Higher interest rates call for stress testing of farm budgets

The fallout from chancellor Kwasi Kwarteng’s 23 September announcement means stress testing of budgets and investment plans is needed at much higher interest rates, say advisers.

Banks remain supportive of agriculture, but some sectors are being watched more closely than others, said Greg Ricketts, farm business consultant and rural director at GSC Grays.

With reference to high input costs and rising base rates, he said:

“Pigs and poultry are the most exposed sectors – many pig producers are 20p/kg off break-even. Beef and sheep are also potentially vulnerable, although we’re not seeing many people at their overdraft limit just now.”

While there is no apparent move to tighten lending criteria, further rate rises are expected and banks have been slowly increasing their use of covenants, requiring a certain level of financial performance to maintain the borrowing.

See also: Splitting a farm business – tax legal and practical matters

A £1m building project six weeks ago would have been looking at a loan rate in the region of 4-5% and stress testing at 6%, said Mr Ricketts. “Now we’re looking at stress testing at 8-8.5%.”

Overdraft rates for typical farm businesses have increased from 2.5% a few weeks ago to 4.75% now, said Iain McVicar, a partner and head of the farms and estate team at accountant Albert Goodman.

Longer-term borrowing applications for land purchase might have been stress-tested at 7% last year, but now a higher rate might be prudent, he suggested.

While the 50% Basic Payment Scheme advance in England has helped farm cashflows, that extra working capital is needed to cope with agricultural inflation, said Mr McVicar.

Some measures in the recent announcement, such as the maintenance of the annual investment allowance at £1m, will be helpful to farms, as were the measures on tax rates and national insurance, he said, and also highlighted an opportunity for some who might be looking to exit fixed-rate borrowings early.

This generally carries a penalty, but in the current climate, banks may pay borrowers to exit early, as they can then lend those funds at a higher rate to someone else. 

Mr Ricketts stressed the importance of communication with lenders and of being armed with up-to-date information on where the business is.

“If you’re looking for an increase in your overdraft limit, don’t expect a decision in two to three days.

“Banks are under pressure with staffing and resources; it could take 10 days and then only if the bank has all the information it needs from the customer.

“Every business should have a budget and cashflow forecast so it can communicate with the bank in an informed way three, six or nine months in advance of any breach of the overdraft limit.

“If there are issues, as long as you can demonstrate that you recognise them and are working on it and coming up with costed solutions to address problems, banks will generally be supportive.

“Problems come when businesses rely on security values rather than serviceability of the borrowing.”

The past few years had seen a move by banks to encourage a move of core borrowing (the portion of an overdraft that never reduces) to a more structured loan basis, although this is not the right thing for every business, said Mr Ricketts.

Fixed or variable rates

“The decision whether to fix rates is more difficult at present and depends on whether rates start to settle – it’s a judgement call and is about individual attitude to risk.

“Unless you want that certainty and really can afford a fixed rate of 7-8%, I would not be fixing 100%. There might be a case for fixing some, but not all,” said Mr Ricketts.