The Australian | June 15, 2011
James Dunn
THE global financial crisis may have hit tax-effective agribusiness schemes hard, but the prospects of the small group of companies that survived are anything but gloomy.
"We're actually tapping into the new GFC, which is the global food crisis," says Wayne Overall, executive director of agribusiness managed investment scheme operator Almond Investors Limited, which manages more than 1300ha of almond orchards in Victoria.
"The real cost of food is going up significantly in coming decades as populations and incomes rise in the developing world. With the health benefits of almonds increasingly well known, the fundamentals for almonds are strong and can only get better," Overall says. "Investors who want a genuine income that is not correlated with the stockmarket or property can see the attraction of a soft commodity like almonds."
A similar refrain comes from Western Australia-based sandalwood grower TFS, which has more than 3700ha of Indian sandalwood trees in the Kimberley region. "Indian sandalwood is in very high demand in South Asia, but India and Indonesia, which have been the main suppliers, have pretty much plundered their trees to extinction," TFS chief executive Quentin Megson says.
"TFS is the only significant plantation owner of Indian sandalwood anywhere in the world. Australia is a good place to grow Indian sandalwood . . . It's a very valuable, specialised niche commodity. Our very first project, which we planted in 1999, we were looking at a log price for the oil-bearing hardwood of $US45,000 a tonne: that price is now more than $US100,000 a tonne."
To many investors, agribusiness schemes are just tax-deferral tools because they offer full (or significant) tax deductibility of investment in the year it is made. While this still holds, the managed agribusiness industry labours to shift the focus to the investment merits of agribusiness. And while the sector is much smaller than pre-GFC, the GFC-induced shake-out in managed agribusiness makes it easier to stress these to investors.
"I don't think you could say that there is a resurgence in agribusiness MIS because a market that was raising well over $1 billion pre-GFC will struggle to raise $50 million to $60m this year," Overall says.
"It's more correct to say there are still companies operating in this sector who survived the GFC and there is still a way for thinking investors, if they want to continue to invest in agriculture, which arguably has very strong fundamentals, to do so with improved security."
This year, investors can choose between investment in almonds, eucalypts and sandalwood trees.
Many financial planners have "run a mile from these schemes", says Overall, because of the high-profile collapses, but he adds a lot of advisers and accountants "understand them well" and like what they can add to an investment portfolio.
One such adviser is Kerree Bezencon, at Siger Super Services. She says the attraction of the agricultural sector is it gives returns that are not correlated with those of the usual asset classes, such as shares, property and bonds.
"Agribusiness is a great portfolio diversifier and also a potential source of non-correlated annuity-style income," Bezencon says.
"Agribusiness has more risk than a term deposit, yes, but if you satisfy yourself that the market for the commodity you're in has a strong outlook, we would argue that the investments suit super funds very well because they have a very long timeframe."
They also offer tax-effectiveness. Tax can easily be deferred through an agribusiness MIS scheme where the Australian Taxation Office considers the investment as having been made for the purposes of producing assessable income at a future point: where the investment is considered an expense that was being incurred before the income is received, the ATO allows it to be fully tax-deductible in the year it is made.
In this way, for example, you can invest $10,000 in a managed agribusiness investment and generate a tax refund of $4650 (for those on the top marginal tax rate), plus a credit for the GST paid (of $1000). You can invest the tax refund somewhere else before your trees are harvested and pay tax later on the harvest proceeds.
Or, if you have an assessable capital gain of $50,000, you can invest $50,000 in an agribusiness MIS, which gives you an equivalent tax deduction, eliminating your capital gains tax liability.
Before the GFC, most of the managers would lend you the money to invest. But the crisis was almost terminal to the agribusiness MIS industry, as inability to manage their debt levels sent six of the biggest issuers -- Timbercorp, Great Southern Plantations, Forest Enterprises Australia, Willmott Forests, Elders Forestry and Rewards Group -- to the corporate knackery. A sector that raised $1.3bn in 2007 fell into virtual disuse.
Bezencon says the importance of the tax deductibility is overstated. "If you looked at the register of owners of the Timbercorp almonds, olives, citrus and avocados schemes -- I'm on the grower committees for those collapsed schemes -- they're mainly super funds. The MIS schemes have a lot of good uses for a super fund, but a 15 per cent deduction isn't really a big enough attraction," she says.
The MIS issuers are at pains to stress that investors should be making these investments for the investment benefits, but the fact remains the schemes are still able to be used by someone wanting to obtain a tax deduction.
"We would certainly expect clients to understand the business and the investment they are making before entering such an investment, but the fact is that there will always be investors who just want a tax deduction," says Andrew Buchan, director of financial planning at HLB Mann Judd.
"If someone had a capital gain of $150,000 and they wanted a tax deduction for that, the only way you can get that kind of number on a tax deduction is to have a look at MIS. If you went into an equity loan where the interest is tax-deductible, it would need to be a $1m loan. And to be doing that it would need to be a protected loan. The MIS are still an option that the client has to be informed about, but advisers are going to be very choosy about where they put that business. For example, we could probably stick to the stuff backed by Macquarie, where you have the strength of that name behind you."
But Buchan stresses that even in this context, the investor should expect the agribusiness project ultimately to turn into a profitable investment, on which the investor must pay tax. "If the tax that you pay on your profit from the investment doesn't exceed your initial tax deduction, the investment hasn't made money," he says. "If you lose 53.5 per cent of every investment you make, that's not a terribly clever investment strategy."
Overall says two factors are non-negotiable in managed agribusiness: the business case and investor protection.
"There's no doubt investors were put off by the collapses of schemes, but in most cases you'll find the projects didn't fail, it was the parent companies and their failure to manage their debt and capital levels. We believe the next evolution of agricultural projects should incorporate investor ownership of the assets."
In AIL's case, investors own the project land, trees and all orchard infrastructure through ownership of units in an asset trust, from which the grower project leases the orchard assets. This means AIL can't offer complete deductibility of the amount invested: of the $9600 cost of each asset trust unit, $7600 is considered grower cost -- which is tax-deductible -- while $2000 is a capital investment in the asset trust and is not deductible.
As an added protection, AIL has an independent custodian appointed to act on behalf of investors and to ensure investors' assets are protected at all times. "We've had investor ownership of the land and an independent custodian since our first project in 2004, and we think that should be a minimum benchmark for any future agricultural project," Overall says.
Another feature that should be set in stone is investor ability to instruct the project's responsible entity, Bezencon says. "With the Timbercorp projects, the liquidator became the new RE and decided it was in the growers' interests to sell off the investment for what the growers knew was a pittance.
"There has to be the ability for the growers to be able to instruct the RE that 'we want you to keep the project going, so keep on sending the invoices, we want to keep paying the rent'. That should be a choice growers have because they're putting up the money. AIL has changed the constitution to allow growers to do that and we think that should be part of every project," Bezencon says.
Dugald Higgins, agribusiness analyst at Zenith Investment Partners, says project issuers generally have made their projects more robust, at the expense of full tax-deductibility. "We're not rating any projects this year, but we do note that introducing a land ownership component, which Macquarie and AIL have, makes them better-structured projects than we've generally had in the past. That hampers the tax deductibility a little bit, but that's not such a bad thing."
TFS's Megson points to another sign of strength, in the fact offshore institutional investors have bought into the company's plantation management product. "That proves the underlying commodity and the plantation management of that is a stand-alone quality investment. These investors don't get or need a tax deduction, so that highlights the attractiveness of the actual commodity. And because we've been able to sell to those investors, we have not had to rely on MIS funding," he says.
While retail MIS is a "still a good product" for TFS, providing a retail investment base, Megson says it is good not to have to rely on it. "Retail MIS will be less than 20 per cent of our plantation management sales this year. We've stuck to our knitting, built an institutional investor base because the economic case for plantation Indian sandalwood is so compelling, so we were able to weather the MIS storm," he says. Investors coming through TFS's retail MIS project get 100 per cent tax deductibility: they will receive first income at about 15 years.
The trees for the first project, planted in 1999, will be harvested in 2013.
Bezencon says the sector may be a fraction of the size it was in 2007, but the things investors can do with it have not changed. "As an adviser it annoys me that agribusiness MIS is seen by many people as 'just a tax deduction', when it is so much more than that. There are so many strategies that you can use.
"We particularly like the strategy where an individual and their self-managed super fund joint-venture the investment. The individual might make the annual payments for the first five years and receive a tax deduction and maybe later the super fund takes over the contribution and uses the deduction to get imputation credits back. When the profits come they are divided between the parties: some is taxed at your super fund's rate and some at your personal rate. If you're in accumulation phase in those early stages and then go into pension phase, where your SMSF has a nil tax rate, you get the best of both worlds."
Another strategy, she says, is if the investor has a young family: investment in agribusiness reduces an investor's overall income for family tax benefit calculations. Investing pre-tax in agribusiness can lower the family income so that it can get access to Centrelink benefits.
"Or there's swapping bad [non-deductible] debt for good [deductible] debt, or using agribusiness MIS cashflows as a school-fee funding tool. A lot of strategies are possible using MIS. Most of our clients are small business people, they like SMSFs, so that's our emphasis, but that doesn't negate some of the other handy uses of MIS," Bezencon says.
