There’s a buzz about a beautiful, 4,200-acre farm just 55 miles east of San Francisco. It’s the epitome of a happy place, where regenerative agriculture and commercial real estate meet.
More than 1,700 acres of organic crops, including sweet corn, tomatoes, green beans, squash and others, grow in rotation with a lush, green pasture where sheep and cattle roam freely. Two-hundred acres of previously less robust soil can now grow olives for olive oil, next to 300 acres of nut trees. One hundred fifty acres of organic blueberries are in production, contracted by a well-known national produce brand, with 150 more acres on the way because the company (not to mention its customers) loves the exceptional appearance and flavor of the berries produced by happy plants growing in rich, organic soil.
Sound beautiful? It gets even better for investors. Not long ago, the farm’s conventional farmland rented for $250 to $300 per acre. Today, after it was converted to organic farmland, that same ground rents for $700 per acre — a price that farmers are happy to pay for organic farmland as the farm is 100 percent leased out. Can your current real estate assets more than double rent rates in three years? If your portfolio consists primarily of office and apartment buildings, probably not.
A BIG AND ATTRACTIVE ASSET CLASS
The United States has $2.7 trillion of farmland, the same economic value as all of the apartment buildings in the country, or all of the office buildings, and yet only 2 percent of that farmland is institutionally owned. Over 54 percent of cropland is leased, making it an untapped class of commercial real estate. It’s also noncorrelated with other asset classes, and there is only 14 percent debt on the entire sector. In a credit market crash, the herd of farmland owners and investors won’t be selling off their farmland.
Decade after decade, farmland as an asset class has historically provided top-decile returns with low volatility. Over the past 85 years, farmland has delivered 11 percent annualized returns unlevered, with roughly half of those returns coming from cash flow and half from appreciation. As an asset class, it has outperformed the stock market, private equity and venture capital, with low volatility and minimal leverage. It is expected to continue on this trend in the future.
ONE ACRE FEEDS ONE PERSON
The supply of this essential asset class is shrinking. While urban land has nearly tripled since 1949, U.S. cropland has declined by 18 percent to 392 million acres. The decline is happening as the population that cropland needs to feed has more than doubled to 330 million people. It takes roughly one acre to feed one person, and while historically the United States has been a food exporting nation, we are approaching a deficit. We will have to use our farmland smarter to grow healthy food in ways that are more profitable and more productive, while improving the health of the soil, water and ecosystem we live in and rely on.
THE DOUBLE-YOUR-REVENUE FORMULA
The Northern California farm described earlier wasn’t always that way. For 50 years, the prior owners leased the land to farmers who grew just a few commodity crops: primarily alfalfa, alongside corn, tomatoes and wheat. Located in an ideal growing climate near one of the largest estuaries in the United States, they had abundant water rights but neither the landlord nor the tenant farmers invested in sufficient water pumping capacity to expand their irrigation infrastructure to support higher-value crops. Even if they had, they still would have focused on conventional farming methods.
Many farmers view farmland through the lens of operational efficiency. They produce as few crops as possible, year after year, with a goal of achieving economies of scale. The average U.S. farmer owns $8.5 million of land and equipment but earns only $250,000 per year. That may be a comfortable salary that easily feeds a family, but it yields a low return on investment. Monocropping is also a terrible way to manage farmland, leading to a cycle of pests and pesticides. There’s a better way — let’s lay out the blueprint for economically and environmentally sound farming.
Farmland is most productive when it has at least four crops in rotation over time and is ideally growing a mosaic of different crops each year. Crop diversity marks the start of regenerative agriculture, which fundamentally improves soil health and, in turn, increases plant health and crop yields. Converting the land to certified organic provides a 50 percent to 200 percent price premium, generating higher returns as consumer demand for organic products continues to outpace supply. The three-year conversion period may seem long and winding, but it pays dividends to the landlord who can then rent that organic, regenerative farmland to farmers specializing in select organic crops at more than double the rent rate for conventional acreage.
Picture the draw for an organic farmer: Say she or he is farming 1,000 acres of land, with 200 acres of tomatoes in rotation to minimize pests and diseases of this sensitive crop, when they receive a call from a large grocery chain client asking to double the organic tomato supply. The farmer would need to buy another 1,000 acres of land to increase the acreage of tomatoes to 400 acres and spend three years converting the land to organic, while financing, farming and marketing the other additional crops from 800 acres they had to acquire — all to fulfill the client’s request for an additional 200 acres of organic tomatoes. And it will be three years later when the farmer can finally fulfill the order. Or, they could call an organic farmland manager, lease 200 acres of turnkey organic farmland, and fulfill the client’s organic tomato order the following year.
RETURN TO REGENERATIVE
For investors, there is an important distinction between conventional farmland and organic, regenerative farmland. The latter is where you want to be. The terms “sustainable” and “regenerative” alone can at times be misleading.
To understand the differences between sustainable, organic and regenerative agriculture, it is important to first understand the shortcomings of commodity, chemical-dependent agriculture. Without crop diversification, vast expanses of a single crop year after year provide a feast for crop-specific pests and weeds. Using ammonium nitrate to fertilize depleted soil and pesticides to kill the pests overfeeding on these monocrops, the more the food grows, the larger the problem grows, and the more chemicals are required. While in the beginning of this cycle the numbers may look good, over time this results in low commodity prices, high input costs, and pests and weeds that develop resistance to the chemicals. There are better ways to farm.
The U.S. Department of Agriculture (USDA) organic label provides a federally regulated standard that encourages and enables farmers, sellers and consumers to move away from chemicals. This standard and the annual inspections help ensure clean farming operations, elimination of nonorganic pesticides and a baseline of soil and ecosystem health. Organic certification focuses primarily on the product and chemicals used, though not as much on the land and soils.
Sustainable farmland, unlike the organic certification, does not have a national standard. It’s a fuzzy term that tends to lean more toward not harming the environment as opposed to proactively improving it. That’s where regenerative farmland comes into play. Regenerative farmland encompasses sustainability while also nurturing the land through soil biology, crop rotations, improved pollinator habitats and other practices. All regenerative farmland is sustainable, but not all sustainable farmland is regenerative.
While regenerative farmland, like sustainable farmland, lacks a concrete definition, a new standard is being developed to build on the organic certification. It’s called the regenerative organic certification (ROC), established by leaders in the sector including Rodale Institute and Patagonia. This concept is gaining ground in agriculture. Regenerative farming, as explored in detail in the full-length documentary, Kiss the Ground, narrated by Woody Harrelson, may even be the key to combatting climate change (or better yet, reversing it). With a selling point like that and intrigue from top farmers seeking higher profits through healthier harvesting, investors in regenerative agriculture access lease premiums from quality commercial tenants poised for growth.
RIPE FOR REAL ESTATE LENDERS
Prologis, historically one of the best-performing real estate investment trusts, built its business by converting common industrial buildings into technology-enabled warehouses sought by Amazon, FedEx, Walmart and other brands at the forefront of commerce and logistics. The Prologis model transformed a mundane asset class into cutting-edge real estate. The proven financial model for regenerative agriculture is similar in that it turns lower-value, commodity farmland into high-value, organic and sustainable farmland.
A short history lesson for context: Before the 1930s, U.S. farmland policy was to grow as much food as possible to feed the population with inexpensive food. The pedal-to-the-metal farming played a large role in causing the ecological catastrophe that swept through America’s heartland, the devastating dust storms known as the Oklahoma Dust Bowl. Recognizing the importance of soil health and preservation to our nation’s future, the government created the National Resources Conservation Service within the USDA to help ensure proper soil management in part by paying for land to be taken out of commission for periods of time.
For the next 40 years, from the trauma of the Dust Bowl to the early 1970s, U.S. agriculture policy was all about conservation, until a new USDA commissioner reverted back to maximum production, commanding farmers to “plant fencepost to fencepost” and “get big or get out” of farming. That max-out mindset and the polices tied to it remain in place today, which is why more than half of U.S. crop acreage grows only two commodity crops, corn and soy. This industrial focus has resulted in more than 90 percent of the corn and soy grown in America being genetically modified to be heavily reliant on toxic pesticides. The harmful ecological effects of monocropping — such as topsoil erosion, water pollution and many others — are supported by government subsidies for crop prices, crop insurance, and artificial demand subsidies such as for ethanol, resulting in a flawed model that doesn’t serve to feed our country’s families, much less the world’s. Only 0.6 percent of the corn grown in the United States is consumed by humans, while over 100 times that amount goes into ethanol or animal feed. And while this system benefits chemical companies and commodity buyers, it has left our farmers with the short straw.
Savvy real estate investors will help turn the industrial production of commodity farmland into quality organic farmland that fills a gap in supply and demand. In 2019, organic food sales hit $50.1 billion, an annual increase of 4.6 percent, according to the Organic Trade Association. While 6 percent of our food budget is spent on organic food, only 1 percent of U.S. farmland is certified organic and it would take an estimated $80 billion of new organic farmland just to meet the current demand. The pandemic has further increased the demand for organic products despite their higher price points.
A GROWING OPPORTUNITY
The potential revenue from industrial corn might be $1,000 per acre based on general estimates. Switching to organic sweet corn can yield $3,000 per acre for the frozen market, while bringing organic, fresh-market vegetables into the rotation can yield $5,000 or more per acre. Those 150 acres of blueberries in California? In their inaugural harvest, they yielded roughly 300,000 pounds of fresh fruit and $900,000 in revenue. Those yields will more than quadruple going forward as the plants come into full production.
Now, imagine if your commercial real estate had not seen capital expenditures in 50 years? Passive management on rented farmland has led to deferred maintenance, while technological advancements have made the payback for capex the best there has ever been. At the $29 million farm where we began this discussion, a simple $25,000 investment in an additional water pump allowed operators to irrigate an additional 400 acres, more than doubling the crop yield and rent on those acres. Investments in capex, such as drip irrigation systems, can further increase crop yields and reduce expenses, often paying for themselves in one year.
THE FUTURE OF FARMLAND
Adding real value to farmland breaks through the low benchmarks of industrial agriculture for highest and best use a la regenerative agriculture, offering higher price points, lower input costs and less vulnerability to market volatility. Alongside and equally rewarding to the commercial real estate play, regenerative agriculture is an environmental, social and governance (ESG) investment that brings higher profits to farmers, better food to consumers, positive impacts to our planet, and strong returns to investors.
Craig Wichner is founder and managing partner of Farmland LP, a manager of organic and regenerative U.S. farmland.