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Contract Buy-Outs
Due to the reduced production from the hot and dry conditions, you may be concerned about being able to fulfill your commitments on forward contracts. In those situations where you will not have enough production to meet forward contract requirements, the cost of having to buy-out the shortfall with the grain company can be included in your AgriStability expense.
For the expense of buying-out the contract to be considered allowable, it will need to be reasonable for your farm operation. The forward contract would have to be for a commodity and production amount reasonably produced by your farm operation.
A contract buy-out can vary from company to company, but in most cases, it is the difference between the amount you committed to deliver and the actual amount you must meet for the commitments of the forward contract. In some cases, there can be a penalty applied to buying out a contract and covering the increase in the price of the crop for the amount you are unable to deliver. These buy-out costs are directly related to the cost the grain company has, to either replace the contracted grain it expected to receive from you or the cost to buy itself out of its future position and an administrative fee. Some grain companies are allowing some producers to defer their contract to the next crop year.
Examples of a Contract Buy-Out: Producer A
For the purpose of these examples, each contract buy-out may differ in its costs and penalties. Some operations may not charge the shortfall costs.
The producer had a forward contract for 100 tonnes at a price of $500 per tonne. The producer only grows 50 tonnes and is short 50 tonnes to meet the commitment of their forward contract. The current price for the grain is $850 per tonne. The elevator company is also charging a $30 per tonne administration cost for buying out contracts.
To calculate the amount AgriStability will cover when the producer buys out the contract, the shortfall the producer has to cover to fulfill the contract and the expense associated with covering the shortfall will need to be identified.
- The producer is short 50 tonnes and must cover the shortfall at the original contracted price (50 tonnes x $500 per tonne = $25,000).
- The producer must also cover the price difference between the contracted price and the current value which is $350 per tonne. ($850 per tonne - $500 per tonne)(50 tonnes x $350 per tonne = $17,500).
- The producer pays the administration penalty ($30 per tonne x 50 tonnes = $1,500).
- Total cost the buy-out the contract is $44,000 ($25,000 + $17,500 + $1,500).
The producer would still receive income for the 50 tonnes they are able to deliver at the contracted price = $50 tonnes X $500 per tonne = $25,000.
The $44,000 total buy-out cost is the allowable expense for AgriStability. The $25,000 of income for the grain delivered would be considered allowable income.
Example of purchasing grain to fulfill a forward contract: Producer B
The producer had a forward contract for 100 tonnes at a price of $500 per tonne. The producer only grows 50 tonnes and is short 50 tonnes to meet the commitment of their forward contract. the producer decides to purchase grain from a neighbour to fulfil the forward contract.
To calculate the amount AgriStability will cover when the producer buys grain to fulfil the contract, the shortfall the producer has to fulfill the contract and the income and expense associated with buying the grain to cover their contract shortfall will need to be identified.
Producer is short 50 tonnes. They purchase the neighbour's grain at current price of $850 per tonne = 50 tonnes x $850 per tonne = $42,500. The producer delivers the 100 tonnes at the contracted price of $500 per tonne and receives payment of $50,000. (100 tonnes x $500 per tonne = $50,000).
The $50,000 income from the forward contract is allowable income and the $42,500 expense to buy grain from the neighbour is an allowable expense for AgriStability.
Deferrals
In some cases, delivery on forward contracts may be deferred to the following year. For AgriStability, you will be required to report the inventory you have on hand at the end of the fiscal year. You can use the contracted price to value that inventory; however, SCIC will require documentation to verify the price and tonnage which is contracted and will need the final contract information to show how the contract was fulfilled (or bought out) to accurately allocate the income and expense from the transaction.
Reporting for AgriStability
Please use the following code when reporting a contract buy-out to AgriStability:
- Code 9836 - commissions and levies to report the paid settlement amount. (You are unable to fulfill a contract and reach a settlement buy-out with the grain company.)
- Code 010 - Canola to report the purchase of a commodity to fulfill a production contract. (You purchase grain from your neighbour to complete the fulfillment of your production contract.)
The help with the processing of your application, please include a note to your AgriStability program forms explaining how you fulfilled the contract buy-out.