Issues to Consider Related to Tobacco Contracts

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This booklet is written and published by Rural Advancement Foundation International-USA (RAFI-USA).

It is intended especially for tobacco farmers in the United States. This booklet is for educational purposes only. To learn the details about any certain point, read the current statutes, regulations, and policy notices, which can change frequently. These materials cannot substitute for an experienced lawyer who is up to date on the latest changes in federal, state, and local laws and regulations.

Text © 2006 Rural Advancement Foundation International—USA Anyone has permission to use this material. We appreciate your crediting RAFI-USA if you reprint this document.

Vintage Photographs on page 5, 7, and 21 courtesy of: East Carolina University Joyner Digital Library Tobacco History Exhibit Contributions from Laura Deaton Klauke, Becky Ceartas, and Jess Anna Speier, Esq. Edited by John B. Justice Layout by Regina Dean Bridgman

274 Pittsboro Elementary School Road P.O. Box 640 Pittsboro, NC 27312 Tel: 919-542-1396 Fax: 919-542-0069

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Table of Contents Executive Summary……………………………………………………………………………………………..4 I.

Introduction................................................................................................................................…..5

II. Contract Farming……………………………………………………………………………………………6 A. Production Contracts and Marketing Contracts Defined………………………………….….…6 III. Contract Tobacco Farming – Farmer Concerns............................................................................. .7 A. Process of Awarding Contracts...............................................................................................7 B. Disposable Farmers ...............................................................................................................8 C. Production Mobility and Concentration ..................................................................................8 D. Grading Issues........................................................................................................................8 E. Management and Production Practices..................................................................................9 IV. Contract Terms.................................................................................................................................10 A. Compensation .....................................................................................................................11 B. Grading .................................................................................................................................12 C. Management, Production Practices, and Equipment Upgrades...........................................13 D. Delivery Requirements .........................................................................................................14 E. Environmental and Statutory Requirements .......................................................................14 F. Duration of Contract .............................................................................................................15 G. Incorporation by Reference and Entirety/Integration Clauses ..............................................16 H. Independent Contractor v. Agent Status...............................................................................17 I. Risk of Loss ..........................................................................................................................17 J. Force Majeure Clauses and Excuse of Performance…………………………………… ........18 K. Dispute Resolution................................................................................................................18 L. Right of Access .....................................................................................................................19 M. Damages/Remedies .............................................................................................................19 V. Relevant Governing Laws ...............................................................................................................20 A. Uniform Commercial Code (UCC) ........................................................................................20 B. Producer Protection Act and Similar State Protections ........................................................20 C. Agricultural Fair Practices Act (AFPA)..................................................................................21 VI. Conclusion ......................................................................................................................................21 QUICK REFERENCES Resources and Where to Get More Information ......................................................................................22 Glossary ...................................................................................................................................................24 Farmer Checklist ......................................................................................................................................26

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Executive Summary

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uring 2005, RAFI interviewed a series of tobacco farmers and reviewed a sampling of tobacco contracts in use.

This guide summarizes and discusses issues identified as of the highest concern. Information in this booklet will help farmers evaluate any contract offered. Some issues are of immediate concern. Others are highlighted as needing to be tracked over time as contracts continue to evolve. Here is a summary of key issues identified.

Length and Permanence of Contract Most tobacco contracts cover only a single growing season, and the content and terms of the contract can be changed from one season to the next. At some point, to qualify to receive or keep a contract will require the farmer to make a capital investment in buildings or equipment. At that point, it is important to ask: • • •

How does the duration of the contract compare to the duration of the debt associated with that capital investment?

How does the duration of the contract compare to the anticipated useful life of those buildings or equipment?

Can those capital assets be easily put to use in other income generating enterprises?

When evaluating the duration of the contract, carefully review any language related to contract cancellation. Most of the cancellation clauses require written notice to the farmer and a 15 to 30 day notification period. Some contracts are more detailed than others concerning the conditions that would lead to an earlier termination.

The process for awarding contracts is not transparent.

Company officials and local warehousemen have a significant amount of control over who is offered a contract and for how many pounds. While an individual farmer’s production history plays a role in that decision, there are other factors too. With unclear criteria and lack of public disclosure, verifying fairness for a farmer or group of farmers is difficult.

Photograph by Rob Amberg

Payment and Objective Grading Systems The grower’s real income depends on the grade the tobacco receives, not just on the top price listed in the contract.

Although USDA standards guide grading, company employees interpret and apply the standards.

• A relatively small shift in leaf grade can produce a significant decrease (or increase) in final pay. This lessens the reliability of income projections in the contract. Risks are increased when farmer payments are not publicly reported, and actual average prices paid are not published regularly.

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The appeals process of all the contracts reviewed was limited. Most farmers interviewed noted that, in general, they would be too afraid of retaliation to appeal a poor grade.

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In contracts that were longer than one year, the company retained the right to change the methods and calculations used to make grading determinations.

Other Considerations •

Because tobacco farmers are signing marketing contracts, they retain all the risk for loss prior to acceptance of their tobacco by the company contracted to purchase it. If the tobacco crop is lost, the farmer usually bears all the risk of that loss.

•

Many tobacco marketing contracts contain provisions that provide the contracting company with the right to access the farmer’s land and barns to inspect the tobacco and curing practices.

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Issues to Consider Related to Tobacco Contracts I.

Introduction

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his booklet is written and published by Rural Advancement Foundation International-USA (RAFI-USA). It is intended especially for tobacco farmers in the United States. This booklet is for educational purposes only.

These materials cannot substitute for an experienced lawyer who is up to date on the latest changes in federal, state, and local laws and regulations. Farmers wanting to learn more details about any given point are encouraged to seek professional assistance and to read the current statutes, regulations, and policy notices, which can change frequently.

The turn of the century brought many changes for tobacco farmers. On October 22, 2004, the “Tobacco Buyout” legislation was enacted1, putting an end to the quota system in tobacco. Leading up to the buyout was a swift and widespread transition from an open marketing system organized around numerous local auction houses to a contract-based market. Farmers no longer take the harvested and cured tobacco to the auction house to be sold. Instead, farmers under contract have an agreement prior to planting to provide a single buyer a specific quantity and quality of tobacco.

The resulting climate of rapid change prompted this booklet. Today’s tobacco growers are being offered contracts that are legal documents that spell out binding obligations and risks. Because tobacco contracts are complex, RAFI-USA produced this guide to shed light on specific contract issues.

In the mid-1990s RAFI-USA committed itself to a major initiative to support North Carolina growers and rural communities. In 1997, we launched our Tobacco Communities Reinvestment Fund to provide farmers cost-share and technical support to try innovative ideas for new farm enterprises. Through that program we have supported the creation of 68 producer and community enterprises. RAFI-USA staff has also conducted over one hundred face-to-face interviews with tobacco farmers as part of a study by Wake Forest University to track the impact of the buyout. In those interviews farmers were asked how they were adapting to the changes in tobacco markets. One of the issues highlighted by farmers was uncertainty about contracting.

The aim of this publication is to give tobacco farmers information they can use in deciding whether to sign contracts for the next growing season. We highlight issues identified by farmers. In addition, we used our twenty year history of working with contract farmers of other commodities and across the United States to identify issues that are likely to arise as the contracting system in tobacco evolves and matures.

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Fair and Equitable Tobacco Reform Act of 2004, within the American Jobs Creation Act of 2004 Pub. L. 108-357, Sec. 601-643, Oct. 22, 2004, 118 Stat. 1521. This booklet will not address any of the specifics of the tobacco buyout. For more information on the buyout visit the Farm Service Agency at www.fsa.usda.gov/tobacco/ and the North Carolina State University’s tobacco buyout website at www.cals.ncsu.edu:8050/advancement/tobaccobuyout/index.htm.

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armers are at an information disadvantage when it comes to tobacco contracts. Most of the contracts presented to tobacco farmers are pre-printed, standard forms from the company. Naturally, companies write contracts with the main goal of serving company interests, not farmers’. There is little or no negotiation. Typically, the farmer must sign the contract as written, or else lose the chance to grow tobacco during the upcoming season.2 This booklet is intended to correct the imbalance of information so that farmers can make informed decisions about tobacco production contracts. Section II, below, is a general discussion of contract farming and a discussion of the reasons for its rise and spread. Section III discusses key contract issues identified by tobacco farmers RAFIUSA interviewed in depth in 2005. This section looks at specific terms of tobacco contracts and highlights concerns of importance to tobacco growers considering signing a contract. Section IV discusses in some depth the terms of tobacco marketing contracts.3 The guide concludes with additional help: a glossary of terms used, a list of places farmers can get additional information, and a contract checklist for farmers.

Section V covers several laws governing contracts.

II. Contract Farming American agriculture is following a path to increased industrialization. The number of farms using contracts and the percent of value of production under contract has increased greatly in the last 34 years. In 1969, only 12% of all U.S. agricultural product was produced with either a marketing and/or production contract. In 1991 that percentage rose to 29% and in 2003 it was at 40%.4 Both the contracting companies and farmers have distinct motivations for entering into contract production.

Companies get several benefits from direct contracting: • The contract ensures them enough product.

• It also guarantees them uniform product.

• And, depending partly on the contract’s price schedule, the company can more accurately predict its expenses.

Farmers have many reasons to enter into contracts: • A chief reason is that a contract gives farmer access to markets at a time when farmers have precious few alternatives.

• Farmers also see contracts as providing them better prices and allowing them to better predict their income.

• Finally, some farmers see contracts as a means to obtain access to capital and new technology.

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Production Contracts and Marketing Contracts Defined

All contracts, including farm contracts, are legal documents, making it necessary to know how the law defines a contract.

Generally speaking, a contract is a promise or set of promises, oral or written, creating a legally enforceable agreement between two or more parties. The law binds the parties to do what they said they would do in the contract. And the law has ways and means to correct any failures to perform contractual actions agreed to.

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Legally, proposed contracts are always subject to negotiation between the parties entering into them. Practically, most farmers do not attempt negotiation on the commonly used standard form contracts offered in agriculture production. If there are changes to the contract, including an understanding definition of terms, it MUST be put into writing and agreed upon by both parties.

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The contracts reviewed for this booklet were obtained from a variety of sources. Some of the contracts reviewed are being used for the 2005 tobacco growing season, others were from previous years. The specific tobacco contracts reviewed were offered by Phillip Morris USA, Brown & Williamson Tobacco, DIMON International, Universal Leaf North America, and Flue-cured Tobacco Cooperative Stabilization Corp.

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Ahearn, Mary Clare, Penni Korb, and David Banker. “Industrialization and Contracting in U.S. Agriculture.” J. of Agric. And Applied Econ., vol. 37 (2), pp. 347-364, Aug. 2005

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gricultural contracts are usually for production or marketing. The distinction is important. Production contracts are most used mostly in poultry and hog production. Typically, the company owns the commodity, owns some of the inputs, and has the contractual right to make decisions on production practices. Marketing contracts are most often found in grains and cotton, with the company and the producer sharing price risks. The farmer retains ownership and controls production decisions. The contract spells out quantity, quality, price, and delivery date for the next crop. Thus a marketing contract typically gives a farmer a greater degree of independence.

Current tobacco contracts are usually marketing contracts. However, attention needs to be paid to changing conditions: Quite possibly, tobacco contracts may change over time and begin to resemble production contracts with less independence for farmers.

III. Contract Tobacco Farming – Farmer Concerns In 2005, representatives of RAFI-USA conducted a series of interviews with farmers to discuss tobacco contracting.5 Most of the farmers interviewed were very experienced and had been farming tobacco for many years under the government-supported quota program. Most of the farmers have tobacco production as one aspect of their farming operation and the amount of tobacco produced each year remains fairly constant. Some farmers indicated that their tobacco production has been under contract for several years and the buyout would not change much for their farming business. Others said their operations had changed dramatically in the last year due to the buyout and reliance on a contract. Most farmers were generally satisfied with their contracts but had specific concerns about parts of the contracts; these are discussed below.

In general, farmers feel their farming businesses are vulnerable because of a number of factors including: • • • • •

the tight corporate control of market access; the limited or complete lack of transparency into transactions and purchases; the virtually immobile capital investments farmers have made or will make in their farming business; the increased production mobility for the corporate buyers; and few viable income replacement alternatives.

Farmers feel personally vulnerable because of the short term duration of the contracts offered and the risks of non-renewal or retaliation.

A.

Process for Awarding Contracts

Currently most tobacco companies are giving local warehousemen authority to award contracts. In many cases, the local warehouseman can decide who gets contracts and how much they can grow. This system meets the company’s needs, but raises questions for farmers. There aren’t enough contracts to go around, so how do warehousemen decide which farmer will get one? Farmers don’t know, because the process is not transparent. One farmer doesn’t know how he or she measures up compared to another farmer’s performance.

Contracts are awarded for a single season, and even if a farmer fulfills the terms of that contract, there is no guarantee that a future one will be offered. Therefore, farmers fear the decisions are arbitrary. They worry that when all is said and done, perhaps good farming will not be enough to get and hold onto a contract.

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Every farmer interviewed would do so only because the interviews were confidential and no individual farmer is highlighted or quoted in this booklet.

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B. Disposable Farmers RAFI-USA’s interviews with tobacco farmers revealed that many of them believe they are “disposable.” They believe farmers outnumber the available contracts. These farmers believe there is a risk that factors outside the farmer’s control may bar them from contracts for the next year.

Farmers know the tobacco industry is changing and will continue doing so, and they realize changing industry needs will likely lead to changes in contracts. And if the tobacco company decides a contract grower is no longer needed, the grower can be left without income and saddled with long-term debt that will not change or go away.

This issue of long-term debt and short-term contracts is a big one, and we will discuss it below in Section IV, Part F. Our interviews identified a related risk. Some growers foresaw an ugly possibility: farmers competing against neighboring farmers for scarce tobacco contracts. Farmers could see themselves losing their contract - for any number of company reasons - to another local farmer. Under pressure to gain scarce contracts - to raise a crop to support families previously neighborly farmers might resort to ugly competition with one another.

C. Production Mobility and Concentration With the termination of the federal tobacco program, the geographical restrictions on quota and tobacco production are gone and contracting companies are moving into new areas for production.6 Tobacco farmers know their knowledge, expertise, and experience in tobacco farming is an asset, but they also know that this expertise alone it is not enough security when considering a tobacco contract and the future of a farming business. In fact, expertise and innovation aren’t necessarily assets in the company’s eyes. They may be more interested in a farmer willing to adopt company protocol without variance. As discussed above, contracting tobacco companies are following the trend in other commodities toward vertical integration and corporate control of supply.

Contract farm production in other commodities has led to farm consolidation - fewer farms with larger operations where the company can more directly control production. It is possible that tobacco production will follow the path of other commodities and production will be consolidated with a few very large producers in the most economical regions – those with high yield and quality and low cost.

D.

Grading Issues

Tobacco farmers are concerned about grading because it directly affects their income and farm profits. The grading issues raised by farmers focused on the arbitrary and discretionary nature of grading. Generally, the contract has a price per grade specified and the grade assigned to your tobacco is determined by a company grader.

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Philip Morris is moving burley tobacco production into Pennsylvania and Maryland through a new relationship with Trileaf Services LLC, stating in a press release “[t]his will open up opportunities for us to work with tobacco growers in what could become a new part of the burley belt.” Philip Morris USA, “Philip Morris USA to Buy Burley Tobacco in Pennsylvania and Maryland,” June 28, 2005, available at http://www.philipmorrisusa.com/en/pressroom.

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rading can eliminate income projected by contract prices. Although one company’s contract may stipulate a higher price, leaf can be downgraded by company graders, thus cutting the grower’s total income and profit margin. Most contracts have a procedure to resolve grading disputes. However, many farmers believe any grower who raises a grievance is likely not to get their contract renewed. Withdrawing the tobacco is no solution--the grower has no other potential buyers. The upshot is that most farmers feel compelled to accept the company employee’s grading decisions. Issues of grading are discussed in more detail in Section IV, Part B below.

E.

Management and Production Practices

The tobacco farmers we interviewed see issues looming on the horizon. Although most tobacco farmers interviewed acknowledge their current contracts do not contain many specific production practices dictated by the contracting company, there is some concern that contracts in the future will be very different. Farmers are concerned that the marketing contracts of today will begin to look more like production contracts with restrictions and mandates as to management and production practices. They point to tobacco-barn conversions and new baling techniques as examples.

They fear future contracts may oblige farmers to adopt other costly new practices, whether or not they will improve their farming results and their bottom-line income. Will farmers have the right to choose which innovations to adopt, or will they be forced to adopt them because they are mandated in a contract that the company wrote and which the farmer cannot afford to lose?7

Farmers also face the challenge of making required long-term investments based on a short-term contract. Obviously, the typical contract is for a shorter period than loans farmers take out for necessary capital investment in tobacco growing. This discrepancy creates a serious risk for farmers who must decide on tobacco-specific equipment for harvesting or curing.

Additionally, some contracting companies are trying to encourage their flue-cured tobacco producers to produce burley tobacco. While some farmers may be interested in entering into burley tobacco production, others may feel pressure to do so simply to maintain their flue-cured contract. Farmers should evaluate their contracts to determine if any additional security is provided in their new burley contract. For example, is the duration of the burley production contract long enough to pay for any capital investment related to transitioning?8

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Many poultry farmers have faced that dilemma. Seventy percent of the poultry farmers surveyed made significant upgrades in the last five years, fifty percent of which did it because they believed they would be cut off from the contracting company if they did not make the improvements. (Assessing the Impact of Integrator Practices on Contract Poultry Growers (December 2001), pp 4 – 123, http://www.flaginc.org/topics/pubs/poultry/poultrypt6.pdf) 8

If you are considering a contract for production of burley tobacco, see a side-by-side comparison of specific contract terms in “Summary of Form 2005 Burley Tobacco Marketing Contracts,” University of Kentucky, Issacs, Jan 2005, available at www.uky.edu/Agriculture/TobaccoEcon/publications/buyout_contract_comp.pdf.

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IV. Contract Terms Note: The above section discussed issues and farmer concerns related to tobacco marketing contracts. But it’s up to you to make your own decision about the particular contract you are offered. This section will help you do that.

Warning: It’s going to be details, details, details, but there’s no way around it. A contract is a legal document and contract terms are nothing but details. This section will discuss some key terms you can use in evaluating a contract and deciding whether to sign. This section and this guide can be a basic tool for your decision. It is likely you will need other resources as you analyze the contract and come up with questions. You can get help from people like attorneys, Extension Service agents, grower associations, farmer advocates, and others.

When you carefully read the contract, there may be terms you do not understand or are ambiguous.9 If so, you should consider consulting with either an expert like an attorney, or someone who has a great deal of knowledge or experience with similar contracts such as an Extension Service agent, an experienced member of your community, a farm advocate, or a growers association.

One of the first things to check for is something called a “confidentiality clause.” This contract provision forbids the grower from discussing the contract with anyone else. However, Georgia10 and some other states11 have laws protecting growers’ right to seek contract advice from attorneys and others.12 You need to know in advance if you are protected to get the help of others to understand your rights and obligations if you sign the contract. [The resource section at the end of this guide gives a detailed list of other statutory protections for contract growers.]

Some contracts allow growers a certain time to change their mind and get out of a contract without penalty. These protections are called cooling-off periods. Georgia and Minnesota have laws making them mandatory in contracts.

Sometimes the particular contract will have its own requirement for a cooling-off period.13 Such a period can be very helpful, allowing a grower to study the contract, get a lawyer or extension agent’s advice, and then make the wisest decision.

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Some states have readability or “Plain English” requirements and risk disclosure requirements for agricultural contracts. These are producer protections in the sense that they require a contracting company, who is usually drafting the contract, to use clear and understandable terms in their contracts. These provisions may also prevent some of the “fine print” problems with standard form contracts. Georgia, O.C.G.A. § 10-4-107.1(b)(2) requires tobacco contracts to be written in plain English; Minnesota, Minn. Stat. §17.943; Illinois, § 505 ILCS 17/20, 17/25, requires readability of production contracts and an index of several items including provisions subject to change, production guidelines, and compensation information.

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“[n]o tobacco contract for the purchase of tobacco grown in this state shall be valid or binding unless…[t]he tobacco grower is given the opportunity to have the proposed tobacco contract reviewed outside the business premises of the tobacco company or its agents by an attorney or adviser of the tobacco grower’s choosing prior to execution.” O.C.G.A. §10-4-107.1 (b)(1)(2005)

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See also, Minn. Stat. § 17.941, allowing a producer to cancel an agricultural contract by providing a written cancellation to the contracting company within three business days after the grower receives a copy of the signed contract.

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Most statutory protections are applicable to specific contracts or producers. Their applicability to a tobacco marketing contract cannot be assumed by their mention in this booklet. They do, however, provide insight to the protections some states have extended to certain producers and commodities.

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The 2005 growing season flue-cured tobacco marketing agreement being offered by Phillip Morris quotes the protection for Georgia growers required by O.C.G.A. § 10-4-107.1(c). It reads as follows: Tobacco Grown in Georgia. (This paragraph is applicable only for Tobacco grown in Georgia.) Georgia law requires the inclusion in this Agreement of the following provision: (a) The tobacco grower shall have a right to cancel a tobacco contract until 12:00 midnight of the third business day after the day on which the tobacco grower signs the contract. (b) Notice of cancellation under this subsection shall be given to the tobacco company at the place of business set forth in the tobacco contract by certified mail, return receipt requested, which shall be posted no later than 12:00 midnight on the third business day following execution of the tobacco contract. (c) In the event of cancellation pursuant to this subsection, the tobacco grower shall refund to the tobacco company within ten days after the cancellation any consideration received by the tobacco grower from the tobacco company under the tobacco contract. (d) Notice of cancellation given by the tobacco grower need not take any particular form and, however expressed, is effective if it indicates the intention of the tobacco grower not to be bound by the tobacco contract. (* NOTE to footnote on page 11)

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s you review the proposed contract, pay good attention to what it says about obligations, both yours and the company’s. Some obligations may be stated plain and simple - for example, you are obligated to “grow tobacco.”

Other obligations may be less obvious. For example, the contract may define things such as delivery, leaf quality, production practices, and permits. These are part of the obligations you will assume if you sign the contract. Keep an eye out for “seller’s warranties” - these are obligations, too, and need to be carefully weighed.

What about the company’s obligation to the farmer? These are equally important, and many contracts list them at the very beginning. One obligation will be payment to you for delivering the tobacco as per contract terms; some contracts obligate the company to deliver inputs to the grower. Companies intend to limit their obligations to those stated in writing in the contract.

A. Compensation Pay close attention to what the contract says about how you will be compensated. This is a vital and tricky point to understand. First of all, terms of payment often are not given in the contract itself. Instead, contracts often refer to separate price schedules that tell you how much and when you will be paid. Before signing a contract, you should see and understand compensation terms as given in an attachment.

Be aware that the terms of an attached price schedule may change, even if the contract itself remains the same. This means the company may change prices at the end of one growing season and before a new contract is offered.

Sample language from a 2005 Philip Morris three-year flue-cured tobacco purchase agreement:

In translation:

Price: (a) The gross prices, by stalk position and grade, for Tobacco sold and purchased hereunder are set forth in Schedule A (the “Prices”). (b) The Prices are subject to change in Buyer’s sole discretion each Marketing Year. Not later than December 1 of each year during the Term hereof, Buyer shall advise Seller in writing of any changes in Schedule A that will be applicable for the upcoming Marketing Year. If Seller is dissatisfied with the Prices for the coming Marketing Year, Seller may terminate this Agreement by providing written notice to Buyer not later than December 31. Seller’s delivery of Tobacco hereunder shall evidence Seller’s acceptance of the Prices then in effect.

(a) Schedule A [ not the contract itself] tells what prices the company is offering the grower. (b) The company has the right to change the price each year of the three-year agreement.

The company must give the grower written notice of upcoming price changes by December 1; growers who don’t like the changes can terminate the contract by giving the company written notice by December 31; if the grower delivers the tobacco to the company, that means the grower accepts the price in effect when the tobacco is delivered. (c) Prices cited in the attachment are the only compensation the grower is legally entitled to from the company.

(c) The Prices constitute full and complete compensation for the Tobacco to be purchased and sold hereunder.

Equally important are explicit terms for when and how the grower will be paid.

•

For example, “Buyer shall pay Seller by check. Seller’s check shall be available to Seller at the Receiving Station by the end of the business day on which a delivery of Tobacco is accepted for purchase (or as soon thereafter as is practicable). If Seller does not pick up the check at the Receiving Station, it will be mailed to Seller.” If terms state payment is not to be made promptly after delivery, look for terms indicating whether the contracting company will pay interest to the farmer for the delay.

Continued from footnote on page 10: Note: A 2001 Phillip Morris marketing agreement Disclosure Statement contained a provision allowing all farmers three days to cancel the agreement, not just farmers in Georgia protected by the aforementioned statute. This is an example of how state legislation can protect basic farmer rights as contracts evolve over time.

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Growers also want to avoid the pitfall of becoming creditors to the company.

•

This can happen if the contract doesn’t require prompt payment. Because the company assumes title to the tobacco upon delivery, the grower can be left with only the company’s promise to pay. That is, the grower becomes a creditor holding an unsecured debt. So a good contract will contain clear and fair language about when the grower receives compensation.

You will want to take note of special factors affecting compensation.

•

For example, suppose fuel costs rise after you’ve signed a contract and before you’ve delivered the tobacco. Can you negotiate with the company in mid-season? It’s a good idea to answer this question before signing a contract.

Most contracts we reviewed for this guide did not have a provision allowing mid-season changes, but you should ask the company about it. If changes are negotiated, they must be put into writing and signed by the grower and the company.

Be aware that payment may be affected by factors beyond the grower’s control.

•

For example, many contracts give the company the sole right to grade tobacco. If so, the company’s grading may not give the grower the top dollar expected. Review the contract for this matter--determine whether the contract provides premiums or discounts for quality of the tobacco delivered.

It is very important to review the contract for any additional costs that could be added on. Past experience in contract production raises the concern that farmers will be required to adopt new management or production practices. These changes can increase costs and reduce profit.

In such cases, farmers can be forced by past debt and limited market options into signing a new contract, even if prices don’t increase enough to offset the additional costs.

B. Grading What the contract says about grading is as important as the information on the price schedule. The price given on the schedule is the highest potential price, and it can be lowered if your tobacco is downgraded when you deliver it.

Contracts vary about grading, but in contracts reviewed for this publication, the company controls all grading decisions.

This means it will help you to get information about company grading practices as well as studying and understanding the contract and the price schedule.

To get an idea of how contracts spell out company control of grading, look at this example from a contract: Upon delivery to the marketing center and prior to marketing by the Association, all flue-cured tobacco shall be inspected and graded in accordance with rules and regulations adopted by the Association. All purchases and/or marketing of flue-cured tobacco handled by the Association from Grower shall be based upon such rules and regulation, and Grower agrees to abide by such rules and regulations.

Association may make rules and regulations and provide inspectors to standardize the quality, method, and manner of harvesting, handling, packing, and shipping of such tobacco or for any particular purpose. Grower shall observe and comply with all such rules and regulations as set forth in Schedule B, as amended from time to time.

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s we said, grading language varies from contract to contract. You may be considering very specific terms like the above. Or you may be looking at a contract that’s simple--perhaps a brief statement that a company grader will grade your tobacco the same day it is received.

See what the contract says about resolving grading disputes. These occur, and most contracts define a process for settling disagreements.

Here’s the language from a 2005 Philip Morris contract: “Seller shall be entitled to have a representative present at the Receiving Station at the time Tobacco is weighed and graded. If the weight or grade assigned by Buyer to any delivery of Tobacco is disputed by Seller, Buyer’s supervisor on duty at the Receiving Station shall resolve the dispute, and the decision of Buyer’s supervisor shall be final and conclusive. Seller, or his/her representative, must dispute the weight or grade assigned to any delivery of Tobacco prior to the time that Buyer accepts and authorizes payment for such Tobacco or Seller shall be deemed to have waived any right of protest. If a disputed weight or grade is not resolved to Seller’s satisfaction, Seller will be offered the opportunity to terminate his/her participation in this Agreement with respect to all Tobacco that Seller has not heretofore delivered and sold hereunder.”

As you see, this is a take it or leave it situation. The farmer can protest grading decisions to a company employee, but the company’s decision is final. And terminating the contract, which the contract allows, would leave the farmer with a load of tobacco and nowhere to sell it. Finally, farmers we interviewed tend to shy away from protesting grading decisions for fear that their contract may not be renewed by the company.

C. Management, Production Practices, and Equipment Upgrades Today’s tobacco contracts are marketing contracts. Generally speaking, they tend to leave management and production decisions to the grower. However, all agricultural contracts have potential to remove decision-making from the farmer.

As you review a proposed contract, give careful attention to terms governing on-farm decisions.

Of special importance are contract terms that address management decisions, production practices, and equipment upgrades. Under many contracts, a grower can be judged in breach of contract for failure to comply with contract management terms; this means the company can reject the tobacco and terminate the contract.

New equipment and upgrades can be issues14. The same is true of company-directed changes in production practices.15 Review the proposed contract to see if it allows the company to order costly mid-contract changes. If additional costs can be added, does the contract allow the grower and company to revise the compensation upward to meet the added expense?

You need to decide if the duration of the contract is long enough for you to recover any additional investment you might have to make.

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This has been extremely common in the context of poultry production. Company contractors are taking the discretion on equipment decisions out the hands of the farmer and are demanding it in their contracts. If new equipment is required, in most instances the compensation under the contract is not increased to cover the added costs. Facility and equipment upgrades at the request of contracting companies have been a significant problem that poultry production farmers have had to face. It is uncommon for poultry production contracts to have a specific reference to such an expectation, but the contracts will make reference to the growers’ obligation to provide proper housing as defined by the company.

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You will want to be aware of the terms requiring production practices or equipment upgrades in order to include them in your potential expenses. For example, the following is from a 2005 tobacco marketing contract. “Tobacco delivered hereunder shall be produced, harvested, cured and delivered in accordance with the principles of good agricultural practices.” Since they may not be as obvious or easy to calculate as potential expenses for fertilizers, labor, and fuel, they can sometimes be overlooked in the calculations.

Experienced tobacco farmers will have had a great deal of knowledge calculating such expenses. If you have any questions, please seek assistance from an Extension Service agent or experienced farmer or advocate.

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A

nother thing to decide is whether the new equipment is standard for the tobacco industry. If so, it won’t be a problem if and when you decide to contract with another company. But if the new equipment is specific to one company, it may prevent you from contracting with another.

Not all 2005 tobacco contracts contain terms on new equipment, equipment upgrades, or management/production practices. But it is very important that you see if the contract you’re considering does. As you know, the tobacco industry is changing all the time. Company needs change and, because contracts are an expression of company needs (as well as growers’), tomorrow’s contracts will differ from today’s.

D. Delivery requirements Most tobacco contracts spell out delivery terms in very specific language. Companies are specific about what growers can deliver and how they are to deliver it. These specifications concern tobacco quality as well as actual delivery details.

Before signing a contract, a farmer must make sure he or she can meet all delivery terms.

Most contracts require the tobacco to be delivered in a specific form. A lot of buyers want bales--cheaper and easier for them to transport--but baling the leaf might cost the farmer money for labor, equipment and transportation.

You’ll want to check the contract to see if the farmer has any say-so about the delivery schedule, or if it’s rigid and unchangeable. Also, analyze the contract to see if the given delivery terms could have an impact on quality of the tobacco.

Here are two sample contract provisions setting out delivery requirements: • Seller shall deliver Tobacco in bales only. Buyer will not accept any Tobacco delivered in sheets.

• Seller shall coordinate each delivery of Tobacco with the Receiving Station Operator. Seller shall deliver Tobacco to the Receiving Station in accordance with the schedule established by the Receiving Station Operator, which schedule may be adjusted from time to time by the Receiving Station Operator.

E. Environmental and Statutory Requirements As you know, farm operators must comply with all sorts of rules and regulations, many of which require a permit from local, state or federal bodies.

You will see as you review proposed tobacco contracts that most of them give the grower total responsibility for complying with everything from environmental regulations to rules governing labor practices.

The contracts reviewed for this document hold growers accountable for knowing and following all laws and getting all required permits; currently, tobacco companies are free of any contractual liability in this area.

Here is some sample language from 2005 contracts: • Tobacco delivered hereunder shall be produced, harvested, cured and delivered in accordance with (i) the principles of good agricultural practice and (ii) all applicable federal, state and local regulatory requirements; • Only those insecticides, fungicides, herbicides and growth regulators approved by the U.S. Environmental Protection Agency and labeled for use on tobacco will be used in producing tobacco.

Here is some even broader and more vague contract language: • In conjunction with the production and delivery of tobacco under this Agreement, it is solely Grower’s responsibility to comply with the Fair Labor Standards Act…as well as all other applicable laws, including but not limited to labor, health, safety, environmental, and agricultural laws and regulations, of the state and federal governments and all local governmental entities.

Contact your local Cooperative Extension office for help. Getting permits and complying with regulations are very important, and it’s a good idea to add Extension’s knowledge to your own.

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F.

Duration of Contract

All tobacco contracts state the length of time the contract covers. One-year contracts (ie, one growing season) are the norm; some contracts cover three years.

You need to find out if a proposed contract allows the company to get out of the contract before the end of the stated period. Many contracts do specifically give the company the ability to terminate the contract virtually for any reason and at any time. Consider these provisions from a three-year Philip Morris contract for flue-cured tobacco: •

Term of Agreement. The Agreement will be in effect for three marketing years (each July 1 through June 30), unless Philip Morris cancels or terminates the Agreement before it expires on its own.

•

Quantity of Tobacco to be Purchased. …If during any marketing year you fail to deliver at least 80% of the maximum quantity that you are permitted to sell to Philip Morris USA, Philip Morris USA can terminate the Agreement effective at the end of the then-current marketing year.

Review contracts for cancellation clauses. These give the company explicit right to terminate the contract before the end date. Some cancellation clauses require the company to give notice to the grower. While notice may be required, the company can give virtually any reason for canceling. In fact, the reasons may seem arbitrary. Consider these examples: •

Cancellation. Buyer may cancel this Agreement, effective upon delivery of notice of cancellation to Seller upon any breach by Seller of any of the terms or conditions set forth herein, whether or not such breach is material.

NOTE: The term “three-year” contract is a bit misleading. Most three-year contracts give specific contract terms only for the first growing season. Be aware that almost all three-year contracts allow the company to change terms for pricing, quality and quantity after the first year. For example, consider this from a Philip Morris three-year contract: •

Prices. The Prices are subject to change in Buyer’s sole discretion each Marketing Year.

Here is another example to be learned from: •

Quantity of Tobacco to be Purchased. This is a marketing contract, not a production contract. In other words, in any marketing year, you are under no obligation to grow or deliver any minimum amount of tobacco for sale to Philip Morris USA. Once both you and Philip Morris USA have signed Schedule B, however, you agree that you intend to produce and sell to Philip Morris USA the total quantity of tobacco stated on Schedule B during each marketing year and Philip Morris USA agrees to purchase this amount of tobacco as long as you comply with the terms and conditions stated in the Agreement.

What about the grower?

As a farmer, you may want and need to quit farming for health, financial, family or personal reasons.

Does the contract allow you to? Sometimes.

There are “escape clauses” that allow a farmer to terminate before the contract’s end date.

However, you must be sure that an escape clause is written into the contract.

You and the company are bound by the duration given in the written, signed contract.

Verbal company statements have no binding legal authority and should not be considered as part of the contract (more on this below).

Those are some key points about how the company can terminate a contract.

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G.

Incorporation by Reference and Entirety/Integration Clauses

The tobacco contract itself is complicated... and there’s more: Most tobacco contracts refer to separate documents with terms as binding as those in the basic contract. Contracts commonly make reference to these documents. The technical term is “incorporation by reference.” An example is the price schedule discussed above. Other documents commonly incorporated by reference include: grower profile, acknowledgement and waiver, and normal weigh distributions by stalk position for flue-cured tobacco.

Usually a company will give you a pre-drafted contract and a written list of the other documents that are incorporated into the contract. It is vital for you to get, study and understand all such referenced documents. Here are two examples of contract language about items to be incorporated into the contract agreement: •

Schedules. Schedules A and B attached hereto are part of this Agreement.

•

A disclosure statement that summarizes the key provisions of the Agreement will be provided to you by a Philip Morris USA agent. Neither this cover sheet nor the disclosure statement is a binding contract, however. You cannot rely on this cover sheet or the disclosure statement to determine your rights and obligations….

You very well may come across “entirety clauses” in contracts you review. These are statements that the grower and company intend that their entire agreement is given in the contract and referenced documents. An entirety clause makes the contract the final record of what the parties agreed to. Previous negotiations or understandings mean nothing; nor do negotiations going on at the time the contract is signed. Here is an example from a 2005 contract of this kind of clause, also called “integration” or “merger” clauses: •

Entire Agreement; No Modification. This Agreement, together with all Schedules and rules or regulations promulgated pursuant hereto, constitutes the entire agreement between the parties hereto with regard to the subject matter hereof and supersedes all prior agreements between the parties concerning the same.

An entirety clause will state that any changes to the written, signed contract must be made and signed by both parties to be enforceable. Here is another entirety clause, this one from a DIMON, Inc. Flue Cured Leaf Tobacco Purchase Agreement.

Please note that the clause disallows verbal statements as part of the contract. If a company representative verbally agrees to a point that’s important to you, you must make sure the provision is put into writing.16 •

This Agreement and Attachments 1 through 4 constitute the entire agreement between the parties with respect to the subject matter of the Agreement and supersede all prior agreements and understanding between the parties.

The Attachments will be updated annually during the Term of this Agreement and are incorporated and made a part of this Agreement for all purposes. No addition to or amendment or modification of any provision of this Agreement shall be binding upon either party unless made in writing and signed by each party.

H.

Independent Contractor v. Agent Status

One of the most important parts of a tobacco contract are its terms about “independent contractor.” These are provisions aimed at limiting the company’s legal liability for the grower’s actions.

Contracts written by the company will likely contain a clause like this one: •

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The parties are independent contractors and nothing contained in this Agreement shall be construed to create a partnership or joint venture or any employment of Grower by DIMON. [from the DIMON, Inc. Flue Cured Leaf Tobacco Purchase Agreement]

See the farmer checklist in the Quick References section at the end of this booklet

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L

anguage like that means that the company considers the grower an independent party, not an agent working on behalf of the company. The intent is to keep the company from being sued for something you, the grower, do or don’t do. It’s debatable – at what point a contract farmer loses so much control over actual farm management that he or she becomes an agent of the company.

I.

Risk of Loss

Most often, tobacco growers bear all the risks until the company accepts delivery of the crop. You will most likely find this kind of risk clause in any marketing contract you review: •

Title and Risk of Loss. As between Buyer and Seller, title and all risk of loss of or damage to Tobacco, whether from act of God, casualty or otherwise, shall be and remain with the Seller until Buyer accepts the Tobacco for purchase. After acceptance, Buyer shall have title and risk of loss for all Tobacco except Tobacco as to which Buyer’s acceptance is revoked.

That’s from a Philip Morris agreement and it’s pretty clear.

Other agreements are more complex. The 2005 Flue-Cured Tobacco Exclusive Marketing Agreement offered by the Stabilization Corporation includes, under the heading of Inspection and Grading: Standard Rules and Regulations: •

Any deduction, allowance, or loss that Association may make or suffer on account of inferior quality or standard, non-compliance with or violation of any rules or regulations set forth herein, or condition at delivery, shall be charged against Grower and be deducted from his net returns or payments due or to become due hereunder.

Some contracts reviewed for this document have provisions that state that the farmer is not held liable if he/she is not able to deliver the amount of tobacco specified in the contract. If the contract does not state what happens if the grower under produces the amount of tobacco agreed to, that under production may be considered a breach of contract (more information on breach of contract can be found in section IV, Part L).

NOTE: Risk is a place where production contracts differ from marketing ones. Poultry and livestock growers sometimes have Acts of God clauses to partly offset their losses. Tobacco marketing contracts offer the grower no such protection: If you lose the tobacco crop before delivery and acceptance, you bear 100% of the risk in nearly all cases.

J.

Force Majeure Clauses and Excuse of Performance

Force majeure is also related to risk. This legal term refers to certain major, unexpected happenings that prevent parties from fulfilling contract obligations. The events have to be major. They must be unavoidable by using due care. Most tobacco contracts we reviewed have a force majeure clause. They are important because they can shield a grower from liability in certain cases.

Review all contracts for force majeure clauses covering things like Acts of God, war, riot, and others. Each contract defines what is covered.17 17

The Uniform Commercial Code (UCC) discussed later in this article, incorporates a clause allowing for excused performance because of commercial impracticability, even if it is not written in the contract. UCC § 2-615. To take advantage of that provision, the contract must specify that the tobacco has to come from specific acres, the farmer must deliver whatever they can, and they must provide timely notice to the buyer of the delay or non-delivery. For example, if your tobacco contract specifies that the tobacco you are contracted to produce must come from specified land, i.e. your farm, and there is a natural disaster which destroys all the tobacco on your farm, your performance under the contract may be excused.

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If you do spot such a clause, see if it covers both the grower and company.

As an example, here’s how force majeure was handled in a Brown & Williamson tobacco supply agreement in 2001: If B&W or Tobacco Grower are prevented or materially restricted from performing any of their obligations under this Agreement by an event of force majeure, then the obligations of each party hereto shall be suspended or reduced to the extent made necessary by the event. As used herein, force majeure means any act or cause not reasonably within the control of the party whose ability to perform is impaired and which that party could not have prevented by the exercise of reasonable diligence. This includes, but is not limited to, acts of God, fire, flood, explosions, strikes or labor disputes over which the affected party has no control, sabotage, riots, civil commotion, acts of civil or military authority, wars or material changes in applicable business laws and/or regulations other than those relating to the tobacco quota and allotment system.

NOTE: Unexpected problems are a part of farming. Things do pop up that affect production. When contract growers hit a snag, they must notify the company in writing that they may not be able to fulfill the contract terms. Failure to let the company know can put farmers in danger of greater liability than if timely notification is given.

K.

Dispute Resolution

Most people downplay the possibility of future disagreements when entering into a business contract, but dispute resolution options have become a critical issue in agricultural contracts. Tobacco contracts often spell out a specific process for handling disagreements over grading (see Grading, Section B above). However, tobacco marketing contracts reviewed for this booklet are noticeably void of any terms addressing general dispute resolution.

In commodities with a longer history of contract-based markets - particularly poultry and pork - many company contracts have evolved over time to include binding mandatory arbitration clauses. When a farmer signs a contract with a binding mandatory arbitration clause, he or she is waiving the right to use the American public court system to settle any future dispute with the company. The farmer will likely not have a right to seek justice in a public court of law even if the company engages in unfair behavior.

Such clauses have proven particularly troublesome.

The rules and procedures shaping the arbitration are generally determined by whoever writes the contract.

Arbitration can be structured to be prohibitively expensive for the individual farmer and is lacking the same protective legal procedures of the public court system.

However, some alternative dispute resolution options can be beneficial.18 For example, mediation is a structured process that relies on a neutral third party to help negotiate differences. Mediation is typically very affordable. The decision relies on voluntary implementation. Agreeing to mediate does not eliminate either party’s other legal options.

Dispute resolution options are an issue to follow as tobacco contracts evolve from year to year. For any dispute resolution option that is included in the contract the farmer should seek clarification and understand the associated costs, governing procedures and whether the decision can be appealed to a court of law.

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For additional information on dispute resolution, mediation, and arbitration issues in production contracts see “I’ll See you In Court – or Will I?” Assessing the Impact of Integrator Practices on Contract Poultry Growers (December 2001), pp 4 – 123, http://www.flaginc.org/topics/pubs/poultry/poultrypt6.pdf

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L.

Right of Access

One of the first questions for many growers will be: “Does the contract allow the company to come onto my land?”

The answer is often yes. Many tobacco marketing contracts do give the company the right to visit and inspect the grower’s farm. Identifying and understanding such terms is important in evaluating a proposed tobacco contract. As example, here is an access provision called “Right of Entry and Inspection” in a former DIMON purchase agreement.

Tobacco sold and delivered hereunder shall be cured in barns equipped with, and utilizing properly maintained, heat exchangers that prevent the Tobacco therein from being exposed directly to combustion gases. Barns and Tobacco shall be subject to inspection and testing by Buyer to verify compliance with this warranty.

“DIMON shall have reasonable access to the farm(s) and shall be entitled to monitor and inspect all phases of the Grower’s tobacco cultivation, including but not limited to monitoring of crop progress, the inspection of production or curing practices or facilities and the testing and sampling of tobacco or soil. Grower shall cooperate with DIMON in such inspection, monitoring and testing.”

Please note that the contract lets DIMON visit the farm at any time and with no advance notice. Also, company access is limited only by the word “reasonable.” What’s reasonable for the company may not be so for the grower, and “reasonable access” leaves a lot of room for fair-minded debate between parties.

Other contracts place conditions, such as advance notice, on the company’s access to the grower’s farm.

Here’s an example: Right to Inspection. The Seller agrees that the Buyer shall have the right, during normal business hours and upon reasonable notice delivered by the Buyer to the Seller, to visit the Farm(s) and/or any barn in which the Seller is storing or curing the Tobacco to inspect the Tobacco. The Seller further agrees that any agent, representative or customer of the Buyer may accompany the Buyer during any such inspection.

The above example is from a former Universal Leaf North America sample contract. This contract had an attachment of Frequently Asked Questions, one of which concerned notice of visits: Q: Is Universal going to come out to my farm?

A: Only with the grower’s permission, at his or her convenience, and only for general purposes.

Sometimes terms about access are given a separate listing in the contract.

But not always: Often language on access is contained in clauses about other things.

For example, here is a contract section on “warranties”--the things the farmer agrees to do under the contract:

M.

Damages/Remedies For Breach Of Contract

Either party can breach a contract. For example, the company could fail to pay the grower as promised, or the grower could fail to deliver the tobacco in bales, as mandated by the contract. Some breaches are major, others are minor. All matter. If you’re considering a tobacco contract, look for language about what happens when if the contract terms aren’t met.

Breach of contract can be followed by various scenarios for awarding damages or ordering remedies.

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Here are some examples: If the farmer breaches the contract, the company may get back any money it’s already paid the grower. Or the company may buy product the grower was supposed to supply, then charge the farmer the cost of the substitute goods; the company may also be able to seek additional damages from the grower. Or the company may request “specific remedy”--that is, the farmer must get and deliver the goods stipulated in the contract. It is possible a farmer could buy and deliver enough tobacco of the required quality to fulfill the contract.19 It is very important, though, that a farmer know--before signing a contract-whether the contract makes specific remedy mandatory.

On the other hand, depending on what the contract says, the farmer has a couple of options if the company breaches it.

One may be to sue the company for the full price of the goods as stated in the contract. Another possibility is to sell the tobacco to a second company and try to recover any difference between the contract price and the actual price received.

The problem with the latter option is that tobacco companies are contracting for pretty much all their needs, and the grower is unlikely to find a buyer. Determining damages for breach of contract can be done in several ways. Some contracts spell out damages in their terms. Some states have laws providing breach of contract damages. Also, the Uniform Commercial Code (see below) provides several options, depending on who breached the contract.

V. Relevant Governing Laws As you know, tobacco is regulated by all sorts of laws - environmental permits, pesticides, labels. This booklet won’t go into all of them. Instead, here are three different laws and regulations that provide some protection for growers. All are relevant to growing tobacco under a marketing contract.

A.

Uniform Commercial Code (UCC)

Sales of goods in the United States are regulated by a Federal code. This is the Uniform Commercial Code, or UCC. The code was developed to bring order and conformity to certain commercial transactions. The code was made necessary by a confusing tangle of other commercial law - state legislation, case law (court precedents), and common law handed down over the years. It is fundamental to a vibrant system of interstate commerce.

The tobacco grower may need to rely on the UCC in cases of breach of contract and ensuing liabilities for damage from such breach.

Article Two of the UCC governs contracts for the sale of goods worth $500 or more.20 Obviously, most tobacco marketing contracts fall in this category.

B. Producer Protection Act and Similar State Protections Growers should be aware of the Producer Protection Act. In 2000, 16 state attorneys-general created a model law to protect contract grower rights.21 The Act’s language on transparency, disclosure and liability limits aimed to redress existing flaws in hog and poultry contracts. The Act resulted in strong grower-protection measures in Kansas, Georgia, Minnesota, and Illinois. Illinois growers are protected by the state’s Agricultural Production Contract Code; the code applies to a variety of farm contracts and is an example of establishing minimum contract standards to promote fairness for farmers.22

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There may be a potential conflict with a specific performance remedy if the contract has conflicting language stating the contracting company will only accept tobacco produced on specific land - the contracting farmer’s land.

20

Information about Article Two of the Uniform Commercial Code can be found at http://www.law.cornell.edu/ucc/2/overview.html

21

The model language of the Act is available at http://www.state.ia.us/government/ag/agcontractingexplanation.htm

22

Illinois Public Act 93-0522, codified at § 505 ILCS 17/1-99

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C. Agricultural Fair Practices Act (AFPA) Many farmers fear contracting companies will retaliate if growers join together to negotiate contracts and grievance procedures.

The Agricultural Fair Practices Act addresses this issue in a limited way. On the one hand, Federal law gives farmers the right to organize and join associations to negotiate contract terms. On the other, the law does not require companies to negotiate with such farmer associations. The law is the Agricultural Fair Practice Act, 7 USC §§2301-2306.

VI. Conclusion This book is based on an analysis of 2005 tobacco contracts. The tobacco industry and its markets will evolve over time, and contracts will change. We have seen this happen with contract poultry and livestock, as their markets become more concentrated and dominated by a handful of major buyers. However we are happy to publish this guide as a reliable tool for growers to analyze tobacco contracts now and for the near future.

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Quick References Resources and where to get more information For more information on a range of farming issues: RAFI-USA Rural Advancement Foundation International – USA PO Box 640 Pittsboro, NC 27312 Phone: 919-542-1396 www.rafiusa.org Farmers’ Legal Action Group, Inc. 360 North Robert Street, Suite 500 St. Paul, MN 55101 Phone: 651-223-5400/ MN Toll-Free: 877-860-4349 lawyers@flaginc.org www.flaginc.org

For additional information on agricultural contracts: A Farmer’s Legal Guide to Production Contracts, Neil D. Hamilton, Top Producer, Jan. 1995 Livestock Production Contracts, Commodity Marketing Agreements, and Forward Contracts: Legal Risks and Protections for Family Farmers, Jill E. Krueger, March 12, 2004, available at www.flaginc.org Agricultural Production Contracts: Drafting Considerations, Christopher R. Kelley, 18 Hamline L. Rev. 397 (1995) Assessing the Impact of Integrator Practices on Contract Poultry Growers, Farmers’ Legal Action Group and others, September 2001, available at www.flaginc.org/pubs/poultry.htm Grain Production Contract Checklist, Livestock Production Contract Checklist, Iowa Attorney General, available at www.state.ia.us/government/ag/working_for_farmers/contracts.html. (sample contracts also available) Contracting in Agriculture: Making the Right Decision, USDA, available at www.ams.usda.gov/contracting/contracting.htm A Guide to Agricultural Production Contracting in Minnesota, Bruce Gerhardson and MN Dept. of Ag., September 1999.

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For more information on the tobacco buyout and tobacco production: FSA Tobacco Buyout Fact Sheet, March 2005, available at http://www.fsa.usda.gov/pas/publications/facts/html/ttpp05.htm North Carolina State University’s tobacco buyout website, available at www.cals.ncsu.edu:8050/advancement/tobaccobuyout/index.htm Tobacco Quota Buyout, Jasper Womach, October 28, 2004, available at www.uky.edu/Ag/TobaccoEcon/publications/womach_ebagr62.pdf NC State University, Blake Brown, Professor http://www.ces.ncsu.edu/depts/agecon/tobacco_econ/

For more information on State and Federal protections against confidentiality clauses in other type of contracts: The Illinois Agricultural Production Contract Code, codified as § 505 ILCS 17/30 (2005), allows confidentiality clauses in production contracts but there will not be a breach if there is communication with a producer’s spouse, parents, siblings, and children, accountants, attorneys, bankers, financial institutions, farm managers, and partners, officers, or directors of the agricultural operation.

Minn. Stat. § 17.710 prohibits the inclusion of terms in a production contract that prevent a producer from disclosing the terms, conditions, and prices agreed to in the contract. Iowa Code § 202.3 prohibits the use of and makes void confidentiality provisions in production contracts.

Kan. Stat. § 16-1701(b)(6) prohibits a poultry production contract that disallows or discourages producers from seeking professional, legal, financial and agricultural production advice regarding the contract terms.

The 2002 Farm Bill established the right for contract livestock and poultry producers to discuss the terms of their contract. Farm Security and Rural Investment Act of 2002, Pub. L. 107-171, Sec. 10503, Codified at 7 U.S.C. § 229b. Specifically it states that “livestock and poultry producers cannot be prohibited by their contract from sharing the terms of their contract with: 1) a federal or state agency; 2) a legal advisory to the party; 3) a lender to the party; 4) an accountant hired by the party; 5) an executive or manager of the party; 6) a landlord of the party; or 7) a member of the immediate family of the party.”

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Glossary Adhesion Contract – When one of the parties of a contractual transaction has such bargaining power relative to the other party, that the stronger party has enough control over the transaction to leave the weaker party with no choice but to enter into the terms of the contract proposed by the dominant party. Unequal bargaining power and the use of a standard form contract do not necessarily create an adhesion contract, but they are common characteristics.

Arbitration – A process used to resolve disputes between the producer and contractor. A third party, not connected to the contract as issue, will make a decision about the dispute after hearing from both sides. This decision may be binding on the parties.

Breach - Most simply, a breach of contract occurs when a party is obligated to perform in accordance with contractual terms and that party fails to perform, that failure may be considered a breach of contract. Whether a breach is material or minor may impact the damages available to each party. Knowing all the terms and conditions of a marketing contract is very important because some obligations may not be obvious, but they are conditions under the contract just the same and failure to comply could result in a breach of contract.

Contract - A promise or a set of promises creating an agreement that is enforceable by law which can be either written or oral and is between two or more parties.

Default – Failure to meet the requirements of the contract. For example, late payments, failure to attain proper permits, etc.

Litigation – Formal process of resolving a dispute in court.

Marketing Contract – Marketing contracts generally specify, prior to harvest, the quantity, quality, price, and delivery date for a particular commodity. The grower retains ownership of the commodity and makes production decisions. Growers generally bear all the risk for loss until the commodity is delivered and accepted.

Mediation – A process used to resolve disputes between the producer and contractor. A third party, not connected to the contract at issue, will facilitate negotiations between them to reach an agreement.

Production Contract – A formal agreement lasting for a specified term for the production of a commodity where the contractor usually specifies production practices to a varying degree and has ownership of some inputs and usually the commodity.

Rules of Construction – When a contract term is omitted or there is uncertainty as to its meaning or intent, are the principles developed for a court to ascertain the reasonable intent of the agreement, generally referred to as rules of construction.

Specific Performance – A court order directing the defendant to render the contractual performance as promised. Specific performance is an equitable remedy, and is the exception rather than the rule, available only where damages are not an adequate remedy.

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Standard Form Contract – Pre-printed form contracts drafted by one party. Large companies entering into repetitive transactions utilize such contracts to reduce transaction costs and allow for centralized control of terms and conditions.

Statute of Limitations – State or federal statute stating the period of time in which a claim must be brought, a claim brought after that date will be barred. For example, the AFPA has a statute of limitations of 2 years.

Vertical Integration – System of agricultural where the company integrates the production, processing, and marketing aspects of the particular commodity they sell. They integrate the process by owning the inputs, dictating the production practices,

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Farmer Checklist Before signing a contract …

Read the contract:

The contract is the starting point for all your decisions. Read it, study it.

This is the time--before you sign--to get as much information as possible to make good decisions for your future.

Understand the contract terms.

Understand ALL the terms of the contract. It will govern 100% of your dealings with the company. And remember: The contracting company wrote the contract to protect its interests, not necessarily yours.

Get the help you need:

Parts of the contract may remain unclear even after your best review.

Don’t skip over terms you don’t understand. Get a lawyer to help you or perhaps an experienced member of your community. Extension Service agents are resources, as are farm advocates and growers associations.

Figure out the rewards/penalties of the contract.

See what price the contract states, of course.

But remember: Contract price is a potential figure. It can be cut if the company downgrades your tobacco in delivery. So calculate what your income will be based on price for different grades. Identify contract language about penalties you could suffer--for delays, say, or for delivering tobacco that doesn’t conform to contract requirements.

Keep a written record of everything.

This is a must. Safely file a copy of the contract and all attachments. If contract changes are made, they must be in writing and signed and dated. The law requires contracts to be in writing. Also, keep a written record of all communications with the company. Finally, keep good written records of your performance under the contract including planting, harvesting, fertilizing, and delivery.

Identify your obligations and risks under the contract. In exchange for a contract price for your tobacco, you agree to significant risks and obligations. You must identify and know those risks and obligations. Some may be obvious, others not, but ALL must be fulfilled. For example, does the contract require the delivery of tobacco on a given date or in a specific manner? Does the contract outline production practices that are to be followed or have exclusivity clauses eliminating marketing options beyond the contract? Does the contract outline conditions that could result in a deduction or even contract cancellation?

Review production practices. Determine if you can meet your production obligations under the contract, including the required inputs, equipment and facilities, quality, and harvesting requirements. Know what is expected of you and how your costs and income can be affected.

Know your payment and delivery details. Know how much, when, and who will pay you for your tobacco. Also, know the delivery requirements under the contract.

Know how disputes are resolved. Review the contract for any dispute resolution provisions including anything regarding grading disputes and general disputes under the contract terms.

Know how the contract can be terminated. Know when and how the contract can be terminated by you and by the contracting company.

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“Issues to Consider Related to Tobacco Contracts” Evaluation Form

We are always interested in hearing from readers. Please fill out the form below and send it to: RAFI-USA, PO Box 640, Pittsboro, NC 27312 communicator@rafiusa.org

1. How did you use this guide? Check any that apply:

as general background on tobacco contracts and the industry as a tool you referenced in the process of making a decision related to entering a tobacco (or other) contract

as a tool you referenced for more information on your rights as a contract tobacco grower

other: __________________________________________________________________ 2. What information did you find the most helpful or interesting?

3.

If you read “Issues to Consider Related to Tobacco Contracts ” because you are considering getting into the contract tobacco business or other contract-based agricultural enterprise, has the guide caused you to do anything differently than you were previously planning? (For example, are you going to talk to more farmers or revise your cash flow projections?)

4. After reading ““Issues to Consider Related to Tobacco Contracts ” do you have additional questions or types of information you wish we had included?

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Name ______________________________________________________________

Address ____________________________________________________________

City _________________________ State _______________ Zip_______________

Phone ___________________________ Email______________________________

Organization / Business ________________________________________________

Thank You!

RAFI-USA PO Box 640 Pittsboro, NC 27312

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