Canola trade halt with China
March 2019 marks the start of Chinese importers halting their purchase of Canadian canola seeds. Forty percent of Canada's canola exports go to China, accounting for billions of dollars generated annually. This sudden market fluctuation is an area of concern for canola farmers across Canada. BDO is committed to supporting agriculture clients during this time with strategic financial benchmarking tactics that help respond to such market changes. We'd like to highlight this by exploring how a specific client could be affected and employ benchmarking to develop contingency plans for the future.
Canola has been the driver of crop rotations and an indicator of Western Canada's financial health for decades. As a leading producer of canola, Canada is a substantial exporter of the grain to countries worldwide. In fact, canola is so distinctly Canadian that the "can" in the name "canola" was coined based on its Canadian prevalence. The Canola Council of Canada calls the crop "Canada's greatest agricultural success story" and the world's only "made in Canada" crop. Canola acres in Manitoba have grown to 3.2 million acres in 2011 from fewer than 30,000 acres in 1961.
In 2017, Canada exported $3.6 billion worth of Canola to China. The same year, exports of canola seeds and products generated $1.72 billion for Manitoba's economy alone.
In mid-March 2019, when China halted new purchases of all Canadian canola, the price impact was immediate to this significant contributor to the economy. The price of canola suddenly dropped. Demand for the commodity remained strong prior to this dispute. Canola farmers, including this Manitoba grain farm, could have serious repercussions from this trading halt.
With a sudden change like this, it's difficult for our farm client to alter their current year plan. Sustained low prices create a need for long-term and contingency planning; as any plans for agricultural activities are set far in advance to accommodate fall fertilizer application, seed purchases, selling of previous harvests, and pre-sale of next year's crops.
Moreover, our client needs support in servicing debt to help overcome particularly challenging years while battling rising equipment costs alongside the continued demand to produce. They must consider the rising cost of equipment and assess whether the gains in efficiency and production warrant significant capital expenditures.
Currently, canola is not at a price where the family wants to sell, especially in selling forward for the fall. With the current state of trading with China, it's uncertain what the prices will be and for how long they could stay low. As an agriculture business that depends on substantial forward planning where many factors affect each other, it's a difficult position to be in.
If this becomes a long-term issue, proper contingency plans will have to be put in place to account for this uncontrollable circumstance. Our farm client, as well as other grain farmers across Canada, will either have to accept the lower prices and lock in a number they're willing to sell at, or look for cost savings.
Why BDO?
Initially, our farm client came in for a demonstration of our new benchmarking after being encouraged to speak to us. The family was intrigued by BDO's depth of knowledge and insights on benchmarking. They ultimately decided to incorporate BDO's services into their farm business activities because they were looking for someone with comprehensive experience to handle their finances. They were pleasantly surprised to learn of BDO's specific insight in managing business for agriculture clients.
In working with BDO, this farm is also trying to improve corporate structure. They want to solidify ownership between family members in a tighter, more comprehensive agreement that covers all the parts they're currently missing.
BDO's approach
To help our grain farm client, the BDO team incorporated various financial and tax services, as well as succession planning to tackle establishing a corporate structure for the future. In addition, our teams are working together to develop appropriate contingency plans to minimize the risk of unexpected market fluctuations, like the trade halt with China.
BDO is supporting our client's interest in further pursuing financial benchmarking tactics to measure the success of crop rotation and make future adjustments accordingly. Information obtained from this financial benchmarking forms the basis for contingency planning.
How could the drop in canola price impact this farm?
If canola market prices drop from $11.00/bushel to $9.00/bushel and continue to remain low, our farm client could see a significant drop in total gross margins. They can expect margin declines of up to $50,000 for this year and years to come if prices remain low.
We've highlighted how gross margins and contribution margins would look across five fiscal years (FY1-5) incorporating current crop rotation practices, showing the difference in canola prices at $11.00/bushel and $9.00/bushel. This drop generates differences in gross margin of up to $50,000 within a single year if the farm keeps the same crop rotation plan.
Gross Margin
Contribution Margin
Future planning
While it is unknown in which direction the market will go, it's imperative for farm businesses to account for potential market dips in their contingency planning. BDO continues to offer support in areas where farm owners encounter challenges or want to expand.
[1] Pete Evans, "China has stopped buying Canadian canola seed," CBC News, March 22, 2019, https://www.cbc.ca/news/business/canada-canola-china-1.5067307
[1] Canola Council of Canada, "What is Canola?" Canola Council of Canada, 2017, https://www.canolacouncil.org/oil-and-meal/what-is-canola/
[1] "Canola Sector," www.gov.mb.ca, 2011, https://www.gov.mb.ca/agriculture/markets-and-statistics/crop-statistics/pubs/crop_canola_sector.pdf
[1] Manitoba News Release, Manitoba Pledges Continued Support for Canola Industry [Press Release], March 8, 2019.