by Rupert Nabarro and Christine Woods
Remember how the institutions were taking over British agriculture? Remember the threat they posed to the rural way of life? Remember the weighty Northfield Committee? Well, the vagaries of agriculture seem to have won through again: there is strong evidence that many of the major institutions, after a relatively short period of ownership, now wish to reduce or even end their involvement with farming. Wealthy City interests, not for the first time, may be finding the realities of rural life — fluctuating incomes and the need for constant, detailed attention — rather difficult to take.
This article is the first in a four-part series to be published in successive issues. Next week’s article concerns the retail market.
Institutional ownership of large let estates and farms is a relatively recent phenomenon. A limited number of properties were purchased before and during the war by insurance companies and a trickle was added in the 1940s and 1950s. But in 1971 the institutions known to us had a total of only 83 agricultural investments(*). In the following four years this figure doubled: then, from 1977 to 1981, institutions purchased between 35 and 40 farms, or some 40,000 to 62,000 acres each year, taking the total to some 500,000 acres.
In retrospect the fear that financial interests were going to displace traditional farming can be seen to have been ill-founded. Institutions were buying into a narrow area of the agricultural market. Their interests were largely limited to the “traditional estate” purchased from the landed aristocracy and the new sale and leaseback farm, an ownership form in agriculture which they invented.
Although high prices flushed a number of estates on to the market and sales and leasebacks provided a source of funds for expansion for ambitious owner-occupiers, farms and estates in these categories were always in short supply. Yields on farms were pushed down to very low levels. Income returns on agriculture were 2% in 1973, and 2.9% in 1979, far below the level of comparable commercial investments.
The story of the 1980s has been very different. Institutional farm purchases fell to a handful in 1982 and 1983. Some sales occurred in 1984 and 1985 as some funds, especially the specialist property unit trusts, became increasingly keen to withdraw from the market. However, the pressure for encashment was difficult to meet. There were few buyers interested in let agricultural land as overall market conditions deteriorated.
The agricultural investment market was revived in 1987 by Mountleigh. The trader bought the major PFPUT portfolio and then the holdings of a medium-sized pension fund. One spectacular sale encouraged others. Various other institutional properties were sold to sitting tenants, and overall institutional holdings fell by some 70,000 acres. In 1988 we saw a continuation of this heavy selling, with 71 farms sold during the year, amounting to just over 70,000 acres. Nearly half of these sales were to sitting tenants, and a further quarter to property companies.
By the end of 1988, institutional agricultural acreage had fallen by 32% from the peak in 1982. The institutions whose portfolios we measure have purchased no new properties since 1982, and their capital investment in improvement has been virtually nil. It is clear that many major institutional owners of land are now giving serious consideration to disposing of their portfolios.
A real demand for agricultural estates has emerged from property speculators; relaxation of planning controls makes their prospects of quick gain rosier. Wealthy individuals are in the market, and there is some overseas interest. Is now the right moment for the institutions to sell?
The trouble with owning let land is the narrow market. Even one major purchaser can have a significant impact on prices. Agricultural investment then is not for the short-term investor. Over the longer term the picture is rather different. Capital values grew strongly from the end of the war: they trebled between 1971 and 1978. During the 1970s total returns from agriculture exceeded those from alternative property types and from virtually any other investment media.
The subsequent period has not been all bad. Gross income on farm investments rose by 84% between 1978 and 1988, which is only slightly below the rate of inflation, and not much less than for industrial property. Throughout the 1980s the agricultural sector has suffered from acute difficulties and, recently, farm incomes have been falling rapidly.
The investment market in agriculture has of course suffered from the deterioration in farm incomes and agricultural profitability. But its real problem has been the wholly unrealistic prices paid for land in the late 1970s, when yields were around half of those holding in prime office and retail markets. Despite a small growth in values (6%) last year, the value of agricultural land in real terms has fallen by 61% since 1978, as net income yields have increased from less than 3% to 5.8% in 1988.
Is this a price at which it appears sensible to hold agricultural land as an investment? Prospects for rental values and investment incomes suggest not. Agricultural leases are for three years and provide no upward-only adjustment clauses: investors’ income reacts quite rapidly to market conditions.
Gross income to institutional investors in agriculture actually fell in 1987 by some 3.5%. In 1988 it grew by the minimal amount of 1.9%. Indeed rent reviews have been little less than a disaster zone for landlords. For instance some 85 farms in the IPD sample had a rent review due in 1988. Of these 85, only 30 reviews took place, with 13 rent increases, six reductions and 11 remaining unchanged. The remaining two-thirds of the reviews that should have been held were delayed until 1989-90 with a handful delayed until 1991. The number of rent reviews delayed in 1988 was significantly greater than in 1987 and several tenants served rent review notices on their landlords hoping for rent reductions.
There is little hope of immediate respite. Reversionary potential on our let estates is actually negative — with rental values standing in aggregate some 3.4% below current income levels.
But within the agricultural market itself some interesting trends are starting to emerge. Investors in large traditional estates have done significantly better than owners of sale-and-leasebacks. These latter were often bought at high prices with high rents agreed in return. In the conditions of the last 10 years these rents have not risen. Traditional estates have allowed more room for improvement, rationalisation, and sported more saleable farm houses and cottages! Dairy-based farms have done rather better than others — a reflection of the industry. Land in England has performed significantly better than land in Scotland.
Are there any brighter prospects for improvement in capital values? In 1988 the returns from agricultural let land were positive for the first time since 1984. This was due to an improvement in capital growth from – 7.3% in 1987 to 6%. The increase in the capital value of farms and estates has come as a result of transaction activity occurring in the market and not as a response to any improvement in the general economic climate for farming, where the earning capacity of land is struggling to maintain previous levels, let alone offer any hope of improvement.
In 1980 let land sold for about 60% to 70% of the vacant value. By 1988 let values were only 30% to 50% of vacant values. In the current market, the farm which has potential for reversion, alternative use for land or buildings, or is well placed in the residential market, attracts strong interest and prices are rising. The buyers for this type of farm are the sitting tenant, or opportunists — either individuals or property traders attracted by the huge differential that has developed between let and vacant values. Consequently, despite the bearish prospects for farm rents, investors have once again become active.
On the other hand, the larger, purely commercial let farm, with no alternative uses and limited residential attributes, remains of little appeal to investors and, with poor rental prospects, these farms are slow to sell. Any longer-term improvement in agriculture will, however, feed through to higher rents and any narrowing of the vacant possession premium provides a ratchet effect on values.
What of the institutions? The faint hearts are doubtless using this moment to pack up and leave. There will soon be few farm-owners among short-term institutions, or perhaps among pension funds. The market must, however, be near its bottom, with both rents and capital values in real terms at a post-war low. There may be a place for agriculture, albeit small, in large long-term portfolios, and our guess is that it will show a rather better return than over the last few years. And, surely, many in agriculture would prefer an insurance company as landlord than a development company?
(*) The Savills/IPD Agricultural Performance Analysis holds a detailed record of approximately three-quarters of all institutional investments in agriculture.
