Historic land returns Traditionally, New Zealand dairy farmland has yielded around 4% to 5% annual cash flows and generated approximately 5% capital gains, for a total return of approximately 10% p.a. See below from 1994 to 2017. New Zealand Dairy Operating Returns and Capital Gains, 1992-2017 Source: Rabobank, Craigmore The key drivers of steadily expanding farm profitability per hectare are increases in prices of farm produce plus gains in per hectare productivity and factor efficiency. These gains in net cash flows per hectare are capitalised into land prices. As can be seen from the graph, the “cap rate” i.e. cash flow returns of New Zealand land remained at 4-5%, while capital values grew at circa 5%. Such capitalisation of income growth into farmland values is normal around the world. What happened after 2015? It was to be expected that the same trends would be seen in the decade from 2015. During that period, consistent with the past, productivity, factor efficiency, prices and development gains saw farms continue to grow EBIT. For example, Craigmore Farming Partnership saw EBIT per hectare significantly increase over the 10 years to 2025 (see graph below). Craigmore Farming Dairy EBIT per hectare 2015 to 2025 Source: Dairy NZ, Craigmore However, remarkably, despite growth in net cash flows, farmland prices in those 10 years did not move up¹. They did not capitalise the gains. Dairy farmland values were broadly flat between 2014 and 2024. So that yields of these farms rose from about 5% to between 8% and 10%. Far higher than I have seen in my career (see graph below). ¹ Forestry and horticulture both achieved value growth over the period, as trees gained new cash flows from carbon, and horticulture saw a world-wide increase in the demand for premium fruit and wine. These sectors were targeted to a lesser degree by restrictive government policies than was mainstream farming. New Zealand Dairy Operating Return on Asset 2015 to 2025 Source: Dairy NZ Why did farmland prices not rise? Craigmore believes that the main reason for this disconnect was the policy changes New Zealand instituted over that period, which were discussed in our December Commentary. New Zealand’s farming sector was starved of capital. The dairy sector, in particular, was targeted as the central bank discouraged banks from supporting it. As a result, grants of new loans fell and farmers were obliged to amortise debt. This had the effect of sucking cash out of the sector. As explained in that earlier Commentary sector bank debt fell from $41.5 billion in 2018 to $36.5 billion in 2024, even as revenues rose by approximately 50%. But does liquidity matter to farmers? Agriculture, while a good source of long-term value creation (see the beginning section of this Commentary), the industry is not “capital light”. It is capital hungry for lots of reasons including inter-generational transition, which often entails debt and capital exiting the industry. Parents cannot retire in town without withdrawing capital. Also, agriculture technology is constantly changing, creating opportunities for investment in increased productivity. How else could an industry, which fed around 2.5 billion people in the 1950’s now feed 8.2 billion using the same amount of land? Does the rural sector matter to New Zealand? As noted in our December Commentary, an exuberant, credit-fuelled urban housing boom was the indirect result of the post-2015 policy experiment. This did not end well. Capital misallocation (essentially to non-productive assets) resulted in low productivity growth in New Zealand, outside agriculture. Fortunately, New Zealand’s leaders, political and others, have become aware of these policy mistakes and are beginning to open capital flows to the sector again. The pendulum of New Zealand farmland investment policies is now beginning to swing back towards its most competitive global sector. What will be the key drivers of New Zealand land values in the next period? Craigmore under-estimated the impact of what proved to be anti-farming New Zealand policy settings in the past decade. After a long period where old relationships did not obtain, and farm EBIT grew faster than land prices, we, like the rest of the New Zealand farming sector, are nervous to “call the bottom”. Even so, we cannot help but observe that the current steady normalisation of the policy pendulum may create a remarkable opportunity. The perverse policies, which are only now being dismantled (and given legislative delays, this may take until late 2025 to come into effect) have created an anomaly. Meanwhile cash-flows of New Zealand farmland may trend even higher with recent falls in the currency. It may not be just better policy, which is coming to the aid of New Zealand farming. It is possible that a “positive storm” of better commodity prices, improving returns, and better capital flows could enable New Zealand land prices to “catch up” lost ground, thus with the potential to generate out-sized returns as cap rates normalise over the next two or three years. Reasons why this may occur include: The New Zealand residential property boom has finally come to an end Partly as a result, New Zealand GDP fell 1% in 2024 Hence, New Zealand interest rates are now falling faster than those of our major trading partners Which is returning the New Zealand currency to more competitive levels of 15 years ago (below graph) So, commodity prices, when measured in New Zealand dollars, are now rising rapidly Which should directly translate to farm EBIT as NZ inflation is now firmly under control Hence farmers, who “get this” are wanting to buy their neighbours’ land again But because RBNZ punitive polices remain in place, debt financing remains tight Creating opportunities for equity capital providers to provide financing to farms And these capital flows to New Zealand land should improve as the New Zealand government allows more international capital into New Zealand land from late 2025, including through investor visa programs. NZD/USD Exchange Rate Source: Trading Economics What might be the returns of New Zealand land during the next 10 years? Although New Zealand policy momentum is swinging toward farming, it is not clear that all restrictions on capital flows to land will be removed. New Zealand banks still face high equity capital requirements on farm lending. As noted, more financing of the sector will need to come from equity. In this context we think it would be aggressive to assume that farm yields will compress to the level at which they used to trade, i.e. around 4.5%. Instead, we think 6.5% a more reasonable assumption. If that is right, then prospective returns of good quality New Zealand land over the next 10 years may be the sum of: Average 7.75% cash flow / assets Plus: 3.5% annually from gains in productivity, efficiency and pricing Plus: Capitalisation rates falling from 9% to 6.5% = 38% growth i.e. approx. 3.75% p.a. Minus: taxes and portfolio overheads of 3.5% p.a. For a net total asset return of 11.5% p.a. from this simple model. As ever, your comments and views are much appreciated. Forbes Elworthy and the Craigmore team forbes.elworthy@craigmore.com Published: 3 February 2025
