Betting the farm
As world population expands, the demand for arable land should soar. At least that's what George Soros, Lord Rothschild, and other investors believe.
(Fortune) -- On a sunny Friday morning, Shonda Warner and I are in her red Toyota pickup heading southwest on Highway 61 out of Clarksdale, Miss., on our way to see one of her farms. While her black standard poodle, Walter, naps in the back seat, she's explaining the pitfalls of being an institutional land investor.
"It's really hard to buy property at the right price," says Warner as we roll past the famous crossroads where Robert Johnson is said to have sold his soul to the devil to get the secret of the blues. "Half of all farmland that trades in the United States never sees a broker. We believe you've got to have a lot of local knowledge of the marketplace. Farmers are smart and they talk. And if one Town Car full of Wall Street types rolls into town and makes a bid, suddenly all of the prices go up."
A Nebraska farm girl who went on to a globetrotting career as a derivatives trader for Goldman Sachs (GS, Fortune 500) and then as a hedge fund executive in London, Warner, 45, is back on the farm pursuing what she believes is a huge moneymaking opportunity. Two years ago Warner launched an investment firm, called Chess Ag Full Harvest Partners, with a fairly simple underlying strategy: Buy undervalued farmland in the U.S. and profit from the coming global agriculture boom.
Last June she closed her first fund with $30 million from wealthy individuals and institutional investors such as the pension fund of Dow Chemical (DOW, Fortune 500). (See correction, below.) She says her ultimate goal is to take the company public as the first farmland-only real estate investment trust in the U.S. "The returns in agriculture haven't looked sexy for a long time, but I think that's about to change," she says.
Warner is just one of many financiers around the world making that same bet. Over the past few years hedge fund gurus like George Soros, investment powerhouses like BlackRock, and retirement plan giants like TIAA-CREF have begun to plow money into farmland - everywhere from the Midwest to Ukraine to Brazil. Canadian private equity firm AgCapita, which raised $18 million in 2008 to invest in Saskatchewan cropland, estimates that as of the first quarter of 2009, more than $2 billion of private equity money had been raised for farmland investments globally, and another $500 million was planned.
The growing flow of money into farms has persisted despite a major drop in the commodities markets last fall, prompted in part by the global financial crisis. In the spring of 2008 spiking grain prices caused food shortages and rioting in dozens of countries before falling some 50% by December. In fact, that crash has obscured a broader trend. Even after the correction, grain prices remain above their 20-year average, and food stocks around the world are still near 40-year lows. For many investors, last year's shortages are a preview of what could lie ahead.
The fundamentals remain in place for a long-term boom in the prices of everything ag-related. The simplest metric to consider is the amount of farmland per person worldwide: In 1960 there were 1.1 acres of arable farmland per capita globally, according to data from the United Nations. By 2000 that had fallen to 0.6 acre(see chart above, "Precious Acres"). And over the next 40 years the population of the world is projected to grow from 6 billion to 9 billion.
"Land is scarce and will become scarcer as the world has to double food output to satisfy increased demand by 2050," says Joachim von Braun, director general at the International Food Policy Research Institute. "With limited land and water resources, this will automatically lead to increased valuations of productive land. And it goes hand in hand with water. Water scarcity will probably increase even more than land."
Improving diets in the developing world will also help drive up prices. As per capita incomes rise in China, India, and other parts of Asia, hundreds of millions of people will be adding meat to their daily fare. In the coming decades that will have a multiplier effect on demand because of the massive amounts of grain used to feed livestock. The USDA estimates that it takes seven pounds of grain to produce one pound of beef. Even with better crop yields from new seed technology, a supply crunch is looming. And the effects of climate change - rising sea levels, more droughts - could only amplify the problem.
"I'm convinced that farmland is going to be one of the best investments of our time," says commodities guru Jim Rogers, who serves as an adviser to AgCapita. "Eventually, of course, food prices will get high enough that the market probably will be flooded with supply through development of new land or technology or both, and the bull market will end. But that's a long ways away yet."
The biggest investors in farmland over the next decade will probably be sovereign wealth funds and governments of crop-starved countries eager to secure food supplies for their rapidly growing populations. In 2008, China announced a $5 billion plan to develop agricultural assets in Africa. That's just a start. Given that it has 20% of the world's population but only 7% of its arable land and 7% of its freshwater resources, China has no choice but to look beyond its borders. And the global recession has hardly slowed its appetite for crops. In the first four months of 2009, China imported a record 13.9 million tons of soybeans.
The Gulf States of Qatar, Abu Dhabi, and Saudi Arabia have already begun making deals to acquire or lease large tracts of farmland in Africa and Asia at bargain prices. That in turn has led to spate of headlines recently about a "land grab" by rich countries. When South Korea's Daewoo Logistics announced a $6 billion deal last November to lease roughly half the arable land in Madagascar - a plot about twice the size of Delaware - it caused so much anger that it helped spur a coup d'etat. In May a UN-sponsored study concluded that too many farmland deals were giveaways by leaders of poor countries, with only vague promises of jobs and investment in return.
The farmland phenomenon is almost certainly still in the early stages and is playing itself out in many ways around the globe. To get some insight into those strategies, Fortune focused on three investors with vastly different approaches - a British lord who's putting his money on Brazil, an American who is playing on political tensions in war-torn Sudan, and Warner, who is bargain hunting in the U.S. "Farming might not look sophisticated," says Warner. "It might wear overalls and talk funny. But it's older than Wall Street, it's a fine-tuned machine, and it's a very difficult business." Still, she says, if you execute right, "there is a big opportunity here."
Warner comes from a long line of farmers. The original deed on her family's land in Dakota County, Neb., in the northeastern corner of the state, was signed by Abraham Lincoln in 1861. By the time she was 14, she had earned her grain grader's license and was managing the grain elevator her father had built in Dakota City. Even when she was living abroad, she says, she loved to get home and ride a tractor. But it was the blues that originally brought Warner to the delta.
A lifelong "music nut," she started visiting Clarksdale to hit the local blues clubs after getting divorced in 2000. In 2004, after selling her share of a hedge-fund-of-funds business in London, on a whim she bought a two-story, 19th-century brick building on Delta Avenue downtown that housed a general store, renamed the shop Miss Del's (as in "Mississippi delta"), and added antique knickknacks and British chocolate to the inventory.
When she decided to move from London to the U.S. full-time in 2006 to pursue farmland investing, Warner converted the second floor of the building to a loft-like apartment. For now, it doubles as the headquarters of her fund. When Warner's not traveling, she and a couple of employees work at a dining room table with a PC. Books like Food, Inc. and Trade Negotiations in Agriculture sit on shelves above, next to a copy of Graham and Dodd.
Although Warner's rationale for betting on farmland is very much rooted in the global demand picture, her strategy is strictly focused on the U.S. "Yeah, land might be cheap and plentiful in Russia, but if the price of wheat goes up, is your deed going to be honored?" she says by way of explanation. Rather than buy farms in what she calls the "Prada handbag" states of Illinois and Iowa, where land comes at premium prices, she concentrates on less-well-known farming areas. In addition to her home base in Clarksdale, she has an office in South Dakota, and so far the fund has bought land in Arkansas, Kansas, Missouri, and Texas as well as Mississippi.
To figure out how much to pay for land, Warner looks at a range of factors, from local cash rents to the area's 10-year crop-yield trend. She hires contractors to farm the land and splits the harvest, using her trading experience to hedge out price risk and lock in gains. In exchange for a seven-year lockup, a 2% management fee, and 20% of profits, she figures she can deliver the investors in her first fund an annual return of 13% to 16% - about 4% to 6% from crop yields, around 8% from land appreciation, and the rest from hedging.
Based on historical returns for farmland, that's an attainable goal. According to research by Terry Kastens and Kevin Dhuyvetter, professors of agricultural economics at Kansas State University whom Warner recruited to be advisory partners in her fund, the average annual return on U.S. farmland since 1950, including crop yield and land appreciation, is 11.5%, vs. a 12% annualized total return for the stock market. And the farm returns actually came with about half the volatility of stocks.
Despite the big price moves in grains, farmland values have stayed relatively stable. Land prices in the U.S. rose modestly last year (the final data from the USDA won't be out until August), but the picture this year is unclear. In May the Federal Reserve Bank of Chicago estimated that farm prices in parts of the Midwest fell by 6% in the first quarter, the biggest such drop since 1985. However, Warner says that the markets she targets are still on the rise. "I hope we see some softening," she says. "I think it would be a great buying opportunity."
If any investor has a long view on world markets, it's Lord Jacob Rothschild. The 73-year-old scion of the world-famous European banking dynasty need only look to his own family history, which dates back some 200 years to the rise of patriarch Mayer Amschel Rothschild in Frankfurt. Even after losses in his investment trust last year, Rothschild has a personal fortune estimated at $600 million. He also has a strong opinion on the prospects for farmland. "We think right now is an excellent point of entry for taking a long-term position in agriculture," he tells Fortune.
Rothschild did just that last year when he invested $36 million for a 24% stake in a venture called Agrifirma Brazil. The company is the brainchild of Jim Slater, a longtime City of London investor and investing writer known in the 1970s as one of Britain's most feared corporate raiders, and Ian Watson, a Canadian investment banker. It is not the trio's first investment in commodities together. In 2003, Rothschild invested with Watson and Slater in a company called Galahad Gold, which snapped up gold and uranium assets just as metals prices began to move up, and then sold shares publicly through the London Stock Exchange's AIM market. With commodities booming in late 2007, they liquidated the company's assets, locking in a 66% annualized return over five years. Profits in hand, the trio decided that the next big opportunity was in agriculture.
When asked about the case for buying farmland, Rothschild rattles off statistics on population growth before bringing up another issue of increasing importance: inflation. "If you look at the macro picture today," says Rothschild, "we have an extraordinary situation. If you take governments' printing money as fast as they are, borrowing as fast as they are, and bailing out white-elephant corporations, we're surely going to have an inflationary situation fairly soon." In that kind of environment, owning a hard asset like land is a good hedge.
Agrifirma has already acquired some 100,000 acres in the Brazilian state of Bahia and holds an option on another 60,000. This summer it will produce its first crops of soybeans, cotton, and corn. Rothschild and Watson say they chose Brazil in part because there was a large quantity of scrubland, or cerrado, that could be irrigated and converted to farmland, enhancing the value greatly. They also liked the fact that its economy has been growing robustly. And perhaps most important, Brazil has 14% of the world's freshwater resources, the most of any country. "The world is fully in a water crisis, and we haven't realized it yet," says Watson. "When you're exporting agriculture, you're de facto exporting water."
"They can't change the laws on me, because I've got the guns," says Phil Heilberg, pausing to take a bite of his turkey bacon. On a Monday morning in May the chairman and CEO of Jarch Capital is explaining his investment strategy over breakfast at the Regency Hotel near his office on Park Avenue in New York City. "As long as Gen. Matip is alive, my contract is good."
While Warner and Rothschild have focused on carving out a relatively risk-free way to profit from the farmland boom, Heilberg, 44, has taken the opposite tack. The American is putting his money into Sudan, Africa's largest country and one of its least stable. And he's hardly shy about the many ways his investment could go wrong. "I like to point out that it's a failed state, it's been sanctioned by the U.S., and it has a peace agreement that could unravel at any time and lead to armed conflict," he says. "The good thing is that you know what most of the risks are, and you can get paid for them."
With hundreds of thousands of acres of lush, undeveloped land in the Blue Nile and White Nile valleys, Sudan has the raw potential to develop into an agricultural powerhouse. Investors from Abu Dhabi, Qatar, Saudi Arabia, and Kuwait have already reportedly made deals to lease land in the predominantly Muslim northern part of the country. But in January, Heilberg raised a lot of eyebrows by announcing that he had agreed to lease roughly 1 million acres of undeveloped land - an area the size of Rhode Island - in Mayom County in southern Sudan.
The deal has drawn all kinds of criticism - everything from cries of land grabbing to accusations that Heilberg is intentionally fomenting discord on behalf of the U.S. government to outrage that he is consorting with "warlords." Heilberg has cultivated connections to Washington. His vice chairman is former ambassador Joe Wilson, the husband of onetime CIA agent Valerie Plame and the man who blew the whistle on the Bush administration's obfuscations about Iraq and yellowcake uranium. Another executive is a former CIA operative.
But Heilberg dismisses any suggestion that he's working with the U.S. government. And he makes no apologies for his associates on the ground, including the aforementioned Gen. Paulino Matip Nhial, 67, a hardened veteran of the long civil war between north and south Sudan who is now the deputy commander of the army in the south. Both Matip and one of his allies, Gen. Peter Gatdet, are on Jarch's advisory board. An Amnesty International report in 2000 recorded accusations that troops under Matip's command committed war atrocities. "One man's warlord is another man's freedom fighter," says Heilberg. "If you want to be in power over there you have to control territory, and listen, that involves tribal battles. You just have to recognize who is a good man and who isn't - who's doing it for power and who's trying to better his people. Matip is a good man."
The son of a coffee trader, Heilberg spent nine years working for the AIG Trading Group, doing metals and currency deals in the former Soviet republics and opening offices for the company in Hong Kong, Singapore, Moscow, and Tashkent before striking out on his own in 1999. He started Jarch (the name is formed from his children's initials) in 2002, and became captivated by the combination of political tension in Sudan and the abundance of natural resources in the southern part of the country. "There's a lot of wealth to be made when you have changes in sovereignty," he says.
In addition to farmland, southern Sudan has oil, gold, zinc, and uranium, and Heilberg has long been looking for a way to profit from developing those resources. But he is constrained by, among other things, the fact that U.S. sanctions prevent him from exporting oil out of Sudan - not that the government in the northern capital of Khartoum would allow it anyway. (His ideal investment scenario involves southern Sudan's making a relatively bloodless split from the Muslim north and being recognized by the U.S. as an independent nation.)
So for now Heilberg is focusing on the farming opportunity, and he says that by the end of the year he will have more than doubled the amount of land that he's leasing. He is interviewing foreign farming contractors to develop the land, and hopes to begin growing tomatoes, corn, onions, and other vegetables by next summer. He anticipates taking on investment from a "major venture partner" within the year.
Heilberg has promised not only to create jobs but also to put 10% or more of his profits back into the Mayom County community. (Jarch's slogan: "Because it is your land, your natural resources!") And Wilson characterizes their approach as a version of doing well by doing good. "This is a deal that's certainly fraught with political risk," he says. "But we think that it has enormous potential to open an avenue of economic development for the southern Sudanese and make them shareholders in a positive outcome. That's my theory as I look at this." In theory, it sounds good. As an investment strategy, it's not for the faint of heart.
Back on Highway 61, Warner is reflecting on the fact that the wider world is mimicking her own journey back to the farm. "I think it's fun to get Wall Street types and farmers talking," she says. "They might have a lot to offer each other. A couple of years ago when I started telling my buddies in New York my little story about row-crop agriculture, it seemed really exotic. But I think people have sort of been slapped around and gotten a wake-up call, and they're thinking, 'Oh, this kind of makes sense.'"
There's another thing she finds comforting about what she's doing. "I've always personally liked the idea," she says, "that even if the bottom dropped out of this whole credit bubble and the world blew up, that the farmland, while it might not make a return for two or three or four years, was going to be there down the road. Because in the end, people have to eat."
--Reporter Beth Kowitt contributed to this article.
Find this article at: