PRODUCTION RISK Risk Faced by Small Scale Producers March, 2008

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PRODUCTION RISKPRODUCTION RISK

Risk Faced by Small Scale ProducersRisk Faced by Small Scale Producers

March, 2008March, 2008

Dr. Laurence Crane National Crop Insurance Serviceswww.ag-risk.org

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Today’s Discussion Today’s Discussion

Risk profile of Rhode Island farmersRisk profile of Rhode Island farmers Special concerns of small farmersSpecial concerns of small farmers Risk management prioritiesRisk management priorities Discussion of production risksDiscussion of production risks

Control or minimizeControl or minimize Reduce variabilityReduce variability Transfer to someone elseTransfer to someone else

Brief overview of crop insuranceBrief overview of crop insurance

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Special Concerns of Small FarmsSpecial Concerns of Small Farms

Limited WORKFORCE

Rely on family members for labor and management

Major business disruption if: Disability Disagreement Divorce Death

Stress and fatigue add to risks

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Limited TIME to study and make decisions

Good record keeping takes time Following the market takes time Comparing options takes time Attending meetings/workshops takes time Decision-making takes time

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Limited FINANCIAL RESOURCES

No savings cushion in case of emergency Small, inadequate, or no line of credit Risk reducing purchases are not possible Delayed purchases may increase risk “It takes money to make money”…and “It takes money to save money”

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Difficulty TRANSFERRING the farm

Overlapping decision making Overlapping income requirements Competing goals

Farm purchase vs retirement income Expansion purchases vs reducing debt

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Lack of HEALTH insurance

Disability and life insurance are both important No or inadequate health coverage Long-term care

Can become very expensive Drain on limited time

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Older EQUIPMENT and FACITITIES

Increased breakdowns Cost of repairs Lost opportunities and product quality

Safety risks are increased

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Risk Management PrioritiesRisk Management Priorities

Minimize safety risks—nothing is more important than safety!!

Take the time to do things right Don’t move faster than you can think Wear protective gear Properly store chemicals, fuel, pesticides, etc. Maintain equipment Adopt a stress management plan Teach your children (and others) about safety

Age appropriate tasks Friends and visitors

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Use good agricultural practices

Follow industry and university standards IPM, nutrient management, rotational grazing, herd

health, chemical & fertilizer application rates, etc.

Record and maintain adequate records Documentation required for some chemicals Limit legal liabilities in some cases Required for insurance purposes Improves management skills and decisions

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Support your neighbors

Develop a strong network of friends Share labor, equipment, knowledge

Reduces costs Increases satisfaction

Make emergency plans in case of illness, etc. Write down procedures so someone else can follow

Create study group/club

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Property, liability, and health insurance

Review policies and know their terms Pay attention to “exclusions” Evaluate coverage levels and deductibles Shop around and compare

Get a good agent who gives you the service you need

Pay attention to your liability exposures

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Attention to business management

Analyze in writing the impact of decisions What, how, why, expectations, results

Maintain orderly records Keep and file receipts Keep and file ownership manuals and paperwork Create “memory aids”

Document, Document, Document

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Production RiskProduction RiskWhat is it?What is it?

Any production related activity or event Any production related activity or event that is uncertainthat is uncertain

Variability in production caused by Variability in production caused by weather, disease, pests, genetic variation, weather, disease, pests, genetic variation, machinery failure, timing, etc.machinery failure, timing, etc.

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Production RiskProduction RiskExamplesExamples

Variability in crop yieldsVariability in crop yields Animal weaning weightsAnimal weaning weights Product qualityProduct quality Animal rate of gainAnimal rate of gain Death lossDeath loss Machinery breakdownMachinery breakdown Excessive rain or droughtExcessive rain or drought

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Production RiskProduction RiskPrimary SourcesPrimary Sources

Adverse weatherAdverse weather Disease and pestsDisease and pests Input availability and Input availability and

qualityquality Technological Technological

advancesadvances Mechanical failureMechanical failure Agricultural Agricultural

industrializationindustrialization

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Why U.S. Crops FailWhy U.S. Crops Fail

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Production RiskProduction RiskPrimary ResponsesPrimary Responses

1.1. Control or minimize risk through management Control or minimize risk through management practicespractices

2.2. Reduce production variabilityReduce production variability DiversificationDiversification FlexibilityFlexibility Vertical IntegrationVertical Integration Apply technologyApply technology Contingency planningContingency planning

3.3. Transfer risk to someone elseTransfer risk to someone else ContractingContracting InsuranceInsurance

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1. Control or Minimize1. Control or MinimizeExamplesExamples

Use irrigation to offset droughtUse irrigation to offset drought Increase herbicide use to control weedsIncrease herbicide use to control weeds Increase pesticide use to control pestsIncrease pesticide use to control pests Be more timely in performing functionsBe more timely in performing functions Monitor more closely to detect problems Monitor more closely to detect problems

before they become seriousbefore they become serious Practice preventative maintenance Practice preventative maintenance

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2. Reduce Variability2. Reduce Variability Diversification TypesDiversification Types

Additional EnterprisesAdditional Enterprises Different Mix of EnterprisesDifferent Mix of Enterprises Differentiated ProductDifferentiated Product

Specific attribute produceSpecific attribute produce Value-added productValue-added product

Non-farm income and investmentsNon-farm income and investments

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2. Reduce Variability2. Reduce Variability Diversification IssuesDiversification Issues

Product form and Product form and specificationsspecifications

Market location and Market location and availabilityavailability

Yield variabilityYield variability Price variabilityPrice variability Price discovery Price discovery Credit availabilityCredit availability

Size/scale restrictions Size/scale restrictions and requirementsand requirements

Product volume Product volume constraintsconstraints

Special management Special management skillsskills

Production Production practices/technologypractices/technology

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Flexibility is the ability to adjust to uncertainty and Flexibility is the ability to adjust to uncertainty and

has three components:has three components:

Time flexibilityTime flexibility

Cost flexibilityCost flexibility

Product flexibilityProduct flexibility

Flexibility easier to obtain in marketing and financing, Flexibility easier to obtain in marketing and financing,

than in productionthan in production

2. Reduce Variability2. Reduce Variability FlexibilityFlexibility

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2. Reduce Variability2. Reduce Variability Vertical IntegrationVertical Integration

Includes all of the ways that output from Includes all of the ways that output from one stage of production is transferred to one stage of production is transferred to anotheranother

Accomplished by the mix of enterprises Accomplished by the mix of enterprises the farm is engaged inthe farm is engaged in

More common in livestock and specialty More common in livestock and specialty crop industries than in field cropscrop industries than in field crops

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2. Reduce Variability2. Reduce Variability Vertical Integration—ExamplesVertical Integration—Examples

• Backgrounding feeders from a cow-calf operation is integration within the cattle industry

• Joining a cooperative is integration across functions

Corn and Corn and hay raised and fed to dairy cows ishay raised and fed to dairy cows is integratiointegrationn across crop and livestock productionacross crop and livestock production

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2. Reduce Variability2. Reduce Variability Vertical Integration—IssuesVertical Integration—Issues

Record keeping very importantRecord keeping very important Production contracts can reduce risk, but Production contracts can reduce risk, but

may also reduce production controlmay also reduce production control Benefits are greatest in industries with Benefits are greatest in industries with

complex production/marketing complex production/marketing interrelationshipsinterrelationships

Management skill is requiredManagement skill is required

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2. Reduce Variability2. Reduce Variability Apply TechnologyApply Technology

Includes high tech and biotechnologyIncludes high tech and biotechnology Can improve management and production Can improve management and production

efficiencyefficiency The need to specialize increases as The need to specialize increases as

technical knowledge increasestechnical knowledge increases Need to compare benefits to costsNeed to compare benefits to costs May reduce production risk but increase May reduce production risk but increase

overall farm riskoverall farm risk

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2. Reduce Variability2. Reduce Variability Apply Technology—Examples Apply Technology—Examples

Computerize record keeping and Computerize record keeping and analysisanalysis

Plant Roundup Ready soybeansPlant Roundup Ready soybeans Plant seedless watermelonsPlant seedless watermelons Drip irrigation systemsDrip irrigation systems Minimum or no-till practicesMinimum or no-till practices Mechanical butterbean Mechanical butterbean

harvestingharvesting

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2. Reduce Variability2. Reduce Variability Apply TechnologyApply Technology

PositivesPositives

+ Reduce costReduce cost

+ Enhance yieldEnhance yield

+ Enhance qualityEnhance quality

+ Enhance PriceEnhance Price

+ Provide market accessProvide market access

+ Save timeSave time

+ Provide management Provide management informationinformation

NegativesNegatives

– Increased costsIncreased costs

– Increase riskIncrease risk

– Increased managementIncreased management

– Applicability based on Applicability based on size and scalesize and scale

– Consumer rejectionConsumer rejection

– Environmental riskEnvironmental risk

– Reduced flexibilityReduced flexibility

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2. Reduce Variability2. Reduce Variability Contingency PlanningContingency Planning

Whole farm business planningWhole farm business planning Budgeting Budgeting

Enterprise, partial, whole-farmEnterprise, partial, whole-farm Transition planningTransition planning

FeasibilityFeasibility Start-up costsStart-up costs Additional credit needsAdditional credit needs Cash flow requirementsCash flow requirements

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3. Transfer Risk3. Transfer RiskMethodsMethods

Production contracts can be used to Production contracts can be used to

transfer specific risks associated with transfer specific risks associated with

production to someone elseproduction to someone else

Insurance can be used to transfer Insurance can be used to transfer

certain risks to otherscertain risks to others

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3. Transfer Risk3. Transfer Risk What is a Contract?What is a Contract?

A written or oral agreement between two A written or oral agreement between two or more parties involving an enforceable or more parties involving an enforceable commitment to do or refrain from doing commitment to do or refrain from doing somethingsomething

In agriculture, contracts usually specify:In agriculture, contracts usually specify: Production and/or marketing conditions,Production and/or marketing conditions, Price,Price, Quantities to be produced, and, Quantities to be produced, and, Services to be providedServices to be provided

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Crop InsuranceCrop Insurance

OverviewOverview

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Why Would Farmers Want Why Would Farmers Want Insurance?Insurance?

Protection against losses due to natural Protection against losses due to natural disastersdisasters

Facilitates business planningFacilitates business planning

Loan securityLoan security

Forward market crops with assuranceForward market crops with assurance

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Insurance PrinciplesInsurance Principles

Insurance is the pooling/combining of enough Insurance is the pooling/combining of enough small unpredictable risks so that over time the small unpredictable risks so that over time the losses for the combined group become losses for the combined group become statistically predictable.statistically predictable.

Basic purpose of insurance is to provide Basic purpose of insurance is to provide protection against economic loss arising from protection against economic loss arising from adverse events.adverse events.

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Insurance PrinciplesInsurance Principles

To be insurable, risks must meet this criteria:To be insurable, risks must meet this criteria: Loss would result in economic hardship.Loss would result in economic hardship. Sufficient number/quality of units must be Sufficient number/quality of units must be

exposed to the same peril.exposed to the same peril. Occurrences must be accidental/unintentional. Occurrences must be accidental/unintentional. Definite in time/place and measurable with Definite in time/place and measurable with

reasonable accuracy.reasonable accuracy.

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Crops Insurable in Rhode IslandCrops Insurable in Rhode Island

ApplesApples CornCorn Fresh Market CornFresh Market Corn Cranberries Cranberries NurseryNursery PeachesPeaches PotatoesPotatoes

An additional 100+ other crops insurable as An additional 100+ other crops insurable as part of Adjusted Gross Revenue Lite planpart of Adjusted Gross Revenue Lite plan

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Crops Insurable in Rhode IslandCrops Insurable in Rhode Island

COUNTYCOUNTY

ADJUSTEDADJUSTED GROSS GROSS

REVENUE*REVENUE*

APPLESAPPLES

CORNCORN

CRANBERRIESCRANBERRIES NURSERYNURSERY PEACHESPEACHES POTATOESPOTATOES AGRAGR AGR-AGR-

LiteLite CornCorn Fresh Fresh MarketMarket

BristolBristol (P)63(P)63 6161 90,4490,44 5050 5050

KentKent (P)63(P)63 6161 8686 90,4490,44 5050 9090 5050

NewportNewport (P)63(P)63 6161 8686 90,4490,44 5050 9090 5050 9090

ProvidenceProvidence (P)63(P)63 6161 8686 90,4490,44 5050 9090 5050 8686

WashingtonWashington (P)63(P)63 6161 8686 90,4490,44 5050 5050 9090

90 (APH) Actual Production History44 (CRC) Crop Revenue Coverage50 (DO) Dollar Amount of Insurance86 (GYC) Grower Yield Certification61 (AGR-L) Adjusted Gross Revenue Light63 (AGR) Adjusted Gross Revenue (P) Pilot program

*AGR is a plan of insurance and not a crop. Under AGR many crops (including livestock) are insurable that are not insurable under any other plan of insurance.

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Why a Government Program?Why a Government Program?

Weather tends to impact a large areaWeather tends to impact a large area

Losses are correlated, insurance works best Losses are correlated, insurance works best when losses are not correlatedwhen losses are not correlated

Without federal subsidies premiums would be Without federal subsidies premiums would be too high for most farmers to participatetoo high for most farmers to participate

Without federal reinsurance, federal capital Without federal reinsurance, federal capital requirements would be too high for most requirements would be too high for most companies to participatecompanies to participate

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Basic Components of the ProgramBasic Components of the Program

Insurance Sales Agents(Most agents work for more than one company)

Responsible for Sales and Premium Collection of the Farmer-paid Portion

Federal Crop Insurance Corporation (FCIC)(Managed by USDA/RMA)

Responsible for Policy Development, Rating, Reinsurance, and Administrative Expense Support

(as negotiated and contracted by the Standard Reinsurance Agreement)

Private Insurance CompaniesResponsible for Reinsurance and Delivery of the Program

Contribute to Policy Development

Farmers

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What Does the Federal What Does the Federal Government Do?Government Do?

Subsidize insuranceSubsidize insurance Pay delivery reimbursementPay delivery reimbursement Pay premium subsidyPay premium subsidy Offer reinsuranceOffer reinsurance

Set ratesSet rates Establish insurance policy provisionsEstablish insurance policy provisions Regulate the insurance companiesRegulate the insurance companies

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Risk Management AgencyRisk Management Agency

Administers Federal Crop Insurance Act for Board Administers Federal Crop Insurance Act for Board of Directors of FCICof Directors of FCIC

Headquartered in DC, major presence in Kansas Headquartered in DC, major presence in Kansas CityCity

10 Regional Service Offices10 Regional Service Offices(Rhode Island in the Raleigh, NC Region)(Rhode Island in the Raleigh, NC Region)

6 Area Compliance Offices6 Area Compliance Offices(Rhode Island is in the Eastern Regional Compliance (Rhode Island is in the Eastern Regional Compliance Office headquartered in Raleigh, NC)Office headquartered in Raleigh, NC)

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Crop InsuranceCrop Insurance 2002 Subsidy Schedule2002 Subsidy Schedule

Coverage LevelCoverage Level Subsidy %Subsidy % Producer Premium %Producer Premium %

CAT—50/55CAT—50/55 100100 00

50/10050/100 6767 3333

55/10055/100 6464 3636

60/10060/100 6464 3636

65/10065/100 5959 4141

70/10070/100 5959 4141

75/10075/100 5555 4545

80/10080/100 4848 5252

85/10085/100 3838 6262

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Multiple Peril Crop InsuranceMultiple Peril Crop Insurance Limited Resource Farmer Fee WaiverLimited Resource Farmer Fee Waiver

Limited resource farmers may be exempt Limited resource farmers may be exempt from paying the administrative fee for CAT from paying the administrative fee for CAT or additional coverage.or additional coverage.

Producer must sign waiver when applying Producer must sign waiver when applying for insurance. for insurance.

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RevisedRevised Waiver Statements for Waiver Statements for Limited Resource FarmerLimited Resource Farmer

I certify that I:I certify that I:(1)(1) Am a person with direct or indirect gross farm sales not more than Am a person with direct or indirect gross farm sales not more than

$100,000 in each of the previous two years (to be increased $100,000 in each of the previous two years (to be increased starting in fiscal year 2004…); and a total household income at or starting in fiscal year 2004…); and a total household income at or below the national poverty level… or less than 50 percent of below the national poverty level… or less than 50 percent of county median household income in each of the previous two county median household income in each of the previous two years…; oryears…; or

(2)(2) Was insured prior to the 2005 crop year, or for the 2005 crop Was insured prior to the 2005 crop year, or for the 2005 crop year, and administrative fees were waived… because I qualified year, and administrative fees were waived… because I qualified as a limited resource farmer under the… definition in effect at the as a limited resource farmer under the… definition in effect at the time, and that I remain qualified…time, and that I remain qualified…

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Determining Limited Resource Determining Limited Resource Farmer StatusFarmer Status

The Limited Resource Self Determination Tool may be The Limited Resource Self Determination Tool may be used to determine if an insured qualifies as a limited used to determine if an insured qualifies as a limited resource farmer.resource farmer.

See http://www.lrftool.sc.egov.usda.gov/ See http://www.lrftool.sc.egov.usda.gov/ for the actual dollar amount adjusted for inflation. for the actual dollar amount adjusted for inflation.

(Example:) Washington County Rhode Island 2008:(Example:) Washington County Rhode Island 2008: Gross farm sales Gross farm sales << $116,800 $116,800 Total Household Income Total Household Income << $31,301 $31,301

(Example:) Kent County Rhode Island 2008:(Example:) Kent County Rhode Island 2008: Gross farm sales Gross farm sales << $116,800 $116,800 Total Household Income Total Household Income << $28,067 $28,067

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http://www.lrftool.sc.egov.usda.gov/http://www.lrftool.sc.egov.usda.gov/

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What Does the Company Do?What Does the Company Do?

Insures farmerInsures farmer

Processes all paperworkProcesses all paperwork

Contracts agents and loss adjustersContracts agents and loss adjusters

Ensures all claims are fairly and promptly Ensures all claims are fairly and promptly paidpaid

Accepts risk on the insurance policiesAccepts risk on the insurance policies

Interacts with RMA/Agents/FarmersInteracts with RMA/Agents/Farmers

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Crop Insurance ProvidersCrop Insurance ProvidersIn Rhode Island in 2008In Rhode Island in 2008

1. ARMtech Insurance Services1. ARMtech Insurance Services800-335-0120800-335-0120www.armt.comwww.armt.com

2. Rain and Hail L.L.C.2. Rain and Hail L.L.C.800-776-4045 800-776-4045

www.rainhail.comwww.rainhail.com

3. Rural Community Insurance Services3. Rural Community Insurance Services800-451-3836800-451-3836www.rcis.comwww.rcis.com

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How Does A Farmer Get How Does A Farmer Get Insurance?Insurance?

Crop insurance is a contractual agreement Crop insurance is a contractual agreement between the farmer and an insurance company between the farmer and an insurance company brokered by an insurance agentbrokered by an insurance agent

Contacts an insurance agent who has a Contacts an insurance agent who has a contractual relationship with an insurance contractual relationship with an insurance company to sell crop insurancecompany to sell crop insurance

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Agent Delivery SystemAgent Delivery System

All crop insurance is sold by private insurance agents All crop insurance is sold by private insurance agents who: who: Are the company representative with the insured.Are the company representative with the insured. May represent multiple companies.May represent multiple companies. Are responsible to educate producer about products.Are responsible to educate producer about products. Are compensated by a percentage of premium.Are compensated by a percentage of premium.

Agent training requirements:Agent training requirements: State licensing requirements by insurance department State licensing requirements by insurance department

including annual continuing education hours. including annual continuing education hours. Additional RMA requirements to sell Federal products.Additional RMA requirements to sell Federal products. Competency testing every three years.Competency testing every three years.

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What Does the Agent Do?What Does the Agent Do?

Explains product options—quotes priceExplains product options—quotes price

Sells insurance contractSells insurance contract

Collects production and acreage reportCollects production and acreage report

Notifies company in case of lossNotifies company in case of loss

Informs farmer about changes to the Informs farmer about changes to the programprogram

Contact for farmer, local, professional, Contact for farmer, local, professional, trustedtrusted

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What Does the Adjuster do?What Does the Adjuster do?

Fact finding/data collection role.Fact finding/data collection role. Gather appropriate information.Gather appropriate information.

Visits the farm and physically appraises Visits the farm and physically appraises crop damage.crop damage.

Follows established procedures for Follows established procedures for determining extent of damage.determining extent of damage.

Documents farmer provided data.Documents farmer provided data. Assists policyholder in filing a claim for Assists policyholder in filing a claim for

indemnity.indemnity.

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Producer ObligationsProducer Obligations

Report acreage accurately.Report acreage accurately. Meet policy deadlines.Meet policy deadlines. Pay premiums when due.Pay premiums when due. Report losses immediately.Report losses immediately.

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Mistakes That Cost You MoneyMistakes That Cost You Money

Insurance mistakes that cost money:Insurance mistakes that cost money: Under-reporting planted acres per unit.Under-reporting planted acres per unit. Over-reporting planted acres per unit.Over-reporting planted acres per unit. Harvesting the crop in a manner other than Harvesting the crop in a manner other than

insured.insured. Destroying the insured crop without company Destroying the insured crop without company

consent.consent.

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How Does a Farmer Select an How Does a Farmer Select an Agent?Agent?

Q: Why do you select one agent Q: Why do you select one agent over over another? another?

A: Service!!!A: Service!!!

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Components of Good Agent Components of Good Agent ServiceService

1.1. Product KnowledgeProduct KnowledgeKnows what products are available and protection Knows what products are available and protection they offerthey offer

2.2. Provides GuidanceProvides GuidanceHelps find best product/farming operation fitHelps find best product/farming operation fit

3.3. Sends RemindersSends RemindersHelps insured meet deadlines and policy Helps insured meet deadlines and policy requirementsrequirements

4.4. Available for AssistanceAvailable for AssistanceAvailable to answer questions and provide Available to answer questions and provide assistanceassistance

5.5. Provide Gap MeasuresProvide Gap MeasuresGoes the extra mileGoes the extra mile

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Finding An AgentFinding An Agent

Ask other growers for recommendation.Ask other growers for recommendation. Check with insurance agency where you Check with insurance agency where you

purchase other types of insurance.purchase other types of insurance. Check with farm organizations you have a Check with farm organizations you have a

relationship with.relationship with. Use the USDA Risk Management Agency’s Use the USDA Risk Management Agency’s

Web site’s “Agent Locator.”Web site’s “Agent Locator.”

www.rma.usda.govwww.rma.usda.gov