Contributed by Steve Johnson, Extension Farm Management Field Specialist.
Most farms utilize a crop insurance product that provides a revenue guarantee on a percentage of their actual production history (APH). The most common product used by Iowa farmers is likely Revenue Protection (RP).
Using policies such as Revenue Protection (RP) or Revenue Protection with the Harvest Price Exclusion (RPE) guarantee both yield and price using farm level APHs. However, RPE does not offer a higher harvest guarantee should the harvest price (futures price average in October) be higher than the projected price (futures price average in February).
The Yield Protection (YP) is also a farm-level product, but does not trigger an indemnity unless a yield loss first occurs. The indemnity for both RPE and YP are limited to the projected price only, no adjustment should the harvest price be higher than the projected price.
Pre-harvest marketing strategies
The 2012 projected price is $5.68 per bushel for corn and $12.55 per bushel for soybeans, respectively. Use of RP or RPE guarantees the farm’s APH times the level of coverage. These are often referred to as the guaranteed bushels or the farm’s insurance bushels.
Let’s use an example to understand how the Revenue Projection (RP) product works. Say your farm’s average APH is 170 bu/acre and you elect the 75 percent level of coverage; your guaranteed bushels are 128 bu/acre. To calculate the revenue guarantee you simply multiply the guarantee bushels (128 bu./acre) times the projected price of $5.68/bu. to get $727/acre.
Using RP in 2012 should provide a comfort level in selling bushels for delivery on a portion of your guaranteed bushels. Should a natural peril like drought occur, any shortfall in bushels below the 128 bu./acre should trigger an indemnity payment calculated at the $5.68/bu. projected price.
Shortfall in harvest yield
Now the proverbial question: “What if I don’t raise those bushels that I’ve committed to delivery?” Use the example above and understand that the harvest yield estimated was only 100 bu/acre, but your guaranteed bushels were 128 bu/acre. Your indemnity will simply reflect those missing 28 bu/acre times $5.68/bu. or $159/acre. If you’d committed all 128 bu/acre to delivery, you’ll still need to work with your grain merchandiser to “buy back” those extra bushels as soon as you collect your crop insurance indemnity payment.
Most times there will simply be a charge of 10 to 20 cents per bushel since other merchandiser bushels can be substituted for your shortfall. Since you’ll be collecting an indemnity payment following harvest reflecting $5.68/bu., the impact of “buy back” bushels is negated. Should the harvest price (futures price average in October) be less than the futures price that you contracted bushels for delivery, the “buy back” will be even less and reward your pre-harvest marketing strategy.
Note this indemnity reflects a futures price average, which is to your advantage. That’s because the futures prices in most Corn Belt locations tend to be higher than the cash price used for “buy back” bushels. This is especially true at harvest when basis (cash minus futures) tends to be the widest.
Revenue guarantee vs. harvest guarantee
Where many farms struggle in utilizing crop revenue insurance coverage and pre-harvest marketing of bushels for delivery is the ability to recalculate the revenue guarantee. The example includes two extreme harvest price estimates. The high harvest price is $8/bu. and generates an indemnity of $224/acre. The low harvest price is $4/bu. but creates a much larger indemnity totaling $327/acre.
That’s because in the example, the actual harvest yield is multiplied times the higher of the projected or harvest price to create the calculated revenue. To determine the indemnity, subtract the calculated revenue from the harvest guarantee.
The $8/bu. harvest price estimates allow for a new harvest guarantee to be calculated, since $8/bu. is higher than the $5.68/bu. projected price. Note this calculation is not available for the RPE product, since you have an exclusion of the harvest price.
Selling Your Guaranteed Bushels
The key is the indemnity for any shortfall in bushels uses the projected price and has a minimum of the $5.68/bu. The advantage of the RP over RPE is that should the harvest price be greater than the projected price, a new harvest guarantee is calculated.
If you choose to pre-harvest sell bushels for delivery, consider timing those sales when December corn futures or November soybean futures are higher than the projected prices. This way you’re guaranteed that if you come up short of bushels, you can collect a minimum of the projected price.
The use of crop insurance revenue products such as Revenue Protection (RP) can easily be used in combination with a pre-harvest sales strategy that commits guaranteed insurance bushels to delivery.
Use of forward contracts and hedge-to-arrive contracts are common tools for selling these bushels. It’s still important to understand how to use a variety of marketing tools. For bushels that you prefer not to commit to delivery, consider protecting the futures price with tools such as futures hedges and/or buying put options.
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