April 21, 2015

Michael Blakeney Investment Director, BSWP Blue Sky Alternative Investments

Australian agriculture continues to be an attractive investment proposition for institutional investors. Australia’s geographic and reputational advantage in supplying growing global markets with premium, reliable, safe and traceable produce is well known.

For many decades Australian agriculture has competed internationally without government production and export subsidies historically enjoyed by many of its competitors. As a result the sector is highly efficient, market focused, resilient and sustainable.

Institutional investors have been challenged by how best to gain exposure to this sector given the domination of private family farmer ownership; diversity of farming systems; an historical scarcity of leaseholder farm operations at scale; and an expectation of production volatility arising from the variability of Australia’s annual climate.

Indeed one of the first institutional investors in Australian agriculture, W. S. Davidson, General Manager of the New Zealand and Australia Land Company established in 1877, noted:

’According to the law of averages, adverse seasons are due to recur ere long.’ⁱ

This seasonal variability combined with inherent soft commodity price cycles continues to challenge the modern Australian agricultural sector as illustrated by the Australian Bureau of Agricultural Resource Economics and Sciences (ABARES) annual surveys of broad-acre farm financial performance.ⁱⁱ
 

Figure 1: ABARES Survey: Financial Performance, all broadacre industries average per farm.

Broadacre farms include all non-irrigated cropping and grazing operations. Similar volatility in annual farm financial performance is experienced across the Australian irrigated cotton, sugar and horticultural sectors.

Traditional investment in directly owned and operated, or leased farmland is exposed to these cycles. Even employing a geographic diversification strategy to reduce variability in annual returns can be limited given the nature of the weather cycles across the continent as highlighted in the following analysis of the correlation between major grain production zones.
 

Table 1: Production correlation of selected major cereal growing regions of Australiaⁱⁱⁱ

So how can an institutional investor capture sufficient investment returns from the Australian agricultural sector yet mitigate risk and reduce earnings volatility?

At Blue Sky, our investment team has over 100 years’ collective experience in the Australian Ag sector across a range of industries, geographies and supply chains. Drawing on this experience we’re focused on strategically investing in a range of agricultural assets which we anticipate will deliver superior returns with lower volatility than the traditional model of farmland investments. These include investments in Australian water entitlements, agricultural supply chain infrastructure and providing expansion capital to proven agribusiness managers seeking to develop sufficient scale, or change their farmland utilisation.

Blue Sky’s Water Fund has achieved unlevered annualised returns over 11% per annum since inception. Water is the lifeblood of Australia’s highest value agricultural industries, and Australia has developed the world’s largest cap and trade water market to allocate this scarce resource amongst competing users. By investing in a portfolio of water rights diversified across certain geographies and annual reliabilities, investors in the Water Fund are exposed to annual returns from a range of agricultural industries that compete for additional annual allocations of water depending on their marginal returns each season.

Investments in agricultural infrastructure typically involve low price-elasticity of demand for the service provided; low correlation with the business cycle; regional monopolistic tendencies with corresponding pricing power and predictable cashflows. An example; Blue Sky’s investment in a water utility company which owns and operates a recycled water pipeline to supply a region of premium wine grape growers in South Australia.

Strategically investing expansion capital into high growth agribusinesses including farmland is quite evolved from traditional land rich agricultural investments. Partnering with dynamic and professional agribusinesses looking to implement productivity improvement, land use change or supply chain integration can provide exposure to best in class operators with clear exit strategies. An example; Blue Sky’s investment in a farming company implementing a farm expansion with a land use change in a region undergoing farming system change.

The emergence of these innovative and non-traditional forms of agri-investment is a reflection of a maturing asset class and the diversity of opportunities available to investors in the Australian agricultural sector. We look forward to discussing these thoughts and others at GAI New York in April.
 

The Blue Sky Real Assets team will be presenting at Global AgInvesting 2015 in the following sessions:
Tuesday, 28 April, 5:00-6:00 pm – Host of Roundtable Discussion: Alternative Strategies to Achieve Diversification
Wednesday, 29 April, 10:00-11:00 am: Agriculture Opportunities in Australia and New Zealand
Wednesday, 29 April, 3:30-4:15 pm: Host of Workshop: Impacts of Water on Global Agriculture and Opportunities to Invest.

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ⁱAustin Peter, 1999, The Old Land Companies, The Land Book Company, Sydney
ⁱⁱABARES 2015, Agricultural Commodities – March quarter 2015, CCBY 3.0
ⁱⁱⁱBlue Sky internal research 2015

The opinions expressed in this editorial are the author's own and do not reflect the views of GAI News.