APPENDIX II

 

CALCULATION OF BENEFITS PAYABLE – FOUR HYPOTHETICALS

 

SUMMARY OF CONCLUSIONS

 

 

 

(1) 10 acre

Kentucky

Burley tobacco farmer

 

 

(2) 100 acre Kentucky

Burley tobacco farmer

 

(3) 10 acre

North Carolina Flue-cured tobacco farmer

 

(4) 100 acre

North Carolina Flue-Cured tobacco farmer

 

(1) Full Phase II distribution (with no offset or refund)

 

WHEN:

January, 2005

 

 

 

$ 11,822

 

 

 

 

 

$ 118,215

 

 

 

 

 

$ 8,983

 

 

 

 

 

$ 89,830

 

 

 

(2) 2005 Annual Buyout Payments (1st of 10 annual payments)

 

WHEN:

 “as soon as practicable”

during FY2005

 

 

 

 

$ 20,840

 

 

 

 

 

 

$ 208,398

 

 

 

 

 

 

$ 23,090

 

 

 

 

 

 

$ 230,899

 

 

 

(3) 2005 Buyout Lump Sum Payments with Financing of total ten year payment

 

WHEN:

private arrangement between quota holder and financial institution

 

 

 

 

 

$ 160,920

 

 

 

 

 

 

 

$ 1,609,187

 

 

 

 

 

 

 

$ 178,294

 

 

 

 

 

 

 

$ 1,782,933

 

 

 

(4) 2005 Quota Payments

 

WHEN:

Unclear under Kentucky law

 

 

 

$ 10,712

 

 

 

 

 

$ 107,115

 

 

 

 

 

n/a

 

 

 

n/a

 

 

 

 

I.             Background.

 

This appendix provides information requested by the Court.  It provides calculations for four hypothetical quota holders: (1) an owner of a burley tobacco farm in Kentucky who holds quota for 10 acres; (2) an owner of a burley tobacco farm in Kentucky who holds quota for 100 acres; (3) an owner of a flue-cured tobacco farm in North Carolina who holds quota for 10 acres; and (4) an owner of a flue-cured tobacco farm in North Carolina who holds quota for 100 acres.

 

For each owner, benefits are calculated showing (1) a full distribution under the Trust for 2004 (assuming no legislation requiring offsets and refunds); (2) 2005 buyout payments without any financing as authorized by FETRA; (3) 2005 buyout payments if the farmer elects to finance payment of the full amount due in the first year as authorized by FETRA; and (4) quota payments, if any, in calendar year 2005.

 

II.             Assumptions regarding Quota Levels, Base Years, and Active Participation in Tobacco Farming Operations.

 

Quota Levels.  Both Phase II and FETRA payments are based on poundage calculations.  This corresponds to the manner in which burley and flue-cured quotas are calculated and divided among quota holders.  Therefore, to estimate payment amounts for the four hypothetical quota owners listed above, the acreage must be converted to pounds.

 

Flue-cured tobacco quotas are issued under an “acreage-poundage” system.  This means that each quota holder is given both an acreage limitation and a poundage limitation on the tobacco that can be marketed.  USDA first calculates the “national marketing quota,” which is a poundage number.  This number is allocated among quota holders based on their share of the national quota.  Thereafter, the individual quota is divided by a “national average yield goal” (NAYG) to determine the acreage limitation.  For the 2003 crop, the NAYG was 2,088 pounds per acre.  A quota holder with a 20,880 poundage limitation would also have an acreage limitation of exactly ten acres.  A 208,800 poundage limitation would correspond to a 100 acre limitation.

 

Burley tobacco quotas are issued on a “poundage” basis only.  However, USDA does publish average yield per acre statistics annually.  For burley tobacco in 2003, the average yield was 1,850 pounds per acre.  Therefore, the hypothetical examples in this Appendix use 18,500 pounds for a 10 acre burley tobacco quota in 2003, and 185,000 for a 100 acre burley quota.

 

            Base Years.  Phase II and FETRA calculate payments using different base years, as described more fully below in sections III and IV.  Phase II base year determinations are left to each state to decide.  FETRA payments are based upon the 2002 quota and 2002 crop.  This Appendix makes adjustments in payments to account for the appropriate base year requirements.

 

            Active participation.  Under both Phase II and FETRA, payments are divided.  As described below, North Carolina Phase II payments are divided evenly between quota holders and growers.  Kentucky Phase II payments are divided into equal thirds between quota holders, growers, and the growing farm.  FETRA payments are divided into two categories, with $7 per pound being paid to quota holders and $3 per pound being paid to growers.  In addition, under both Phase II in certain states (like Kentucky) and FETRA, tobacco grower payments can be subdivided further if there are multiple growers and/or multiple years to consider.  This Appendix assumes that the quota holders in the four hypothetical examples are also tobacco growers.  However, it is important to consider that the estimated amounts in these examples would be reduced if the quota holder is not the actual tobacco grower that produces the crop.

 

III.             Calculation of North Carolina Phase II Payments.

 

North Carolina has chosen to divide payments equally into two amounts between (1) quota holders and (2) growers.  Phase II payments to quota holders and growers in North Carolina are based upon the crop year designated by the North Carolina Phase II Tobacco Certification Entity.  The crop year upon which payments are based has generally been updated each year.  For example, 2003 Trust Fund payments in North Carolina for flue-cured quota holders were based on ownership of tobacco quota as of October 1, 2002, while payments to growers were made to those who actively engaged in, or shared in the expense of, producing the 2002 crop.  For 2004 Trust Fund payments, the basis for these payments was updated to be based on quota holder ownership as of October 1, 2003 and grower participation with the 2003 crop.

 

In 2002, Phase II payments were roughly 21.644 cents per pound for each of the two categories.  These payments were based on the 2001 crop year.  From the 2001 to the 2003 crop year (upon which 2004 payments are to be based), the flue-cured basic quota fell by 4.03 percent, meaning that Phase II payments for 2004 are to be spread over a smaller number of pounds.  This would have the effect of slightly increasing payments per pound.  However, total Phase II payments fell by roughly 4.62 percent between 2002 and 2004.  This would have the effect of slightly decreasing payments per pound.  Therefore, we are estimating that the North Carolina Phase II 2004 payment would be 21.511 cents per pound ([21.644 cents times .9538] divided by .9597).  The total amount received for a quota holder that was also a tobacco grower (and therefore entitled to both amounts) is estimated to be twice that amount, or 43.022 cents per pound for 2004.

 

IV.             Calculation of Kentucky Phase II Payments.

 

Kentucky divides its Phase II payments into three equal parts, among (1) quota holders, (2) growing farms, and (3) actual growers or tenants.  This distinction with North Carolina allows for a different outcome where the tobacco quota is owned by one farm owner but produced on another farm. 

 

Like North Carolina, the crop year upon which payments to quota holders are based is generally updated each year by the Kentucky Tobacco Settlement Trust Corporation.  For example, 2003 Trust Fund payments to quota holders in Kentucky were based on the ownership of tobacco quota as of July 1, 2002.  The 2004 Trust Fund payments to quota holders were to be based on quota ownership as of July 1, 2003.

 

Unlike North Carolina, however, payments to growing farms and tobacco growers or tenants are based on a fixed period – a three year average using 1998, 1999, and 2000.  For example, a tobacco grower who provided labor and shared in the risk of production for each of the three years would receive a full share of the grower payment.  A tobacco grower who provided labor and shared in the risk of production for only one or two of those years would receive a weighted portion of the grower payment.

 

In 2003, Phase II payments were roughly 19.5 cents per pound for quota holders.  These payments were based on the 2002 crop year.  This amount represented one-third of the total Phase II funds available, since Kentucky pays one-third of its funding to quota holders.  From the 2002 to the 2003 crop year (upon which 2004 payments are to be based), the burley basic quota fell by 11.09 percent, meaning that Phase II payments for 2004 are to be spread over a smaller number of pounds.  The total Phase II payments fell by roughly 2.7 percent between 2003 and 2004.  Therefore, we are estimating that the Kentucky Phase II 2004 quota holder payment would be 21.3 cents per pound ([19.5 cents times .973] divided by .8891). 

 

As noted, Kentucky divides its Phase II funds into three equal parts.  In 2003, for example, $43.3 million was distributed to quota holders, $43.3 million was distributed to growing farms, and $43.3 million was distributed to growers or tenants that produced the tobacco.  Payments to quota holders were based on the 2002 basic quota, and were 19.5 cents per pound.  Payments to growing farms and growers and tenants were based on the average effective quota for 1998, 1999, and 2000.  Since the quota numbers were higher in these years, this average figure produced a higher total number of pounds.  The $43.3 million translated into 14.3 cents per pound in Phase II payments for the latter two categories (growing farms and growers/ tenants).  Since our examples in this Appendix assume the quota holder was also growing tobacco on his own farm and was the actual grower for those three years, that farmer’s percentage share from each of the three funds will be identical.  In other words, the payment to farmers in our examples will be exactly the same for each of the three categories of payments.  The total amount received for a quota holder that owned the growing farm and was also a tobacco grower, therefore, is estimated to be 63.9 cents per pound (based on the 2003 quota) for 2004 (21.3 cents per pound times three). 

 

V.             Calculation of FETRA Payments.

 

            FETRA provides for ten equal annual payments to quota holders based on the 2002 basic quota.  The 2002 basic quota for flue-cured tobacco was 10.583 percent higher than the 2003 basic quota.  The 2002 basic quota for burley tobacco was 12.474 percent higher than the 2003 basic quota.  The poundage figures used to calculate Phase II payments (which are based on 2003 quotas) have been adjusted to reflect this difference when calculating FETRA payments (which are based on 2002 quotas).

 

The payment is $7.00 per pound, or 70 cents per pound per year.  For tobacco growers sharing in the risk of production, FETRA provides for ten equal annual payments totaling $3.00 per pound, or 30 cents per pound per year.  For tobacco growers that produced tobacco in all three of the years 2002, 2003 and 2004, the 2002 effective quota is used as a basis for payment.  For tobacco growers that produced tobacco in one or two of those three years, the payments are pro rated into three equal amounts and paid accordingly.  The examples in this Appendix assume that the farmer produced the crop in each of the three years.

 

VI.             Kentucky State Law: Phase II supplemental funds.

           

Tobacco quota holders and tobacco growers have received substantial “quota payments” since 1999 in addition to Phase II payments.  The 1999 Disaster Assistance legislation (Pub.L. 106-78) and the 2000 Agriculture Risk Protection Act (Pub.L. 106-224) each provided $340 million in assistance to tobacco growers through the Tobacco Loss Assistance Program provisions.  The 2001 Disaster Relief legislation (Pub.L. 107-25) provided an additional $129 million in payments, while the 2003 Disaster Relief legislation (Pub.L. 108-8) provided $53 million.  Taken together, these payments total $862 million in additional funding.

 

            In addition, Congress passed legislation in 2000 (Pub.L. 106-387) that eliminated an estimated $650 million in pending losses on the 1999 burley tobacco crop.  Tobacco quota holders and growers benefited directly through lower program assessments that are normally imposed to cover such losses.  None of these quota payments and benefits continue today.

 

            However, Kentucky passed a unique law in 2000 that appears to result in immediate additional quota payments once Phase II payments are eliminated.  The Kentucky law (KRS 248.705) provides supplemental funds “each year for tobacco growers and quota holders so that the total amount available for payment is maintained at one hundred fourteen million dollars ($114,000,000) each year.”  We estimate that the 2004 Phase II payment to Kentucky would have been roughly $125,631,250 prior to the application of the Tax Offset Adjustment.  The Kentucky Phase II supplemental funds law provides for $114 million in payments in the event that Phase II funds are eliminated, or 90.7 percent of the amount estimated for 2004 under Phase II.  We further estimate that this will produce 19.3 cents per pound in quota payments (compared to 21.3 cents per pound under Phase II), or 57.9 cents per pound total for all three categories for which Kentucky Phase II payments are made.  The Kentucky law provides no offset for federal tobacco buyout payments made in the same year.

 

SUMMARY OF ASSUMPTIONS USED

 

 

(1) 10 acre

Kentucky

Burley tobacco farmer

(2) 100 acre Kentucky

Burley tobacco farmer

(3) 10 acre

North Carolina Flue-cured tobacco farmer

(4) 100 acre

North Carolina Flue-Cured tobacco farmer

 

2003 poundage

 

 

18,500 lbs.

 

185,000 lbs.

 

20,880 lbs.

 

208,800 lbs.

 

2002 poundage

 

 

20,840 lbs.

 

208,398 lbs.

 

23,090 lbs.

 

230,899 lbs.

 

Phase II payment

 

 

$ 0.639/lb.

 

$ 0.639/lb.

 

$ 0.43022/lb.

 

$ 0.43022/lb.

 

FETRA payment

$ 0.70/lb./yr.

   PLUS

$ 0.30/lb./yr.

$ 0.70/lb./yr.

   PLUS

$ 0.30/lb./yr.

$ 0.70/lb./yr.

   PLUS

$ 0.30/lb./yr.

$ 0.70/lb./yr.

   PLUS

$ 0.30/lb./yr.

Kentucky Phase II Supplemental Payments

 

 

 

$ 0.579/lb.

 

 

$ 0.579/lb.

 

 

n/a

 

 

n/a

VII.             Discount Rate.

           

This appendix uses a discount rate of 5.0 percent with respect to the financed payment calculation.  This was chosen as a reasonable starting point in light of prevailing market rates.[1]  A discounted payment using a 5.0 percent discount rate on a 10 year stream of payments will result in a lump sum payment that is approximately 77.217 percent of the ten year total.

 

 

 

 

 



[1]

As instructed by the Court, the Settlors contacted opposing counsel to confer about the discount rate to be used for these calculations.  Counsel for Settlors understand that opposing counsel intend to use a range of discount rates.  Settlors believe that the 5.0 percent discount rate used in the above calculations is appropriate and a reasonable estimate.