Land rush on Brazil’s frontier

First, for those international investors interested in Brazilian agribusiness, the good news: the country’s poor infrastructure is crippling the competitiveness of Brazil’s farms. With little or no onsite storage, farmers are forced to ship harvests straight to port – becoming price takers at peak times of supply (and therefore low prices) and incurring peak freight costs. The journey from the interior of the country, which is where most of the agribusiness opportunities are located, is roughly 2,000 kilometres by truck. Roads are poor, rail is virtually non-existent. Delays at ports are costly in time and money. Logistics costs exceed those in other countries that planting often isn’t economic. Also, regulation ins’t helping: new regulations governing truck drivers’ working conditions are forcing up already sky-high freight costs, and in the Brazilian government, restricted foreign ownership of farmland.

The bad news? This situation is changing fast. Key infrastructure projects should come on stream over the next few years and lower logistic costs will make the country’s frontier lands globally competitive. The wave of investments that began in the mid 2000s to develop farmland in the heart of Brazil will continue but those that are making handsome returns from the transformation of scrubland into highly productive arable farms say that the business model has about five years to run. Of course there will be further opportunities to make money out of Brazil’s emerging superpower status as an agricultural producer, but in all likelihood, years of outsized returns are numbered.

Global demand

Since about 2003 the demand for food has entered another super-cycle, where a change in the diets of emerging market populations is leading to a multiplier effect on the demand for grains. This phenomenon, known to economists as the income growth effect, was last seen in the 1960s and 1970s when rising incomes in the US and Europe led its populations to demand more protein – essentially meat – which is more grain-intensive to produce than a diet of base goods (such as breads and vegetables). Now the growth in wealth in the emerging markets – largely China – has sparked another such cycle of agriculture demand. And this time, it is not just dietary shifts driving demand: growth in bio-fuels is competing for farmland, creating further competition for productive farmland.

In the 1960s and 1970s the response to the leap in demand for grains was a revolution in agricultural technology and, through that, productivity. This time technology will also be critical but new lands in Brazil are set to benefit. As a Macquarie report summarises: “Brazil is the embodiment of the next revolution. Through the last decade we have seen them embrace agriculture as a source of wealth creation. The combination of this with their beneficial climate and abundant arable resources gives them the best ability to respond to that demand shift.”

As Macquarie notes, Brazil is blessed with its climate, and specifically by water. The country has an estimated 13% of the world’s water resources, which is, of course, critical for crop production. That source of water is vital, and shouldn’t be underestimated according to forecasters. For example, China is likely to outsource more production to Brazil’s water-rich regions, which will, in essence, be a trade in water. Brazil is also extremely stable in its climate which boosts production, and also is the most ‘latitudinal’ of agriculture producers – its territorial span from near the equator in the north to lands in the south is unrivalled by any other grain producer. Only Africa has the same span and then not within a single country. The main traditional grain producers in the northern hemisphere run – roughly – along the same latitude and droughts that affect one tend to affect the others. So Brazil has the natural hedge to its already stable climate with latitudinal diversification.

For decades Brazil has also been investing heavily in agricultural technology and that has had revolutionary results. It was discovered that the cerrado biome – a type of scrubland that covers roughly 25% of Brazil, and mainly in the interior states of Mato Grosso, Mato Grosso do Sul and Goias, can be made fertile – tremendously so – by the relatively simple addition of limestone and fertilisers to the acidic soil. This opened, in an instant, huge swathes of land that were either unproductive or relatively unproductive pasture land, to arable production.

Brazil’s farmers moved to this new frontier land and the capital intensive nature of starting the operation and the open savannahs led to a natural development of large corporate-style farms, with scale helping to dilute capex. As these producers began establishing operations so too did consultancies and financiers. Informa Economics FNP, based in Sao Paulo, is one of the leading consultants to the Brazilian agribusiness sector and Mauricio Mendes, chief executive officer, says that there was a notable increase in international appetite in the industry following the 2008 crisis: “After 2008 the international investors came to Brazil looking for real assets, looking for long term alternatives,” he says. The government slammed the window shut in 2010, mostly due to fear of the establishment of sovereign-owned enclaves of land in the interior of Brazil, but the restrictions of foreign land ownership effectively ended direct FDI in agriculture by foreign businesses. “It lost Brazil a lot of money,” says Gabriel Pesciallo, a division manager at Informa Economics FNP. “There were a lot of huge companies that were planning to come to Brazil that had to hold their investment or give up. And of course everyone in the industry is putting a lot of pressure on the government to study [the situation] and work with us to reach a better point for everyone. It is not good for the country to stay the way that it is.” Many in the industry are confident the situation will be resolved with a more commercially-friendly outcome, which will offer upside to land valuations as money from abroad returns to flow in substantial volumes.

For the full article see the January 2014 issue of Euromoney Magazine

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