He Built 25,000 Bushels of Storage at 14% — It Lost Money Before It Paid

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[00:00:00]Ed Swanson was standing on top of the bin in October of 1984 when his neighbor's truck pulled into the yard.

[00:00:07]The wind came off the Nebraska plane hard that morning. The kind of October wind that found the gaps in your coat and stayed there.

[00:00:14]Ed had a caulking gun in one hand and was working the seam at the roof ring where the panels met. Running a bead along the joint before the weather closed in for the season.

[00:00:24]The bin was new. Poured concrete pad, 40-ft steel walls, aeration floor, the full system.

[00:00:33]It had gone up in August with a crew of four and had taken 11 days.

[00:00:38]Ed had been on the site every day. Below him, his neighbor Carl Odekirk got out of the truck and looked up.

[00:00:46]"Who builds bins at 14%?" Carl said.

[00:00:50]Ed ran the caulk bead to the end of the seam, smoothed it with his finger, and moved to the next joint.

[00:00:57]"Man who's tired of selling at harvest."

[00:00:59]He said.

[00:01:01]Carl looked at the bin for a moment. His own operation had two bins he had built in 1977 when rates were manageable.

[00:01:09]He had not built since.

[00:01:11]He watched Ed work for another minute, then got back in his truck and drove out.

[00:01:17]Down the county road, two other operations were loading their bins onto trailers to sell.

[00:01:23]The liquidation market had been running all fall. Men selling equipment and infrastructure to cover notes, turning steel into cash at prices that reflected the circumstances of the seller.

[00:01:35]Ed knew both of the men whose bins were being hauled out.

[00:01:39]He had not said anything to either of them.

[00:01:42]He finished the seam and climbed down.

[00:01:45]Ed had been farming in Kimball County, Nebraska since 1971.

[00:01:49]Dryland wheat and some corn on the western edge of the panhandle. Ground that required patience in wet years and fortitude in dry ones.

[00:01:59]He ran 280 acres on a land note that had been paid down to $62,000, an operating line that renewed each spring, and equipment that was old enough that he had been expecting repairs, and young enough that he had not replaced it yet.

[00:02:12]The storage problem had been consistent since the early 1980s.

[00:02:16]The Kimball County elevator ran a harvest basis that Ed had been tracking for 3 years.

[00:02:21]The gap between the local cash price and the futures price at harvest, when every farmer in the county was selling simultaneously, and the elevator's receiving capacity was fully committed.

[00:02:33]The harvest basis had run between minus 42 and minus 58 cents per bushel in the three fall markets Ed had tracked. By February or March, after the harvest selling pressure had cleared, the basis narrowed to minus 15 to minus 20.

[00:02:49]The gap between where Ed was forced to sell, and where the market would eventually trade, was 30 to 40 cents per bushel every year, consistent as the October wind.

[00:03:00]He had no place to put grain. He had been a forced seller at harvest, the same as everyone in the county who did not have bins.

[00:03:08]The elevator took the grain when it came in, and paid the harvest basis because that was the price when grain was coming in, and because it had to go somewhere, and the elevator was where it went.

[00:03:21]Ed had started writing down the harvest basis in 1981.

[00:03:26]Not because he had a plan for the information, but because the gap between what he received in October and what the board showed by February bothered him, and he wanted to know if it was consistent.

[00:03:38]He kept the sale tickets from harvest and compared them against the elevator's posted cash price in February, noting the difference each year in a column in his operating records.

[00:03:49]1981.

[00:03:51]Harvest basis minus 47 cents. February basis minus 16 cents. Improvement 31 cents.

[00:03:59]1982, harvest basis minus 53 cents.

[00:04:03]February basis minus 22 cents.

[00:04:07]Improvement 31 cents.

[00:04:09]1983, harvest basis minus 58 cents. February basis minus 19 cents.

[00:04:17]Improvement 39 cents. 3 years, the improvement had been between 31 and 39 cents every time.

[00:04:25]The column was the most consistent number in his operation.

[00:04:29]He wrote the gap on the back of an invoice one evening.

[00:04:33]He was leaving between 30 and 40 cents per bushel in the ground every harvest because he had no choice about when to sell.

[00:04:41]25,000 bushels of capacity, 30 cents per bushel of likely basis improvement from harvest to February.

[00:04:49]That was 75,000 in potential gain if the bin paid off according to the basis pattern he had observed.

[00:04:58]The problem was the cost of building it at 14%.

[00:05:02]Here is the math Ed worked through on a legal pad in the machine shed in January of 1984 before he called the contractor.

[00:05:11]He needed 25,000 bushels of storage. A bin of that capacity, steel, aeration, concrete pad, the complete system was going to cost between 19 and 22,000.

[00:05:27]He had gotten two quotes in December.

[00:05:29]The lower was 19,400.

[00:05:32]He used 20,000 as his planning number.

[00:05:36]Financed at 14% over 7 years, the annual payment on a 20,000 dollar improvement loan was approximately 4,000 100 dollars.

[00:05:47]Over 7 years, total interest paid would be $8,700.

[00:05:53]Total cost of the infrastructure, including financing, $28,700.

[00:05:59]Against that cost, he needed the bin to generate enough margin to cover the annual payment and justify the investment.

[00:06:08]The basis improvement he had been tracking, 30 to 40 cents per bushel from harvest to February, was the source of that margin.

[00:06:17]If he could store 25,000 bushels and sell in February instead of October, the revenue improvement against the harvest basis was between 7,500 and $10,000 per year before the cost of holding.

[00:06:33]The cost of holding was not just the loan payment, it was also the interest on the value of the grain while it sat in the bin.

[00:06:40]The cost of capital tied up in stored wheat at the operating note rate, that was roughly 2 cents per bushel per month, or about 5 cents over the October to February hold period.

[00:06:52]On 25,000 bushels, that was $1,250 in carrying cost in addition to the loan payment. Total annual cost of the storage strategy, 4,100 in loan payment plus 1,250 in grain carry, $5,350.

[00:07:09]Against a basis improvement of 7,500 to $10,000, the strategy generated between 2,100 and $4,650 in net margin per year if the basis moved as the 3-year pattern suggested it would.

[00:07:25]He wrote the number down.

[00:07:27]The strategy was viable if the basis held.

[00:07:31]Then he wrote the problem.

[00:07:33]The basis did not always hold.

[00:07:37]In a year when the basis improvement was less than the carrying cost, the strategy lost money.

[00:07:43]He would be holding grain in a bin he was paying 14% to finance, and the market would not pay him enough to cover what it cost to hold.

[00:07:53]He knew this was possible. He built the bin anyway because the 3-year pattern and the 7-year math said the expected outcome was positive. He was not predicting any single year. He was betting on the pattern holding more often than not over the life of the loan.

[00:08:10]He called the contractor in February.

[00:08:12]The bin went up in August. Year one was 1984.

[00:08:16]Ed loaded 24,800 bushels of wheat into the new bin after harvest and waited for the February basis.

[00:08:25]The basis improvement from harvest to February 1985 was 9 cents per bushel.

[00:08:30]9 cents against a holding cost of 14 cents per bushel over the same period.

[00:08:37]2 cents per month for 5 months of storage plus the allocated annual loan payment expressed per bushel.

[00:08:44]The bin had cost him 5 cents per bushel more than it had earned. On 24,800 bushels, the net result was negative $1,240.

[00:08:55]He had not lost money on the wheat.

[00:08:57]The wheat had sold at a price above harvest. He had lost money on the decision to hold because the cost of holding had exceeded the gain from holding.

[00:09:06]Ed did the arithmetic in February when the settlement sheet came in.

[00:09:10]He sat at the desk in the equipment shed and wrote the number down. Minus 1240.

[00:09:16]He had known this outcome was possible when he built the bin.

[00:09:20]He had written it into his planning.

[00:09:23]A year where the basis improvement was less than the carrying cost was a year the strategy lost money.

[00:09:29]He had expected it to happen in some years and not in others.

[00:09:33]He had not expected the first year to be that year.

[00:09:37]His neighbor at the feed store in Kimball asked in March how the new bin had worked out.

[00:09:42]The neighbor was a man named Pete Voit, who had sold his own bins the previous fall.

[00:09:47]Two older bins, smaller capacity, moved at less than he had hoped to get.

[00:09:52]Pete had needed the cash, and the bins had been the most liquid thing he owned that was not the land or the equipment he needed to operate.

[00:10:02]He had gotten what the liquidation market would pay.

[00:10:05]Ed said, "The basis didn't move enough this year." Pete said, "Paying 14% to lose money, that's something." Ed said, "It's 1 year."

[00:10:16]Pete looked like he was doing math of his own.

[00:10:19]Ed did not know what Pete's math was showing.

[00:10:22]Ed's math showed that year one was the outcome you absorbed when you had built the bin for the 7-year pattern, not the first-year pattern.

[00:10:32]He did not say this because it would not have been a satisfying answer. He paid for his parts order and drove home.

[00:10:39]Year two was 1985.

[00:10:42]Ed loaded 25,100 bushels after harvest and watched the basis. The basis improvement from harvest to February 1986 was 15 cents per bushel.

[00:10:54]Better than year one, still not enough.

[00:10:57]His holding cost was 14 cents per bushel.

[00:11:01]The same calculation, same carrying rate, same loan allocation.

[00:11:06]The basis had improved by 15 cents. His net gain after carrying cost was 1 cent per bushel.

[00:11:13]On 25,000 bushels, the net result was positive $250.

[00:11:18]He had made money. $250.

[00:11:22]He noted it in the records the same way he had noted the year one loss. The bin had generated positive margin in year two for the first time. The margin was thin enough anyone watching from the outside could reasonably say the bin was not paying.

[00:11:37]Carl Odekirk, who had asked about 14% from the yard 2 years earlier, stopped by in March of 1986 for an unrelated reason and asked how the storage was going. Ed said it had made a little in February.

[00:11:50]Carl said, "A little after 2 years." Ed said, "The cost is fixed. The basis varies.

[00:11:58]I'm waiting for a year where it varies the right direction."

[00:12:01]Carl looked like he was not certain the right direction was coming.

[00:12:06]Ed was not certain, either, but the math on the 7-year horizon had not changed.

[00:12:11]Year 1 and year 2 had underperformed the expected average.

[00:12:16]That did not mean the average was wrong.

[00:12:19]It meant he was behind plan.

[00:12:21]Year 3 was 1986.

[00:12:23]Ed loaded 25,400 bushels and watched the basis through October, November, and into the new year.

[00:12:31]The market conditions that winter were different from the first 2 years.

[00:12:35]Export demand had been building through the fall.

[00:12:37]The Soviet grain purchase program had been restarted and buyers in the Pacific were active.

[00:12:42]The elevator's handling manager, a man Ed talked to at the scale house when he delivered, mentioned in November that forward contract commitments for February and March delivery were filling faster than usual.

[00:12:54]When an elevator's forward book fills, it will pay more for grain it can deliver against those contracts.

[00:13:01]The basis narrows because the elevator is competing to attract grain rather than managing a surplus of it.

[00:13:08]Ed had not predicted this would happen in year 3. He had not needed to predict it.

[00:13:14]He had been watching the basis pattern in his records since 1981 and he knew the pattern moved more than 9 cents in most years.

[00:13:21]Years 1 and 2 had been the exception to his 3-year data.

[00:13:25]Year 3 was returning to it.

[00:13:28]The basis in Kimball County ran from minus 49 at harvest to minus 19 by mid-February. 30 cents.

[00:13:36]25,000 400 bushels times 30 cents, $7,620 in gross basis improvement. Against holding cost, 14 cents per bushel, $76 per 100 bushels, $3,556 total.

[00:13:54]Net margin, $4,064.

[00:13:58]The bin had returned $4,000 in a single season. Ed noted it in the records and added the three-year running total. Year one, minus 1240, year two, plus 250, year three, plus 4,064, cumulative over three years, plus $3,074.

[00:14:19]He was still behind the plan he had written on the legal pad in January of 1984.

[00:14:25]The plan had assumed the basis would move an average of 30 cents over the seven-year horizon.

[00:14:32]The first two years had averaged 12 cents.

[00:14:35]Year three had recovered to 30, which was planned, but the shortfall from years one and two had not been recovered.

[00:14:44]He wrote at the bottom of the records page, "Behind plan. Mechanism correct. Timing was the variable.

[00:14:52]Year four was 1987.

[00:14:56]The drought that began building in the spring accelerated through the summer, and the basis pattern in a drought year had its own logic.

[00:15:04]The shortage of new crop grain tightened the forward basis faster than in a normal year, and by November the elevator's cash bid had moved to within 20 cents of the futures.

[00:15:15]Ed sold in November, rather than waiting until February. The basis had moved enough by November that waiting further was not likely to improve the outcome materially. And the grain he had in the bin was working capital he needed for fall operating expenses. Basis improvement, 35 cents harvest to November sale. Net margin after holding cost, $4,260.

[00:15:40]4-year cumulative, plus $7,334.

[00:15:47]Still behind the 7-year plan by a number he had calculated and recalculated.

[00:15:52]The plan had projected a cumulative advantage of $21,000 after 7 years assuming an average 30-cent basis improvement. After 4 years, the actual result was $7,334.

[00:16:08]Well below the pace the plan required.

[00:16:11]Carl Odekirk had not asked about the bins since 1986.

[00:16:15]Ed had not brought it up. The mechanism was right.

[00:16:19]The math he had done in January of 1984 was right.

[00:16:23]The basis moved from harvest to spring in most years by enough to cover the cost of holding.

[00:16:29]It had not moved enough in year one. It had barely covered in year two.

[00:16:33]It had been adequate in years three and four.

[00:16:36]The 7-year plan required it to average 30 cents. The first 4 years had averaged 18.

[00:16:43]He was not going to abandon the strategy. The infrastructure was built.

[00:16:47]The loan was running. And the years of positive carry outnumbered the years of negative carry.

[00:16:53]But he had learned something in 4 years that the legal pad calculation in January of 1984 had not fully captured.

[00:17:03]The legal pad calculation had used an average.

[00:17:07]The average was probably right.

[00:17:10]30 cents of basis improvement on average over the 7-year pattern he had observed and expected to continue.

[00:17:17]The average was a reasonable basis for a 7-year decision. What the average did not tell him was the sequence.

[00:17:24]The calculation had assumed the good years and the bad years would be distributed through the 7-year period.

[00:17:30]They had not been.

[00:17:32]The two worst years had come first, which meant the cumulative shortfall had compounded through the early period when the loan balance was highest and the interest cost was largest.

[00:17:44]If years 1 and 2 had performed at average and years 3 and 4 had been the weak years, the cumulative position would have been better.

[00:17:53]The sequence had cost him money that the average had not predicted.

[00:17:57]He had not known the sequence in advance.

[00:18:00]Nobody knew the sequence in advance.

[00:18:03]The basis moved when market conditions moved, not when the amortization schedule required it to move.

[00:18:09]He understood this now in a way he had not understood it when he wrote the legal pad calculation. The [clears throat] math was right. The average was right. The sequence was not his to choose.

[00:18:22]The timing was his to manage and the timing had not cooperated with the plan, he continued.

[00:18:29]He updated the records each year in the same column he had started in 1984.

[00:18:34]The bin paid the note in full in 1991 in the seventh year, the year the amortization had projected.

[00:18:41]The cumulative margin over the 7 years, after all holding costs and loan payments, was positive.

[00:18:47]Not by the margin he had planned, by the margin the market had been willing to provide.

[00:18:53]Storage isn't a money machine, it's leverage on timing.

[00:18:57]And timing can still break you.