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Profit Motive for Ranching: Implications for Policy Analysis

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Profit Motive for Ranching: Implications for Policy Analysis THE LACK OF A PROFIT MOTIVE FOR RANCHING: IMPLICATIONS FOR POLICY ANALYSIS L. Allen Torell1, Neil R. Rimbey2, John A. Tanaka3, and Scott A. Bailey4 Paper presented at the Annual Meeting of the Society for Range Management, Kailua-Kona, Hawaii, February 17–23, 2001. Copyright 2001 by L. Allen Torell, Neil R. Rimbey, John A. Tanaka, and Scott A. Bailey. All rights reserved. Readers may make verbatim copies of this document for non-commercial purposes by any means, provided that this copyright notice appears on all such copies. ABSTRACT The economic impact of changing land-use policies has traditionally been estimated using the standard economic model of profit maximization. Ranchers are assumed to maximize profit and to adjust production strategies so as to continue maximizing profit with altered policies. Yet, nearly 30 years of research and observation have shown that family, tradition, and the desirable way of life are the most important factors in the ranch purchase decision—not profit. Ranch buyers want an investment they can touch, feel, and enjoy, and they historically have been willing to accept relatively low returns from livestock production. Profit maximization appears to be an inadequate model for explaining rancher behavior, describing grazing land use, and estimating the impacts of altered public land policies. In this paper, we investigate the relative importance of livestock production income and desirable lifestyle attributes in determining the market value of western ranches, and we explore what this means for economic models and policy analysis. 1Professor, Department of Agricultural Economics and Agricultural Business, New Mexico State University, Las Cruces, NM 88003; 2professor, Caldwell Research and Extension Center, University of Idaho, Caldwell, ID 83605; 3associate professor, Agricultural and Resource Economics, Oregon State University, Union, OR 97883, and 4former research assistant at New Mexico State University, currently with Farm Credit Services, Las Cruces, NM 88005. INTRODUCTION DOCUMENTING QUALITY OF LIFE VALUES For many years, a disparity has existed between the Future earning potential is the traditional explanation for market value of rural lands and the income-earning or pro- why rural lands have economic value. The land purchase ductive value of these lands. William Martin and various decision is treated as an investment made today with the coauthors (Martin 1966, Martin and Jeffries 1966, Smith and expectation that the asset will produce income in the future. Martin 1972) studied Arizona ranches and noted that non- The amount a buyer is willing to pay for land is ultimately tied livestock ranch outputs, including tax shelters, land apprecia- to the future income stream the property is expected to tion, and, especially, the ranching lifestyle were the most produce. However, this traditional income approach to important reasons for ranch purchase and investment. People valuation has not adequately explained observed market desire to own rural properties for a place to recreate, relax, values for many rural properties, and an extensive body of and raise their families. They desire to live in rural environ- literature has arisen to explain the discrepancy. ments, maintain the lifestyles of farmers or ranchers, and Some authors, especially those studying farmland values, have investments they can touch, feel, experience, and enjoy have found that real growth in farm earnings and expected (Pope 1987). In many cases, beef production and profit are of capital gains caused a large part of the rapid growth in only secondary importance to the ranch purchase decision. farmland values during the 1970s and early 1980s (Melichar Martin portrayed the market influence of the rural lifestyle 1979, Phipps 1984, Alston 1986). The importance of capital in a negative way. He suggested the amenity value arose gains to movements in western ranch values also has been because of conspicuous consumption, farm fundamentalism, noted. Workman (1986, p. 13) stated that, while the rate of and the consumptive/speculative beliefs and attitudes of return from livestock has historically been about 2%, a much ranch buyers. Similarly, Pope (1987, 1988) referred to the more competitive 10 to 15% rate was realized from land additional quality of life (QOL) values as “romance values” appreciation during the 1970s and early 1980s. Other factors as he discussed the role of agrarian values in policy decisions also have been identified that explain the disparity, including and the public land-use debate. Yet, whether one views these land speculation, favorable tax laws, tax write-offs, financial QOL values in a negative or positive way is not important. leverage, government income and price support programs, The important observation is that, even 30 years ago, a market government subsidized inputs, and expectations of real in- disparity existed between the income-earning potential and creases in commodity prices (Smith and Martin 1972, Harris market value of western ranches. This disparity continues to 1977, Boehljie and Griffin 1979, Tegene and Kuchler 1990, exist because ranch buyers value the way of life and roman- Lamb and Henderson 2000). ticize the carefree, independent image of the cowboy. All of the above factors, from speculation to tax write- In various publications, Pope and Martin noted the signifi- offs, directly or indirectly rely on the capitalization of ex- cant policy and rural development implications of associat- pected future earnings to define land value, and the hypoth- ing QOL values with rural land ownership. They noted that, esis remains that farmers and ranchers are profit- and based on livestock production value, most range improve- wealth-motivated. However, there is strong evidence that ments show a negative benefit/cost ratio, and that rates of profit and earning potential are not the most important factors return from livestock operations are low by any standard involved in purchase decisions for western ranches. At least investment criteria. They argued that economic models that three interrelated observations are important. First, ranch attempt to explain rancher behavior based only on the profit returns are low by any standard measure of investment motive are inadequate and will lead to ill-conceived land-use performance. Second, a relatively small portion of land value policies and policy assessments (Smith and Martin 1972, is explained by livestock production value, and trends in land Pope 1988). They further noted that land-use policy analysis value seem to be impervious to the price of beef and net requires a great deal more than is offered by traditional cost- livestock returns. Third, when asked about their purchase and-return studies related only to the most obvious livestock motivation, farmers and ranchers list the quality of life as the product. Yet, policy assessments continue to measure altered primary reason for land purchase. Numerous studies have livestock production and livestock returns. Non-livestock documented the importance of quality of life reasons for production reasons for ranch ownership are largely ignored. ranch purchases and the apparent willingness of western In this paper, we revisit the question about the relative ranchers to accept below-market rates of return on their ranch importance that livestock returns and QOL values have in investments. determining the market value of western ranches. We review historic and current evidence that profit is not the only Livestock Returns underlying motive of ranchers, and then discuss the inappro- Livestock production returns have historically been, and priate public land policy conclusions that can and have been continue to be, less than possible returns from alternative reached by ignoring the QOL reasons for ranch purchases. investments of comparable risk. As noted over 30 years ago Finally, we evaluate what QOL values imply about policy by Martin and Jeffries (1966, p. 233), “research on costs and analysis and impact assessment models. returns in the western range cattle industry shows returns to capital and management ranging from very low to negative in all areas studied.” Similarly, reviewing data prepared by overpricing is variable yet consistent with the observation several researchers from 1926 to 1968, Agee (1972) reported that market values are inflated because of the desirable real rates of return for western cattle ranches ranged from lifestyle. negative values to 6.5%. Workman (1986, p. 13) noted that Overvaluation of land relative to agricultural earning only during a short period in the 1880s were livestock potential may be less common for farms versus ranches, and production returns exceptionally high, 25 to 40%. there appear to be regional differences as well. Previous Relatively low livestock returns have continued in more studies of Midwest and eastern farmland values show a recent times. Using the Standardized Production Analysis strong relationship between land values and agricultural (SPA) computer program and analysis procedure (McGrann returns to land (Dobbins et al. 1981, Melichar 1979, Robison 2000), a comparison of 306 herds in Texas, Oklahoma, and et al. 1985). Using USDA data from the northeast, south, and New Mexico found that, over the 1991–1998 period, the midwest states, Robison et al. (1985) found cash rents and average livestock production rate of return on the current inflation in cash rents were important factors explaining market value of assets was 0.91%. The SPA financial com- differences
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