Trying to decide if it makes sense to grow biomass energy crops to get into the expanding market? This article shows farmers how to compare the costs of crop production using enterprise budgets.
Contents
Introduction
Demand for biomass renewable energy feedstocks is expanding. Biomass feedstocks can be converted to biofuels, Bioproducts or co-fired with coal electrical generation plants to meet impending carbon regulations and/or generate carbon credits. Co-firing with biomass also generates renewable energy credits that enable utilities to meet state renewable energy mandates.
Farmers may collect biomass from a wide range of sources. Some of these include residues from existing crops, harvesting hay and forage crops for biomass instead of livestock feed, collecting biomass from native pastures and grasslands or establishing dedicated biomass crops. Some of these may be annual crops while others are perennials.
The economic decision to collect biomass is complex because farmers must not only consider direct harvest and processing costs but costs of crop establishment, if applicable. The latter requires allocation of establishment costs over more than one year of production. The farmer must then compare net returns from a biomass enterprise with other crop enterprises using a partial budget approach. Farmers will only have an economic incentive to produce and/or collect biomass if net returns exceed the profitability of other competing cropping opportunities, or if there are other advantages such as reduced risk or improved cash flow.
Enterprise Budgets
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| Corn cob and stover mix. Photo: F. John Hay, Extension Educator, University of Nebraska-Lincoln Extension. |
Crop enterprise budgets organize yield, price and cost information to compare profitability and facilitate decisions such as which crop to grow. Crop yields and costs vary with climate and soil, so enterprise budgets need to be tailored to the specifics of different growing regions and markets. The keen interest in feedstock availability has led to the development of enterprise budgets and related software for a number of alternative energy crops and prospective growing regions. Since biomass energy crops are not widely grown now, the purpose of these budgets is generally to explore the price and yield conditions under which energy crops could compete with existing food and feed crops, or to explore whether collection of crop residues from existing feed crops such as corn would be profitable.
Development of a crop enterprise budget requires the analyst to make judgments about data sources to draw on, level of detail to include, and other issues. Consequently, users of any given budget are well-advised to study the underlying assumptions of the budget to determine how closely they match the user’s situation.
The data included in an energy crop budget should recognize the many risks and uncertainties that farmers face as they consider conversion of land to energy crops. The expected price for the energy crop is uncertain, since markets for energy crops are absent or just getting started. The yield to expect under farm conditions is less certain than for crops with a long production history. Post-harvest storage and handling losses and crop transportation costs should be considered. Fertilizer requirements vary in the energy crop budgets that have been developed so far, because energy crop response to fertilizer under different growing conditions is not well understood. Chemical costs are also difficult to estimate because increased energy crop plantings may result in unfamiliar weed, insect or disease infestations that may be costly to control. Most energy crops are perennials, so growers face investment and cash-flow risks different from those for annual crops. The number of years required to reach mature yield, stand life and frequency of harvest are factors that can have a big impact on profitability.
One approach to deal with uncertainty in an enterprise budget is to calculate a break-even yield that would cover costs at an assumed price, or a break-even price that covers cost at an assumed yield (see James, et al. for more information on breakeven analysis). Another common approach is to look at optimistic, expected and pessimistic scenarios. Forward pricing, crop insurance, long-term contracts or simply waiting for more information are ways to reduce risk.
Machinery costs may be the most difficult calculation involved in crop enterprise budgeting. One key assumption is whether the machinery is new at the start of the budget period or whether it is used items that may have been purchased at lower prices some years before. The annual usage over which machinery costs are spread and years to replacement can also have large impacts on estimated machinery costs per acre. Machinery cost estimation is a particular problem for specialized biomass harvesting machines that are undergoing rapid change.
Annualized Costs
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| Cutting and baling switchgrass. Photo: University of Tennessee. |
Another conceptual issue concerns the time reference point at which to value costs and returns. For annual crops, harvest time is usually used as a reference point, with interest charged on inputs purchased before then. Adjusting for time gets more complicated for perennial crops that may be harvested multiple times over many years. In such calculations, converting all cash flows to an annualized net present value may be the most accurate profitability measure. A task force of the American Agricultural Economics Association has developed a Commodity Costs and Returns Estimation Handbook with suggestions for dealing with these and other conceptual issues.
It is important to remember that switching to an any new crop, biomass or otherwise, only makes sense if the new crop offers a higher return on investment (ROI) or perhaps reduces risk at the same ROI. The increase in ROI can occur from increased revenue and the same level of outlays or reduced outlays with the same or less revenues. Farmers need to analyze both their gross profit margins — cash sales minus cash expenses/cash sales — and the amount of sales generated, per dollar of fixed assets.
Resources
Switchgrass and corn stover are two potential feedstocks that have received a great deal of attention. Two 2009 conference proceedings papers by Epplin and by Mooney and English list the university enterprise budgets and cost analyses that were available at that time. Other recent reports with enterprise budgets and break-even comparisons of multiple energy crops and residues are available for Michigan and Minnesota.
Haugen and Gustafson (2009) have developed a spreadsheet, Biomass Compare. This model allows farmers to compare potential profitability of new annual and/or perennial biomass crops with traditional crops produced.
- Farmers using the software enter anticipated costs and returns for both new biomass enterprises and traditional crops in separate sections of the spreadsheet.
- Next, a reference crop is selected in the Comparison Sheet. Either a traditional or biomass crop can be a reference crop.
- The spreadsheet then calculates equivalent biomass and traditional crop prices needed to provide similar profitability as the reference crop.
Bibliography
- Haugen, R. and C. Gustafson. “Biomass Compare” Dept. of Agribusiness and Applied Economics, North Dakota State University, Fargo, Dec. 2009.
- AAEA Task Force on Commodity Costs and Returns. Commodity Costs and Returns Estimation Handbook. Updated 8/20/2009, http://www.economics.nrcs.usda.gov/care/aaea/index.html
- Epplin, Francis. Biomass: Producer Choices, Production Costs and Potential and Mooney, Dan and Burton C. English. Economics of the Switchgrass Supply Chain: Enterprise Budgets and Production Cost Analyses. Both are in Transition to a Bioeconomy: The Role of Extension in Energy (conference proceedings), Little Rock, AR. June 30, 2009.
- State University of New York, College of Environmental Sciences and Forestry. The EcoWillow v. 1.2 (Beta) – An Economic Analysis Tool for Willow Short-Rotation Coppice for Wood Chip Production, http://www.esf.edu/willow/download.htm.
- Holcomb, Rodney B., Kenkel, Phil, Fryer, Chris, Bellmer, Danielle, and Whiteley, Rob. Feasibility Template for On-Farm Production of Ethanol from Sweet Sorghum. 2009, http://agecon.okstate.edu/faculty/publications_results.asp?id=3663&submit2=1&page=1.
- James, L. K., Swinton, S. M., and Pennington, D.R. Profitability of Converting to Biofuel Crops, MSU Extension Bulletin E-3084. Dec.2009, http://bioenergy.msu.edu/economics/index.shtml.
- Lazarus, William. Minnesota Crop Cost and Return Guide for 2010, October 2009, http://www.apec.umn.edu/faculty/wlazarus/documents/cropbud.pdf.
Contributors To This Article
Authors
- William Lazarus, Professor and Extension Economist, University of Minnesota Extension
- Cole Gustafson, Biofuels Economist, North Dakota State University
Peer reviewers
- Michael Dicks, Professor and Chair, Department of Agricultural Economics, Oklahoma State University
- Scott Swinton, professor of Agricultural, Food and Resource Economics, Michigan State University.