Canada Probes Easy Farm Loans Challenging Soundest Banks

Evan Erlandson liked the flexible mortgage terms offered by Canada’s government-owned agricultural lender to start a farm, so he bypassed traditional financial firms such as Royal Bank (RY) of Canada.

Erlandson, 31, borrowed C$100,000 ($97,800) from Farm Credit Canada five years ago to buy 160 acres of land and start a poultry and livestock farm. He received the cash in installments over three years, paying only the interest on each portion and receiving a longer pay-back term than the banks offered.

“FCC’s terms of credit are much more farmer-friendly” and the organization offers to lend more than banks do, Erlandson said in a telephone interview from his office in Carman, Manitoba, about 80 kilometers (50 miles) southwest of Winnipeg. “There’s a good chance that your average young farmer is over- leveraged.”

FCC has become the nation’s biggest farm lender after its loan portfolio grew more than 400 percent since 1997, with the increased lending coinciding with a 75 percent rise in farmland values over the decade through 2011. Prime Minister Stephen Harper’s government has asked the Office of the Superintendent of Financial Institutions, the country’s bank watchdog, to check whether FCC is taking on too much risk.

Photographer: Dave Olecko/Bloomberg

Agricultural land prices have soared in Canada and the U.S., supported by increased global demand for commodities from wheat to beef. Close

Agricultural land prices have soared in Canada and the U.S., supported by increased... Read More

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Photographer: Dave Olecko/Bloomberg

Agricultural land prices have soared in Canada and the U.S., supported by increased global demand for commodities from wheat to beef.

Agricultural land prices have soared in Canada and the U.S., supported by increased global demand for commodities from wheat to beef. “The price of land has gone up so high, it’s creating a bubble,” said Merrell Dickie, a farmland realtor for Century 21 Gateway Real Estate Ltd. in Olds, Alberta. “For every seller of land, there are 25 land buyers.”

Debt Warnings

The increased lending has come amid warnings by Finance Minister Jim Flaherty that households should ensure they can still repay debts once borrowing costs rise. Bank of Canada Governor Mark Carney said in December consumer debt represents the biggest domestic risk to the economy and Canada’s banks.

Some products offered by FCC, such as loans that don’t need down payments or repayment of principal, are similar to subprime mortgage loans, the C.D. Howe Institute, an independent Toronto- based research organization, said in a Feb. 6 report. Subprime mortgage lending fueled a U.S. housing bubble whose collapse triggered the 2008 financial crisis.

Farmers may default or struggle to pay back loans if land values fall or prices of major crops like wheat continue to drop. Such a scenario would squeeze producers from the world’s second-biggest exporter of wheat and may expose the government and taxpayers to losses.

Impaired loans accounted for 1.23 percent of FCC’s portfolio at the end of March, according to its annual report. That compares with 0.35 percent for domestic loans at Royal Bank of Canada, the country’s biggest bank by assets, at the end of January.

OSFI Review

“We are pleased to see that OSFI will be reviewing FCC from a risk perspective,” Marion Wrobel, vice president of policy and operations at the Canadian Bankers Association, said in an e-mail. “Banks are federally regulated and supervised by OSFI and are prudent lenders who give loans to those who pay them back.”

Canada’s banking system was ranked the world’s soundest for a fifth consecutive year in September by the Geneva-based World Economic Forum.

FCC’s chief operating officer, Rémi Lemoine, disputes that the agency offers easier loan terms than private banks and credit unions.

“Some of the banks would like to create a perception that FCC is kind of loose,” Lemoine said by phone March 14. “If you walked into the back offices here, you would see pretty much the same thing you’d see in any financial lending institution.”

Risk Management

The agency runs stress tests on the business plans of its borrowers and has risk-management systems that are similar to those used by banks, he said, tailoring loans to the needs of the agriculture industry.

Outstanding farm debt rose almost 200 percent between 1993 and 2011 to C$69.7 billion, according to Statistics Canada. FCC holds about 29 percent of the market, while chartered banks hold 36 percent and credit unions 16 percent.

The average cost of running a farm rose 77 percent in the decade to 2011, Statistics Canada data show, rising to C$292,000 per year from C$164,331.

“It’s very tough to get started in agriculture with the high prices of land and equipment,” said Nevin Bachmeier, a 32- year-old farmer in Kleefeld, Manitoba who produces soybeans, corn and wheat on a 4,000-acre farm. “You have to give up control of your farm sometimes or allow investors in.”

Bachmeier took out his first mortgage with FCC when he had only two years of experience farming. Banks wanted a longer business history and more collateral, he said.

Expanded Authority

FCC, based in Regina, Saskatchewan, was founded in 1959. The agency’s lending authority was expanded in 1993 and again in 2001, according to its annual report. The most recent changes allowed it to lend to businesses that aren’t owned by farmers and offer venture-capital financing.

Since 2008, FCC has financed itself by borrowing directly from the government.

There needs to be a “public discussion” about FCC’s role in the industry, said David Phillips, president of the Credit Union Central of Canada, which represents credit unions.

“It’s a state-owned enterprise. You should develop your strategies and conduct yourself in partnership with private sector financial institutions, and not in direct competition,” he said in a phone interview.

The government’s request to look at FCC’s lending practices comes a year after Flaherty asked the banking regulator to examine Canada Mortgage & Housing Corp., a government agency that provides mortgage insurance.

Canada’s agriculture minister offered firm support for FCC. It is “constantly under pressure from the chartered banks and credit unions to do less, not more,” Gerry Ritz said March 6 on a conference call with reporters. Still, the government wants to assure the public FCC doesn’t “have money at risk,” he said.

To contact the reporters on this story: Katia Dmitrieva in Toronto at edmitrieva1@bloomberg.net; Andrew Mayeda in Ottawa at amayeda@bloomberg.net

To contact the editor responsible for this story: Chris Wellisz at cwellisz@bloomberg.net

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