by Christine Woods
In the latter half of the 1970s an annual average of 50,000 acres of let land was purchased by institutional investors, reaching a peak of 61,000 acres in 1977. The entry of financial institutions into the agricultural market was brought about by increasing rents and good capital growth, which they saw as providing a good hedge against inflation. A decade on and the position has been completely reversed: 1987 saw an unprecedented withdrawal by financial institutions from the agricultural market with over 71,000 acres of let land sold during the year. Agriculture was no longer seen as a suitable investment for medium- and short-term funds.
But why the sudden upsurge in activity in 1987 when performance has been declining over the past three to four years? The answer is very simple. For the first time since 1983 there was someone willing to buy the land that was for sale. This “someone” took the form of the property company Mountleigh, which during 1987 purchased two entire portfolios of agricultural land amounting to well over half of the farms sold in the Savills/IPD databank. The activities of this company have continued into 1988 with the acquisition of additional land from other institutions. At the moment, however, there seems to be a general belief in the market that Mountleigh is no longer actively seeking any further additions to its agricultural portfolio.
The remaining farms that were sold in the databank were purchased by a variety of buyers including other financial institutions. However, most of the eight farms sold to institutions were disposed of as part of a deal involving the commercial side of a property portfolio. Ten farms were sold to sitting tenants, and with much reduced land prices this would appear to be a good opportunity for tenants to buy their farms. A number of institutions are actively pursuing this, but the poor harvests of the past few seasons meant that many tenants simply did not have the resources to buy the farms in 1987.
Things have improved in 1988. Tenants on farms of less than 500 acres are more willing to purchase their farms and also appear more open to offers from institutional landlords to surrender their tenancies.
The purchase side of the transaction equation for funds in the Savills/IPD databank was almost non-existent. Only two part-purchases were made, totalling 180 acres.
Agricultural investment has certainly not lived up to expectations. From an income growth of 16.5% in 1977 this fell in 1987 to – 0.3% — the first time in the period covered by the Savills/IPD Agricultural Index that there has been negative growth. Better land grades were the only ones to show income growth, with English Grade I land achieving a growth rate of 0.9%, although this was still very poor given an inflation level of 3.7%.
Farms with traditional tenancies were the only type of tenancy to show any positive growth (0.3%). This was less than growth levels previously achieved, and potential for rental growth available in the early 1980s has been nearly exhausted. Over the last 10 years gross income growth has been 7.4% pa, just below an inflation rate of 7.9%.
The decline in income growth in 1987 was brought about by the poor rent reviews that were achieved during the year. Of the 75 farms eligible for rent reviews in 1987 only 43 took place: 13 (30%) of these farms had rent increases; eight (19%) had rent reductions; and 22 (51%) stayed the same. This contrasts quite sharply with last year, when 65% of those farms with rent reviews had rent increases and 30% were unchanged. In addition, a further 32 were delayed from 1987 to 1988 or 1989 with a few being delayed until 1990. In several cases tenants have served rent review notices on the landlord with the intention of agreeing rent reductions, and this looked likely to continue during 1988.
Disappointing cereal harvests and static or falling commodity prices, in contrast with the relative stability achieved in the dairy industry, led to a marked difference in rent reviews between cereal and dairy farms. Dairy farms in 1987 showed an average rental increase of 4.7% compared with the 1.3% decline of cereal farms.
Over the last decade capital values of let land have increased on average by only 0.4% per year. This is due to the particularly poor performance in 1985 and 1986 when capital values declined by 17.7% and 18.2% respectively. Capital values continued to decline in 1987 (- 7.8%) although at a much slower rate than in 1986. All types of land grade experienced a reduction in capital value, with English Grade I falling by 18.4%.
During the years of capital and rental growth of let land, higher land grades showed a superior performance. This is no longer the case. Over the period 1977 to 1987 there has been little difference in performance across the various grades. Capital values of different types of land have moved in line with each other. However, in Scotland income growth has been notably weaker than in England and Wales and capital values have fallen further. Thus, land in these areas has generally performed less well than that in England.
As would be expected current net yield has been lengthening during the 1980s, rising quite sharply over the 1984-86 period. From the low yields of 2% to 3% during the 1970s, the yield in 1987 was 5.7%. In comparison with results from the IPD commercial property index, the yield on let land in 1987 lies between the 5.6% yield for offices and the 8.8% yield for industrials. This contrasts with 1984 results when the yield on let land was below that of all three types of commercial properties.
Total return on agriculture in 1987 was -2.5%, a real return of -6.5%, compared with a real return of 29.4% in 1977. However, total return is now declining much more slowly than during the previous two years. Overall the return during the last decade is positive but has not kept pace with inflation.
Over the past 10 years returns from let land have not met the expectations of the short- and medium-term funds. Disappointed with declining capital values, they withdrew from the market in 1987, selling up entire portfolios where possible. The continuing poor performance of agricultural land in 1987 has done nothing to stem the tide of farms on to the market in 1988.
Unlike in 1987, however, Mountleigh does not appear to be the only player in the market. Private individuals and traditional institutions have once again entered the market, taking advantage of the low price of let land compared with that of vacant farmland. Financial institutions, prepared to hold on to long-term assets, are also showing some interest in purchasing land again, seeing this as a good opportunity to buy high-quality farmland at a relatively low price. The increase in transaction levels has helped to improve the general opinion about future returns in the let land market. Capital values appear to have levelled out during the first part of this year and an overall improvement in performance is expected for 1988.