote Indian village.  For great video on this project, check out this link:  http://bit.ly/1aYVXKO.

In the future, we’d like to see pongamia used in developing countries not just as a large-scale commercial crop, but on a smaller scale too – where in a polyculture setting, pongamia provides the energy for food crop cultivation and also provides animal feed for livestock.

Spraying pongamia oil on citrus

Spraying pongamia oil on citrus

Back here in the US, pongamia oil could also be used in agriculture contexts.  One of our Florida landowner partners currently uses 20% biodiesel in its irrigation pumps.  Another one is working with us to see if pongamia oil could be used as a substitute for expensive, petroleum-based mineral oil for crop spraying.  Citrus growers have been spraying more and more mineral oil as a part of their efforts to combat citrus greening disease.

****

Agriculture often gets discussed as a producer of energy (e.g. biofuels), but agriculture itself requires increasing amounts of energy, and with some investment and planning could provide itself with that energy.

Naveen is TerViva’s CEO.  For this blog post, he borrowed liberally from some great thoughts put together by the FAO (see http://bit.ly/1fiCjuP).  

The Other Reasons the US Military Loves Biofuels

Jet Fighter

By:  Tom Schenk, Director of US Business Development, TerViva

To an outsider, hearing that the Department of Defense is interested in biofuels, it would be easy to conclude that the military’s interest rests mainly on concerns on the security of our energy supplies in wartime from not-so-friendly foreign countries.  While this is partially true, there is quite a bit more to the story than supply chain concerns or sustainability initiatives from a department of government that consumes about 8 billion gallons of fuel annually.

Fuel has occupied a critical part in modern military history. For example, in World War II, the German Luftwaffe ran their fighters on 87 octane fuel.  The British were at a continuous disadvantage with their slower Spitfire fighter aircraft until the US introduced 100 octane fuel plus a propeller modification.  This gave the British about a 30mph boost over the German fighters which allowed them to fly higher and faster in a dogfight and out-maneuver the German fighters.

Weight                                                                                                                                                                             In 2012, tests at the Air Force Research Laboratory at Wright Patterson Air Force Base near Dayton, Ohio came up with two compelling reasons for the US military to have an interest in biofuels. Special advisor to the Air Force on energy and fuels, Omar Mendoza, stated that one of the initial findings was that bio-based jet fuels have about 7% less mass than conventional jet fuel.  This lowered the weight of the airplane making it possible for jets to fly faster and farther as well as carry more of a payload – cargo or weapons systems. 

Bio jet fuels have about 4% more energy per mass than fossil-based jet fuel.  A 2012 Biofuels Digest article discussing this topic noted that for an F-18 taking off with a full load of armaments and the tanked topped off, the difference in the two fuels could be close to 1000kg. That warplane could carry an extra missile for that weight difference. With the superior energy/mass ratio, it could also fly farther, too.

Temperature                                                                                                                                                                                 The second major finding from the tests was that bio-based jet fuels can burn significantly cooler. Terry Yonkers, assistant secretary for installations, environment and logistics, stated that initial studies by the Air Force have shown that temperatures in the engine combustion chamber can be as much as 135 degrees Fahrenheit lower when biofuels are used instead of conventional (fossil-based) jet fuel. Fossil-based jet fuel contains numerous impurities whish do not completely combust in the engine.  This leads to soot deposits which cause high temperatures to radiate throughout the engine. Long periods of high temperatures can cause any metal to fatigue and fail.

In 2012 at a roundtable meeting in Washington DC jointly organized by the USDA and the DoE, Mendoza pointed out that, “At the temperatures that military jet engine perform at, an additional 25 degrees in temperature can shorten the life of the engine by half. Military showed data showed that engine parts could last up to 10 times longer, if the new high performance fuels were employed in place of conventional fossil fuels.” Mendoza pointed out that a roughly 10C drop in wall temperature results in doubling of the life of the hot section of a jet engine.

The weight and temperature components of biojet fuels mean economic savings in addition to its green footprint.  These facts have not been lost on commercial airline carriers.  KLM, Alaska, and United, just to state a few, have had many flights tests on biojet fuels.  The greatest challenge is producing the feedstocks for the refining of these fuels in sufficient quantities to transform these studies into a commercially viable reality.

At TerViva, our work in scaling pongamia oilseed tree plantations is making significant headway in this effort.  Because pongamia oil is a long-chain (C 18:1) carbon, it makes it an ideal non-food sourced feedstock for refining into jet fuel, diesel, as well as numerous biochemical compounds for industry.

It’s A Farm-Over: Walmart’s Admirable Ambitions in Sustainable Agriculture

Few corporations evoke envy or ire as much as Walmart.  In my opinion, one area where Walmart is making significant positive impact is in agriculture. In June 2010, Walmart announced a strong commitment to sustainable agriculture, in support of its broader leadership on a variety of environmental issues (http://bit.ly/18cQCtz).

Walmart’s sustainable agriculture initiative has three focal components:

(1) Support farmers and their communities

(2) Produce more food with fewer resources and less waste

(3) Sustainably source key agriculture products

Walmart can rightly claim some success from its sustainable agriculture program.  A few highlights:  monitoring of the beef supply chain in Brazil to avoid deforestation for grazing or soybean cultivation; achieving third-party sustainability certification of 75% of in-store seafood.

“Wait, wait, you expected the Fresh-Over to help farmers?”

“Wait, wait, you expected the Fresh-Over to help farmers?”

But not all initiatives have gone perfectly. For example, an effort to double the amount of locally grown produce in Walmart stores (from 4% to 9%) was recently achieved, a few years ahead of schedule.  However, the benefits to small- and medium-size farmers have been questioned (http://n.pr/Y5xfxT); some farmers claim that Walmart is squeezing them on prices (shocking).

Recently, Walmart announced what I think is its most ambitious and important agriculture initiative to date:  fertilizer optimization for commodity agriculture grains (corn, soy, wheat) used in third party products on Walmart shelves (e.g., Kellogg cereal).  From the Walmart website:

Corn Flakes“Walmart depends on the American farmer to efficiently produce the key ingredients in many of our products and we want to do our part to help ensure this productivity continues.  You cannot grow food without fertilizer and it is a crucial component of our food supply.  However, over or improper use can negatively impact the environment and the grower’s pocketbook, making it a potentially costly element in food production.  The supply chain needs food companies (our direct suppliers) to signal unified interest, support, and demand for programs, tools, and information that can help producers continuously improve and optimize their fertilizer use, yield, and profitability.  That’s why we have directly engaged a dozen food categories and even more suppliers in a consistent, coordinated fashion to connect our suppliers to their farmer-partners and improve cost effectiveness, as well as helping them meet their own sustainability goals in ways they cannot do alone.”

This initiative reaches as deep as it sounds: Walmart is asking its suppliers to go to its suppliers to go to its suppliers to go back to the field and initiative fertilizer optimization protocols.  Walmart has created a framework to achieve the desired results (http://bit.ly/1bDXmVR), using the very cool “Fieldprint Calculator” tools developed by the non-profit, Field to Market (http://bit.ly/1ahQyxs).

I’m guessing the Lake Erie algal blooms don’t help Walmart’s sustainable seafood initiative.

I’m guessing the Lake Erie algal blooms don’t help Walmart’s sustainable seafood initiative.

Why target fertilizers?  That’s a topic for another post, but in short:  fertilizers represent a significant portion of total agriculture production costs and fertilizer run-off has long been responsible for water quality issues.  In just the past few years, we have seen fertilizer run-off contribute to epic algal blooms that in turn wreck havoc on marine ecosystems.  For some startling imagery and links to more info, check out this National Geographic article:  http://bit.ly/14c6ZKQ .

This Walmart fertilizer initiative is not the first time that it has pushed down on the agricultural supply chain to drive change.  In 2011 Walmart announced that by 2015 it would use only RSPO-certified sustainable palm oil in its private label products (http://bit.ly/1bg4LJu).  This may sound straightforward, but it’s quite complicated.  Palm oil is present in 50% of Walmart’s products. And yet, Walmart only uses 84,000 tonnes of palm oil (25M gallons), or only half a percent of global palm oil consumption — not exactly a massive amount – thereby limiting Walmart’s ability to influence in palm oil industry. On top of all of this, it’s not like consumers are clamoring for sustainable palm oil in their Great Value detergent.

Great ValueI view the nitrogen initiative as even bolder, given that Walmart is asking its suppliers (e.g., Kellogg) to increase nitrogen use efficiency for their respective products (as opposed to just for Walmart’s own products, like in the palm oil initiative). Walmart estimates that its suppliers can positively impact 10M acres of corn soy and wheat by 2020 (today in the US there are about 240M acres combined for all three).

Walmart should be commended for its efforts in agriculture sustainability.  They are bringing about real, difficult change.  They are not just looking to buy credits for sustainable palm oil (http://bit.ly/ZCeqR), they are actual buying segregated “clean” palm oil.  They are not just buying organic produce, they are demanding reductions in fertilizer use for regular food products.

One area where I would like to see more Walmart engagement:  biofuels, which is the intersection of agriculture and energy.  Walmart has already made an ambitious commitment to power its buildings with 100% renewable energy by 2020 (http://bit.ly/10xpj04).  Walmart operates one of the largest trucking fleets in the world and is consequently a large consumer of diesel fuel.   If Walmart combines its expertise in in sustainable agriculture with its commitment to clean energy, the impact could be huge. I can think of a company that would like to have a role in that initiative.

Naveen is the CEO of TerViva.  He can be found frequenting the snack food aisle of his local Walmart.

TerViva: Why We Do What We Do – Part II

Back in June, I wrote the first part of a blog post called:  “TerViva:  Why We Do What We Do”  (http://bit.ly/18WIC2j).  In that post, I identified three sub-topics: (1) why marginal land matters (2) why new crops are necessary for marginal land; (3) what is TerViva’s unique approach to new crops for marginal land.

I discussed topic 1 in the previous blog, and in this blog, I will tackle topics 2 and 3.

To recap on topic 1 – why marginal land matters…

Put simply, the amount of marginal agriculture land is growing every year.  According to a recent Oxford University study, future environmental hazards such as climate change, land degradation, and water scarcity could eliminate as much as $8 trillion in agriculture assets annually (http://bit.ly/11Z2NeQ).

Oxford has put some thought into the environmental risks for agriculture.

Oxford has put some thought into the environmental risks for agriculture.

We use agriculture to make food, feed, fiber, and fuel.  To meet future demand, we will need to farm lots of new acreage, increase production on existing acreage, and also find ways to use underproductive acreage.

On to topic 2 – so why new crops for marginal land…

New crops aren’t the only option for marginal land.  Indeed, companies such as Monsanto and Pioneer are using genetic modification techniques to improve the ability for existing crops such as corn, soybeans, rice, and wheat to grow better in harsher conditions.  Other companies, such as Drip Tech and New Leaf Symbiotics, are improving the viability of marginal land itself –through advancements in areas such as in soil fertility and irrigation.

We commend such efforts.  But there are places where, no matter the extent of GMO or land improvement, existing crops like corn, soybeans, rice, and wheat simply will not grow.  Where we work in Florida citrus country is a good example:  weeds, sandy soils, high water table, bedded rows, high humidity.  In other words, it’s land that’s excellent for citrus but not for most other crops.  And now, with citrus greening disease wiping our hundreds of thousands of acres, it’s increasing difficult for citrus, too

But this land can potentially be farmed with alternative, hardier crops that can still produce similar food, feed, fiber, and fuel.

On to topic 3 – TerViva’s approach…

A few years ago, we convinced ourselves of the need for new crops for marginal land.  We then began to evaluate many different “new” crops, from the well-known to the not-so-well-known:  sorghum, miscanthus, castor, jatropha, camelina, moringa, simaruba, yellowhorn, etc., etc.  At TerViva, we describe these crops as “semi-domesticated”  — they have had varying degrees of advancement by humans over generations, but not nearly to the extent of large-scale commercial crops like corn and soybeans.

Our search process led us to three conclusions, or better said, three pre-requisites for the success of new crops on marginal land:

(1) Hardiness:  the new crops have to be versatile, capable of withstanding the “new norms” of soil salinity, water availability, and pests.  Ideally, these crops will require fewer inputs than their predecessors in terms of fertilizers, pesticides, and irrigation.

Hardiness in action:  pongamia in the desert.

Hardiness in action: pongamia in the desert.

(2) “Drop-in”:  the new crops have to utilize a region’s existing agriculture skills, labor force, equipment, field setups, and processing infrastructure.  New crops are risky, and if growers cannot leverage existing capabilities, the rate of new crop adoption is likely to be low.

(3) Disruptive economics:  by definition, marginal land is not generating a good return.  High, sustained returns require both high income per acre and scalability.   $50 net income per acre doesn’t excite a lot of growers (I’m looking at you, camelina).  Similarly, It doesn’t help to have a $5,000 net income per acre for a crop with a market of only 5,000 acres.  For these niche crops, supply eventually exceeds demand, driving down revenue and returns.

Pongamia trees "dropping in" to Florida, just like citrus.

Pongamia trees “dropping in” to Florida, just like citrus.

Not many crops can check all three of these boxes.  But we have found one: pongamia.  It’s the crop of fervent devotion on this blog:  a legume species of tree that produces oil and seed cake of similar quality to soybeans, which is used heavily for the biodiesel and animal feed markets.

Pongamia is extremely adaptable:  droughts, waterlogging, sand, clay.  Where tree crops are cultivated, it drops right in to the existing agriculture system.  It can serve the huge markets for biofuels, biochemicals, and animal feed, at a return per acre of over $1,000 per year.

For these reasons, pongamia is rapidly gaining traction with large, leading landowners in Florida, Texas, and Hawaii.

Naveen Sikka is TerViva’s CEO.

Looking for Value in Farmland Investing

By Tom Schenk, Director of Business Development for TerViva

Back in 2006, when people were trading the stock and the real estate markets like rock stars, few people cared about a quietly obscure asset class called farmland.  However, the economic collapse that began in 2008 changed all of that. At the same time, grain prices soared to a new plateau at 2x the prices seen in the 80’s and 90’s due to increased demand from middle class consumers in emerging markets and ethanol production, as well as supply shortages created by crop failures from violent extremes in weather patterns globally. On the demand side, the industrialization of emerging market countries has brought millions of people into the middle class in those countries who demanded – and could afford – better diets of meats, vegetables, and grains.

At the beginning of the farmland investment boom in the US, every $1 of farmland value only carried about 5¢ of debt.  Ownership was in strong hands. It was this obscure statistic relating to the low levels of farmland debt that was one of the greatest factors that contributed to the fact that this asset class being a wonderful placeholder for wealth during the financial hurricane that slashed stock and residential and commercial real estate in half in a period of months.  Asset classes that were highly-leveraged were the same ones that deflated the hardest.  When collateral for loans decline in value, lenders demand more collateral.  If that other collateral is falling, it creates fire sales in a rush for liquidity and thus a vicious feedback loop ensues.

Today, debt-to-asset ratios in some of the major farming states are back to 30% and higher.  These are levels not seen since 1979 which, along with sharply rising interest rates and falling commodity prices, led to the great farm crisis of the 1980’s.  Today, alarms are being sounded that we are in a similar setup and an imminent crash could be ahead.

However, few things in the financial world are that linear in reasoning.  There are many moving parts involved in calculating the future stability of this asset class if we enter a period of rough financial weather.  For example, while debt levels in dollar terms may have increased 2x, land values (on paper) have gone up 3x to 4x times in many instances.  Another major variable in this calculus is that production costs for farmers have come very close to doubling in this period also.  Additionally, farmland has historically had a very high inverse correlation to the 10-year US Treasury rate.  The enormous impact on farmland values from the Federal Reserve’s financial engineering of interest rates cannot be overstated.  Where investors could find 7% – 9% cap rates back in 2006, today those rates have dropped to a range of 2% – 4¾% depending on the quality, yields, and location in the US.

Nevertheless, traditional farmland investing is considerably more vulnerable to adverse shocks than it was in 2006.  Creighton University’s Farmland-Price Index is a monthly survey of 200 rural communities in major grain growing states.  The most recent survey show that the rate of farmland price appreciation is has been decelerating since late 2012.  Clearly land prices are flattening out.  Unfortunately, commodity prices and land values can drop by the speed of light compared to any declines in production costs , and this can put a farm’s balance sheet in a bind almost overnight.  A strong case can be made that interest rates may have hit a long-term (30+ years) cyclical low.  If rates begin to rise, there is little question that farmland prices can come under immediate pressure.  There has always been a historically strong inverse correlation between 10-year Treasuries and farmland prices.

US farmland prices were on the steady rise last year (above), but according to the recent Fed Reserve studies in KC and St. Louis, prices are plateauing (http://bit.ly/1b5Wzxe)

US farmland prices were on the steady rise last year (above), but according to the recent Fed Reserve studies in KC and St. Louis, prices are plateauing (http://bit.ly/1b5Wzxe)

The purpose of this article is not to sound alarms about the imminent demise of farmland asset values. In this past decade, we have seen “bluechip” stocks and “AAA-rated” bonds  go to zero, as well as commercial real estate like shopping centerss can become vacant or obsolete.  But what was unique about farmland is that it has an imbedded put option; if you lose a crop, you still have the land and you can try again.  In this crazy world of abstract derivatives with notional values priced at hundreds of trillions of dollars worldwide, there will always be a demand for an real asset like farmland; it cash flows and the demand for its output is relatively inelastic.  People have to eat.

However, it should give investors pause before they pay $12,000 for that next Illinois acre.

Large scale/institutional farmland investors have always diversified geographically and with different crops, but in cyclical commodity downturns, the income streams of these “diverse” yet traditional agricultural properties will have as much non-correlation as a squadron of Blue Angels at a summer air show.  In other words, that cotton property in Mississippi will go in the same direction as corn land in Iowa or the potato farm in Idaho.

So what’s a farmland investor to do in what appears to be a relatively deflationary economic climate?? One idea is to borrow a page out of what traditional money portfolio managers have done for decades which is to apply the principals of Modern Portfolio Management – namely, diversify into property types with diverse return profiles in order to reduce overall portfolio risk.  Over the years, I have seen small cap and micro cap managers rescue overall portfolio returns by exploiting those overlook and under-researched companies where fundamental analysis ran circles around index managers by finding those opportunities that returned comparatively out-sized returns from some overlooked niche. In the 80’s, Microsoft was one such company.  The underlying attraction in small cap stock investing is that few, if any, analysts are researching these companies.

TerViva pongamia trees thriving in Texas

TerViva pongamia trees thriving in Texas

To that end, there is a quiet little company out of Oakland, CA called TerViva that has been establishing plantations of a hardy tree crop called pongamia. Pongamia trees are native to Australia and India.  They produce a nut crop that is virtually a first cousin of soybeans – but grows on a footprint where soybeans generally cannot.  An annual harvest of the nuts can produce over 400 gallons of oil and a couple of tons of residual “seedcake” that can be used as a high-protein animal feed or as a high-nitrogen fertilizer.  In a given year, a producer has the ability to direct that oil to biodiesel, bio-jet-fuel, bio-chemical (it is high in oleic acid and other valuable long-chain carbon compounds), or even biopesticides markets, depending on what is determined to be the highest best use downstream markets. Pretty cool.  The oil has been tested by Dynamic Fuels, REG, and Shell as a great feedstock worth about $3.50/gal.  I recently spoke to an organic grower who has successfully used pongamia oil as an adjuvant in his pesticide sprays for the last 7 years.  His supply comes from India.  He proudly informed me that he had recently got the price of his oil “down” to $17/gallon!

However, the most compelling aspect of this tree crop is that these trees can thrive in marginal soils such as south Texas or the challenging sandy fallow soils southern Florida where citrus trees used to grow before HLB disease marched through the state.  Instead of passively collecting x in revenue like typical farmland investors, you can proactively generate 5x-10x on these lower grade properties. And as a result, you will obviously get a sharp appreciation in the underlying land value in addition to the improved income stream that is arguably on par with the richest Iowa or Illinois farms.

Is this too far-fetched of an idea?  Not for three major citrus growers in Florida (plus a fourth grower planting this month) who conducted extensive research on the tree and this concept before planting on their own properties.  So far, they are more than pleased with what they are observing. The trees are growing almost twice as fast as citrus and require a fraction of the inputs.  Moreover, for investors who want to grow this tree crop, these citrus companies will act as the operators for planting, maintenance and harvesting.

Sometimes is you cannot find any gems in the rough, you just have to make your own.

Tom is TerViva’s Director of US Business Development, and works every day with agriculture growers to explore opportunities with new crops.

Terviva: Why We Do What We Do — Part I

Whenever I introduce Terviva as a company at conferences or events, I always start off by saying, “Terviva develops new crops for marginal land”.

Very few people ask me why that’s important, or why anyone should care about new crops for marginal land.

And yet, for the people who work at Terviva, that “why” factor is at the heart of what we do.  It’s what motivates us and drives us to work intensively toward our goals.

So I’d like to share “why” we develop new crops for marginal land.  I’ll break our logic down into three parts, to be covered across two blog posts.

(1)  Why marginal land matters

(2)  Why new crops are necessary for marginal land

(3)  What is Terviva’s unique approach to this opportunity

First – why marginal land matters….

In agriculture, the big picture goal is to increase food production.  The often-cited UN statistic is that, over the next 40 years, global population will increase by 2 billion people, and the world will require 70% more food production.

To meet this challenge, we need to farm more acres, farm more per acre, and – even more basically – maintain the viability of existing land.

It is estimated that 1 to 2% of all agriculture land becomes indefinitely fallowed every year due to soil salinity issues.  Now, add in other factors, such as desertification, declining water availability, extreme weather conditions, new crop diseases, and volatile macroeconomics.  The result:  a significant amount of land that was once valuable for farming is now longer so.

Marginal agriculture land in Florida, with TerViva pongamia trees now planted on it

Marginal agriculture land in Florida, with Terviva pongamia trees now planted on it

There are numerous examples of this marginalization of agriculture land.  We specifically work in three affected areas:

Florida:  citrus greening disease has wiped out nearly 50% of citrus tree acres in the last decade (almost 500,000 acres).

Texas:  extended droughts have triggered irrigation water cutbacks and declining productivity in rice, corn, and cotton farming

Hawaii:  sugar and pineapple farming, once mainstays of Hawaiian agriculture, have almost completely ended, due to competition from lower cost geographies in Asia.

It’s unlikely that any of these three areas will recover to the point where their land will once again be farmed for their traditional high value crops.  But there may be alternative crops for these areas – ones that can meet the demand for food, feed, fiber, and fuel more efficiently than traditional crops such as corn, soy, and sugarcane.

Abandoned citrus field in Florida -- another victim of citrus greening disease

Abandoned citrus field in Florida — another victim of citrus greening disease

No matter what, the amount of marginal land in the world is going to continue to grow.  Solutions are needed to improve the usability of marginal land, and at Terviva, we think we have some great answers.

Next week, I will write Part II of my post, discussing the need for new crops on marginal land and Terviva’s approach to developing these crops.

Naveen Sikka is Terviva’s CEO.