Liquid assets: the role of water when lending to farmland agriculture.

Water security is crucial for the stability and growth of agricultural operations in Australia. Fluctuating water availability significantly impacts agricultural productivity and is expected to become even more critical. As a leading private credit fund manager within the agricultural sector we anticipate that the value and importance of water rights will intensify due to evolving government policies and climate conditions. Our key insights on water as an asset class, market dynamics, and policy impacts:

Australia’s agricultural sector continues to demonstrate robust growth, the outlook for 2024/25 is the third largest value of production on record (ABARES). The five-year average value of total farm production is up 39% compared to the preceding five-year period. This growth trajectory is linked to water availability through crop yields and livestock productivity and stocking rates.
The Australian government’s recent announcement of a $1.5bn allocation for water buybacks under the Murray-Darling Basin Plan aims to recover 450 gigalitres (GL) of water for environmental purposes. While this initiative is crucial for ecological sustainability, it will reduce the volume of water available for agricultural use and consequently, the value of remaining water volume for irrigation. ABARES modelling shows that under a 225 GL buyback scenario, average water allocation prices across the southern MDB are estimated to increase by $45 per megalitre (10%).
Assets backed by permanent water licenses and rights offer a hedge against the volatility of water supply which can be caused by changing weather patterns. This reduces investment risk for lenders, as these assets maintain their operational stability and value, regardless of the climatic conditions. The predictability of water availability through secured rights makes these investments less susceptible to the negative impacts of droughts or reduced rainfall periods associated with El Niño.
Merricks Capital has structured over $750 million of senior credit with water assets included in the underlying loan security pools. While land value will always be >50% of the secured real asset base, we have in-house water valuation and trading expertise to review independent valuations obtained during our new loan due diligence process. Valuation methodology can vary depending on the level of security, allocation variability within the trading zone, tradability and market water use and demand. Our due diligence process also incorporates reviews of local water storage levels, weather outlooks, and comparable sales as fundamental factors.

Long-term climate forecasts predict more frequent and severe droughts, emphasizing the need for water-efficient technologies, precision agriculture, and secure water rights to strengthen agricultural resilience. Our expertise in integrating water entitlements into security pools and structuring loans with strategic safeguards underscores our robust investment approach. We are currently reviewing a loan to acquire multiple NSW properties with significant water entitlements in the Murray-Darling Basin, structured with a forward sales contract with an institutional equity fund specifically for the water assets, to ensure a clear and timely loan repayment.