Meet Jim, soon retired

[As published in September/October BayBuzz magazine.]

“If there is a light at the end of the tunnel, I can’t see it yet.” said apple grower Stu Kilmeister in the HB Today recently. That sentiment perfectly encapsulates the mood that pervades our rural community. Cyclone Gabrielle is yesterday’s news but it’s still the most important news for our region. The economic engine of Hawke’s Bay has suffered significant damage and it will affect every café and nail salon for years to come. While we can’t undo the damage that was done, we can monitor the recovery to ensure that the response from central and local government is working. 

On this front, I have my doubts.

The biggest financial impacts were borne by the capital intensive apple industry, due to the preponderance of orchards in Pakowhai and Twyford, Esk Valley and all the way up the Tutaekuri River to Puketapu.

This industry is worth about $700 million to our region annually. The rockstar apple industry is now in a serious financial pickle and Gabrielle was the latest and most decisive blow. 

Before this we had Covid, in which labour was very scarce due to the limited RSEs allowed to enter NZ, despite the likes of Samoa being ‘covid free’. When they did arrive there was a hefty bill for a two week quarantine in hotels that were more likely to infect them than sanitise them. Our border closures also prevented the usual influx of backpackers. These two groups make up 70% of our harvest labour force. 

With closed borders unemployment plummeted in 2021 to the lowest levels on record. It was difficult to secure workers and they were expensive. Worst of all, growers took on many staff that proved to be ‘unemployable’. 

I’m not being cruel here, but the bottom end of our society is burdened by drug addiction, mental health issues and other factors that are so debilitating that they can’t reliably function in the workplace.

The third factor was the collapse of the European apple market in 2022. Poland is the biggest apple producer in Europe and their key market is usually Russia. A falling out over Ukraine led them to ship west, collapsing an already war-worried market. Many growers here received less than half their costs of production. 

By the time we rolled into 2023 our industry was pretty beaten up and in need of a solid year. Despite the wet production season the crop looked very good until Gabrielle hit. No only was a significant part of the crop destroyed, but what remains was of mixed quality with rots and shrivel being commonplace.

The government response was and remains ponderously slow. The solution presented now relies on loans from Kanoa. Kanoa is the most successful Māori rebrand of a government agency, as the English name is the Regional Economic Development and Investment Unit. 

The Kanoa loans are interest free until the recipient returns to profitability. ‘How does this play out in practice?’ I hear you say, because maths was your favourite subject at school.

Meet Jim

Take Jim, a 64 year-old grower who has been diligent and built up 40 hectares of orchards over his career. It was worth $10 million, with say debt of $3 million. He has $7 million in equity. You can think of him as a fat cat in need of a wealth tax; until you look more closely at his plight:

So Jim’s assets of $10 million has quickly turn into $5 million, through no fault of his own. The painful thing is that there are no extraneous forces that delete debt – he still owes $3 million, and at a 60% debt level and faced with an operational shambles, he’s unbankable.

In the brutal, Darwinian world of capitalism you could reasonably say the bank should sell him up. The grower would lose everything, but someone will buy his orchard cheaply, restore it and prosper. The only problem is that there are many people in this situation, no buyers for storm ravaged orchards and a paucity of operational talent. The economic impacts to our region and the banks are quite unpalatable.

Soft landing?

The government needed to engineer a soft landing.

So, Jim could borrow $2 million from Kanoa and return his orchard to its former glory – but there are a few impediments. Firstly, it’s unlikely that he meets the criterion of having lost ‘30% of uninsurable productive capacity’. In my view government assistance would be better targeted at those that have lost 20% – they have a better chance of recovery.

Secondly, Jim probably needs the $2 million for seasonal funding as his high debt levels will make the bank unwilling to make additional loans. Thirdly an additional $2 million of debt, that will eventually be interest bearing and need to be paid back, makes Jim’s business 100% debt funded. That creates a debt hole that will be very hard to climb out of. Moreover, any minor hiccups will be fatal. The government is absolutely the lender of last resort.

And finally, there is the age issue. At 64, Jim is about the typical age for a farmer across many sectors. His pathway is to try to return the remaining business to profit and then to use surplus funds to replant or retire debt. If he’s careful and prudent in his approach, it will take at least a decade to get back to where he was pre-Gabrielle. Will Jim choose to risk his remaining capital to pursue this path, or is he better to use his last million or so to by a freehold house and retire?

Corporate welfare though handouts are usually offensive and electing to offer discounted loans is a surprisingly commercial approach. It creates the right commercial incentives. If you must pay the money back, you won’t spend it frivolously. 

The challenge is that getting things right philosophically doesn’t mean they’ll deliver the right outcomes for our region. For Jim to take on more debt when he has a debt problem is a frightening and quite possibly, foolish option. I’ve crunched the numbers and the bank is right. The only realistic way to recover from serious financial trouble is to recapitalise the balance sheet. That’s certainly the case if a speedy path to economic recovery is sought. The government’s recovery package aims to ‘help North Island land-based primary producers’ which is a less ambitious goal. 

Kanoa have a pool of $240 million of potential loans for all affected businesses across all the impacted regions. This sum looks short by a factor of 10, but I’ve crunched the numbers and suspect that many will decline the offer. 

The real costs of putting right the farms, orchards and vineyards would be closer to $2 billion than $1 billion, for Hawke’s Bay alone. It is essential that the public here are made aware of the quantum of the ‘Expressions of Interest’ and the completed applications as they emerge. They are the best guide we have as to whether the government response has been effective.

If there is not an appetite for loans that causes the $240 million to be significantly increased, then it suggests our local economy is set to shrink significantly. If that happens, make no mistake – you will feel it.