The world of forward grain contracting boiled down to its most basic elements is relatively simple. A grower and processor agree, for example, that the grower will deliver a certain quantity of grain at some definite time in the future for a price determined today. A major benefit to the grower is that it knows the price it will receive for its grain and can plan its operations accordingly. Conversely, the processor knows both the quantity of grain it will receive and the price that it will pay and can, likewise, plan accordingly. Since forward grain contracts lack complexity, few appreciate the degree to which the law governs — or can otherwise affect — their transaction. This article briefly addresses the various ways in which state regulation of grain contracts, the requirements of the Food Security Act, and the Dodd-Frank Wall Street Reform and Consumer Protection Act can weave their way into the parties’ agreement.
State regulation of forward contracts
Many agricultural state legislatures have established statutory schemes designed principally to protect farmers and agricultural producers. Aside from this general theme, however, consistency of the requirements from state to state is not typical. Generally, most states that regulate grain contracts require that certain grain purchasers become licensed. Usually, state grain dealers licensing statutes require the licensee to maintain a certain level of working capital, or other indications of financial health. Depending on the state, and the financial strength of the licensee, states may also require periodic financial reporting in order to maintain a license, and may require the posting of a surety bond, letter of credit, or other assurance that the licensee can make good on its contracts.
Often, as part of the licensing scheme, purchasers are required to pay into a state-administered grain indemnity fund that will protect unpaid cash sellers of grain in the event the purchaser defaults, files bankruptcy, or is placed in receivership. In some instances, states regulate substantive terms of forward grain contracts, even under the simple example discussed above. Usually, if a state regulates standard forward agreements, it does so by dictating the information that must be found in the agreement. For example, a statute may require that forward contracts contain such standard terms as the date of execution, quantity contracted for, price, and the grade of the grain. Often, state statutes mandate the date by which a producer must be paid following delivery.
Fundamental changes in the grain industry have drawn additional attention to licensing requirements in recent years. Price volatility, trends of increasing farm size and contract exposure, together with the influx of industrial (biofuels) grain purchasers have caused state legislatures to begin to reevaluate the nature and level of protections afforded agricultural producers. These changes have resulted in increases in indemnity funds and assessments required to fund them, as well as increased scrutiny on licensing standards.
As the terms of the forward contract start to deviate from the simple example discussed above — perhaps through delayed pricing or delayed payment terms — the level of regulation tends to increase. Often when an agreement contains such terms buyers are required to include certain notices in the agreement usually explaining that the agreement is not covered by a grain indemnity fund.
In general, contracts between more sophisticated commercial entities, such as between grain elevators or cooperatives and endusers, carry fewer requirements than contracts calling for sales by individual farmer-growers. Again, with the central goal being the protection of unpaid cash sellers (producers) of grain, states recognize that producers are not well-positioned to evaluate the financial stability of the buyer or processor. Regulations are the states’ attempt to level the field for producers faced with standard contract terms, while facilitating the exchange of grain by keeping transactions costs low.