WHat happens if i can’t fill my grain contract!?

This is a question I get asked probably hundreds of times per year. Typically in the spring when growers are nervous about spring weather or in the mid summer when the bins start to look a bit more empty than anticipated. Its a scary problem for most, mainly because it can end up being vary, very costly at times. So, what actually happens if you actually can’t fill your contract?

The simple answer is; it depends. It depends on how much grain you are actually short, what value the grain was contracted at, the current value of replacement grain, the basis change since making the contract, and several other personal factors like; available free cash flow, crop plan, other forward sales, etc. It would be incorrect to say each situation uses the same “escape plan”.

Simply put, if you sold grain and prices rose then you would be on the giving side of the compensation. If you sold grain and the prices fell then you would be on the receiving end of compensation. To what extend depends on how much futures rallied or fell.

Every elevator or grain company uses their own processes and procedures when it comes dealing with short contracts and below are the 3 options we typically use to assist our growers through the process.

  1. Cancel

  2. Roll

  3. Replace

Cancel
Contract cancellation is when the grower who is short the crop writes a cheque to the buyer of the crop for the sum of; the difference in futures, the transactional fees associated with hedging futures, and the difference in basis between the contracted price and the replacement price. The benefit of this option, if the elevator even agrees to allow it is that it is a one-and-done solution. What I mean by this is that the cheque is given and the remainder of the contract disappears and the grower no longer has to think about it. The downside, of course, is that this can often be very expensive and is certainly the most expensive of the 3 options.


Roll
Contract rolling is a better option if the grower does not have the capacity to write a cheque for the cancellation amount discussed above. With rolling, instead of paying this difference in cash the amount owing per ton actually comes off the price in a future crop year. A simplified example would mean that if there is $40/T owing to cancel out the 2020 crop contract and corn for 2021 crop year is a market price of $280/T then the equivalent amount of tons owning would be sold, but at $240/T (a $40/T discount from $280). The upside is of course that no money gets paid out of pocket. The downside is you are forced to take that hit the next crop year, and you make have to make a sale when prices are at unfavorable or unprofitable levels.

Replace
Contract replacement is generally always the least expensive option but is often times not possible. What this option does is allows the grower to actually have a friend or neighbor fill their contract, making up the difference in price to them. Often times the corn will be much more expensive to buy but still cheaper than the cancellation option. Why is this cheaper? Because in both the cancellation and roll options the grower is compensating the elevator for the transaction fees and replacement costs also. In this option the grower does not have to include those costs because the physical grain is being shipped. For example, a contract for corn may be $200/T and replacement cost is $230/T to buy off a friend. That difference, $30/T in this case, is typically going to be less than the amount to cancel or roll. The downside to this is that you have to pay the difference out of pocket to replace the grain, and sourcing grain might be nearly impossible. The upside however is it will generally cost you the least.

In the scenarios described above the same, but opposite, is true if grain prices have fallen after you made the contract with the exception of the cash settlement. Most elevators, including ourselves, will not write you a cheque to cancel your short contract that has equity but they will however allow you to replace the crop or roll at a premium.

Please remember, every elevator has different procedures in place to deal with short contracts. The best advice I would give to mitigate against any potential headaches or legal disputes is to fully understand your options BEFORE making a grain contract. Of the hundreds who ask me this question yearly I would say only a handful ask BEFORE making the contract. Be prepared, sell cautiously and profitably, and ask questions before its too late.

Garret Munro
Grain Merchandiser
Wanna Make It Farm
613-551-5588