How do you like the sound of crop insurance that guarantees a gross margin on your production, covers you when prices tank, provides something that the bank will lend against and gives you the kind of confidence that lets you sleep through the worst thunderstorm of the season?
Sounds too good to be true doesn’t it? But Production Cost Insurance from Global Ag Risk Solutions (GARS) in Moose Jaw has been designed to do all of the above. It’s the first private crop insurance program of its kind anywhere, and isn’t unique in the things that it covers; there are other government subsidized crop insurance programs which cover similar things. What is unique is that it covers them all at the same time in one insurance product, says Grant Kosior, CEO and co-founder of GARS. “It’s gross margin insurance,” says Kosior.
Gross margin is basically revenue (determined in this case by yield x price) minus production expenses (fertilizer, seed and chemicals). “Other crop insurance is only covering one variable, such as production or yield, there are still other variables that can happen like the price of the commodity going down or the expenses that you use to grow the commodity going up,” says Kosior. “We cover all three of those variables, which means we guarantee the gross margin revenue.”
Competing with subsidies
The GARS insurance product was launched about 2-1/2 years ago and interest is growing fast. That’s because it’s a simple, win-win product says Kosior. “There’s an actual contract between the farmer and the insurance company,” he says. “It allows them to know that they are going to be covered regardless of the inputs that they put in the ground and they also know that they are going to get paid on a timely basis.”
To date the company has taken on around $450 million of liability. Interestingly, one of the biggest challenges is persuading farmers that anyone can compete with a government subsidized insurance product, something that does currently present a barrier for the development of private agricultural insurance products. “If the provincial and federal governments combined have 60 per cent premium subsidies on the provincial/federal insurance programs and the premium cost is $37.50 an acre, the cost to the farmer is just $15,” says Kosior. “In that case there’s $22.50 an acre of subsidy, so is that a barrier for companies wanting to offer insurance to farmers in Canada? Of course.”
Despite the initial scepticism, GARS is managing to persuade more and more farmers that they can compete with those programs and remain cost effective. “The cost of our insurance is about the same cost as hail insurance, but hail insurance is covering one peril and we’re covering almost all the perils because we are covering the guaranteed margin,” says Kosior.
- More from the Grainews website: Estimating costs of production
GARS insurance puts a floor of revenue underneath the farm, says Kosior and is a reason that banks are willing to lend against it. He gives an example: “Let’s say you had a 30 bushel per acre crop and the farm had a yield guarantee of 30 bu./ac., so it doesn’t trigger a crop insurance claim. If it was a 30 bu./ac. canola crop at $12/bu., you would have $360/ac. in revenue and if the fertilizer, seed and chemical inputs were $200/ac., that would leave $160/ac. gross margin. What happens if the price of canola drops from $12 to $6? Now the revenue is $180/ac., you still have $200/ac. expenses, so there is a -$20/ac. gross margin. The bank would look at that and say, if we took your crop insurance as collateral, it didn’t pay out in that situation and you still lost money.
“Now, take GARS insurance and say you decide to go for a revenue guarantee of $100/ac. — that’s the gross margin you choose to insure. If you have $200/ac. expenses and end up with only $180/ac. revenue you are still guaranteed to receive $120/ac. because we are covering the expenses, the price risk and ultimately the gross margin. That’s why the banks will lend against it.” (In this example, the customer would get a payment to cover his loss of $10/ac., plus another $100/ac. for a total insurance payment large enough to provide him a gross margin of $100/ac., as insured.)
Another reason GARS is popular is its timely payouts, which have long been a sore spot for farmers dealing with many government programs, such as AgriStability. “In 2011 when we had an extraordinarily wet spring in southeastern Saskatchewan, a lot of our farms were getting their 2011 AgriStability payment this summer,” says Kosior. “If you are a farmer sitting across the desk from your banker and you say ‘Well I’m fine, I’ve got an AgriStability cheque coming,’ the banker will probably say, ‘No, you’re not fine because we can’t count that as an asset on your financial statement. It isn’t an account receivable payable to you within 12 months.’ It could 12, 24 or 30 months before you receive payment.”
GARS guarantees that a person in a claimable position, who submits the correct documentation, will have 60 per cent of their payment by seeding time the following spring and the balance before seeding is completed.
A hedge against price dips
Price risk insurance isn’t generally available for most farmers across the Prairies; instead they have had to either forward contract or dabble in the commodities market to try and insure against price declines. “The only price insurance available is if you buy puts and calls on the commodities market or if you forward contract your production, but there’s costs and risks to that,” says Kosior. “Certainly no farmers that I have ever met pre-prices 100 per cent of their production. There’s too much risk in the trade going upside down and them losing money on it.”
As an example, Kosior explains, if a farmer forward contracted 30 bu./ac. of production at $10 a bushel and he only grew 20 bu./ac., he has to go into the marketplace and buy that extra 10 bu./ac. to meet his delivery obligation. In the meantime, the price may rise. “What happens if the price has gone from $10/bu. to $12/bu.? He’s $2/bu. upside down on 10 bu./ac. so that’s a loss of $20/ac.,” he says. “We cover that because it’s like gravity; forward contract losses or gains show up in your revenue number. Revenue minus expenses equals your gross margin, and so if there is a loss on that forward contract, indirectly we cover that as well.”
Production Cost Insurance provides an additional risk management tool for farmers, says Kosior but it’s not for everyone. A farm must provide its last five years of financial statements and meet certain eligibility criteria based around the management ability of the producer. “We are insuring their management ability to produce a gross margin,” says Kosior. “The No. 1 largest factor in a farm being profitable is management, and when you see the financial statements you can determine the best managers. That said, almost everybody qualifies for our products, but they may not qualify at the highest levels and their premiums might be different than somebody else, depending on what the financial information tells us.”
Kosior says GARS is not an alternative to government insurance programs, but a complement to them. “We are supporters of government programs because we believe that this isn’t an us versus them kind of insurance product,” says Kosior. “Our job is to teach farmers what products react and where and how to best allocate their resources to them.”
Making good decisions
Kosior estimates that a farmer probably makes between 70 to 90 risk management decisions about his or her farm every year. Insurance is about making sure that they make the right decisions and are covered for things beyond their control.
“All of those management decisions will factor into their bottom line but you can make most of those decisions perfectly and Mother Nature can still deliver you a nasty one,” says Kosior. “But when farmers have confidence they will alter their behaviour and they will farm perfectly. As prices go down, they will start cutting back on inputs; I’ve seen that. But when you start cutting back on inputs it’s a very slippery slope. Our product gives them the confidence to use the inputs they need because if there is a wreck and Mother Nature does deliver them that curveball we are there to backstop them.”
GARS’ insurance product may not be the only one on the market for much longer if governments follow through on their commitments to move away from agricultural income support programs, says Kosior. “It might be led by the United States which has a 62 per cent premium subsidy. They are in the midst of changing their Farm Bill and when that changes over the next three or four years, other nations around the world will also lower their subsidies,” he says. “I do believe that when subsidies start to become less prevalent that there will be room for the private insurers. And I think we are already proving that.”