What Is Contract Farming

What is contract farming
Contract farming can be defined as agricultural production carried out

according to an agreement between a buyer and farmers, which establishes
conditions for the production and marketing of a farm product or products.
Typically, the farmer agrees to provide agreed quantities of a specific
agricultural product. These should meet the quality standards of the
purchaser and be supplied at the time determined by the purchaser. In
turn, the buyer commits to purchase the product and, in some cases, to
support production through, for example, the supply of farm inputs, land
preparation and the provision of technical advice.
Contract farming business models
Informal model - This model is the most transient and speculative of all
contract farming models, with a risk of default by both the promoter and
the farmer” (van Gent, n.d., p.5). However, this depends on the situation:
interdependence of contract parties or long-term trustful relationships may
reduce the risk of opportunistic behaviour. Special features of this CF
model are:
Small firms conclude simple, informal seasonal production contracts with

smallholders.
The success often depends on the availability and quality of external

extension services.
Embedded services, if at all provided, are limited to the delivery of basic

inputs, occasionally on credit; advice is usually limited to grading and
quality control.
Typical products: requiring minimal processing/ packaging, vertical

coordination; e.g. fresh fruit/ vegetables for local markets, sometimes also
staple crops.
Intermediary model - In this model, the buyer subcontracts an

intermediary (collector, aggregator or farmer organisation) who formally or
informally contracts farmers (combination of the centralised/ informal
models). Special characteristics of this CF model are:
The intermediary provides embedded services (usually passing through

services provided by buyers against service charges) and purchases the
crop.
This model can work, if well-designed and if incentive-structures are

adequate and control mechanisms are in place.
This model can bear disadvantages for vertical coordination and for
providing incentives to farmers (buyers may lose control of production
processes, quality assurance and regularity of supplies; farmers may not
benefit from technology transfer; there is also a risk of price distortion and
reduced incomes for farmers).
Multipartite model - This model can develop from the centralised or

nucleus estate models, e.g. following the privatisation of parastatals. It
involves various organisations such as govern- mental statutory bodies
alongside private companies and sometimes financial institutions. Special
features:
This model may feature as joint ventures of parastatals/ community

companies with domestic/ foreign investors for processing.
The vertical coordination depends on the discretion of the firm. Due

attention has to be paid to possible political interferences.
This model may also feature as farm-firm arrangement complemented by

agreements with 3rd party service providers (e.g. extension, training,
credits, inputs, logistics).
Separate organisations (e.g. cooperatives) may organise farmers and

provide embedded services (e.g. credits, extension, marketing, sometimes
also processing).
This model may involve equity share schemes for producers.
Centralized model - In this model, the buyers’ involvement may vary from
minimal input provision (e.g. specific varieties) to control of most
production aspects (e.g. from land preparation to harvesting). This is the
most common CF model, which can be characterised as follows:
The buyer sources products from and provides services to large numbers of
small, medium or large farmers.
The relation/ coordination between farmers and contractor is strictly

vertically organised.
The quantities (quota), qualities and delivery conditions are determined at

the beginning of the season.
The production and harvesting processes and qualities are tightly

controlled, sometimes directly implemented by the buyer’s staff.
Typical products: large volumes of uniform quality usually for processing;

e.g. sugar cane, tobacco, tea, coffee, cotton, tree crops, vegetables, dairy,
poultry.
Nucleus estate model - In this model, the buyer sources both from own
estates/ plantations and from contracted farmers. The estate system
involves significant investments by the buyer into land, machines, staff and
management. This CF model can be characterised as follows:
The nucleus estate usually guarantees supplies to assure cost-efficient

utilisation of installed processing capacities and to satisfy firm sales
obligations respectively.
In some cases, the nucleus estate is used for research, breeding or piloting
and demonstration purposes and/ or as collection point.
The farmers are at times called ‘satellite farmers’ illustrating their link to
the nucleus farm. This model was in the past often used for state owned
farms that re-allocated land to former workers. It is nowadays also used by
the private sector as one type of CF. This model is often referred to as
“outgrower model”.
Typical products: perennials
Advantages
Contract farming is looking towards the benefits both for the farm-
producers as well as to the agro-processing firms. Producer/farmer
Makes small scale farming competitive - small farmers can access

technology, credit, marketing channels and information while lowering
transaction costs
Assured market for their produce at their doorsteps, reducing marketing

and transaction costs
It reduces the risk of production, price and marketing costs.
Contract farming can open up new markets which would otherwise be

unavailable to small farmers.
It also ensures higher production of better quality, financial support in cash

and /or kind and technical guidance to the farmers.
In case of agri-processing level, it ensures consistent supply of agricultural

produce with quality, at right time and lesser cost.
Agri-based firms
Optimally utilize their installed capacity, infrastructure and manpower, and

respond to food safety and quality concerns of the consumers.
Make direct private investment in agricultural activities.
The price fixation is done by the negotiation between the producers and
firms.
The farmers enter into contract production with an assured price under
term and conditions.
Challenges
Contract farming arrangements are often criticized for being biased in favor
of firms or large farmers, while exploiting the poor bargaining power of
small farmers.
Problems faced by growers like undue quality cut on produce by firms,

delayed deliveries at the factory, delayed payments, low price and pest
attack on the contract crop which raised the cost of production.
Contracting agreements are often verbal or informal in nature, and even

written contracts often do not provide the legal protection in India that may
be observed in other countries . Lack of enforceability of contractual
provisions can result in breach of contracts by either party.
Single Buyer – Multiple Sellers (Monopsony) .
Adverse gender effects - Women have less access to contract farming than
men.
Policy support
Agricultural marketing is regulated by the States’ Agricultural Produce

Marketing Regulation (APMR) Acts. In order to regulate and develop
practice of contract farming, Government has been actively advocating to
the States/ Union Territories (UTs) to reform their agri marketing laws to
provide a system of registration of contract farming sponsors, recording of
their agreements and proper dispute settlement mechanism for orderly
promotion of contract farming in the country. So far, 21 States (Andhra
Pradesh, Arunachal Pradesh, Assam, Chhattisgarh, Goa, Gujarat, Haryana,
Himachal Pradesh, Jharkhand, Karnataka, Maharashtra, Madhya Pradesh,
Mizoram, Nagaland, Odisha, Punjab (separate Act), Rajasthan, Sikkim,
Telangana, Tripura and Uttarakhand) have amended their Agricultural
Produce Marketing Regulation (APMR) Acts to provide for contract
farming and of them, only 13 States (Andhra Pradesh, Chhattisgarh, Goa,
Gujarat, Haryana, Himachal Pradesh, Jharkhand, Karnataka, Maharashtra,
Madhya Pradesh, Odisha, Rajasthan and Telangana) have notified the rules
to implement the provision.
NABARD’s Initiatives in contact farming
NABARD developed a special refinance package for contract farming

arrangements (within and outside AEZs) aimed at promoting increased
production of commercial crops and creation of marketing avenues for the
farmers. The various initiatives undertaken by NABARD in this direction
are:
Financial Interventions
Special Refinance package for financing farmers for contract farming in

AEZs
100% refinance to disbursements made by CBs, SCBs, RRBs and select

SCARDBs (having net NPA less than 5%)
Term facility for repayments (3 years)
Fixation of higher scale of finance for crops under contract farming.
Extension of refinance scheme for financing farmers for contract farming in

AEZs to contract farming outside AEZs besides coverage of medicinal and
aromatic plants.
Extension of Refinance scheme for contract farming under Automatic

Refinance Facility.
Agricultural produce suitable for CF
The various agricultural produce are suitable for practices under contract
farming like tomato pulp, organic dyes, poultry, pulpwood, mushrooms,
dairy processing, edible oils, exotic vegetables, baby corn cultivation,
basmati rice, medicinal plants, potato for making chips and wafers, onions,
mandarin oranges, durum wheat, flowers and orchids, etc.
Key minimum requirements for appropriate contract schemes
Broadly, the project must:
not result in farmers’ over specialisation in certain crops to the detriment of

building resilience and contributing to local food security;
promote sustainable farming practices and not promote reliance on

chemicals or expensive seeds, or lead to excessive debts;
lead to higher incomes for farmers than they would otherwise earn, and
compared to alternative models
substantially include women farmers and promote their rights;
promote the land rights of farmers;
apply free, prior and informed consent of those affected in terms of project
design and implementation.
In relation to contractual terms, the project should:
be negotiated transparently and fairly among the parties, providing

adequate information at all times on the financial aspects of the project and
the risks and likely impacts;
consider alternative contract farming models;
be regulated by a written contract spelling out the details and obligations of

both the company and the out-growers, and which must be written in a
clear and understandable way with out-growers given sufficient time to
review it;
be transparent about how the price is determined, the duration of the

project and how production inputs and other services are to be supplied
and used by farmers;
build in a clause for the renegotiation of the contract at agreed intervals,

and specify the sharing of production and market risks among the parties;
track and communicate performance to affected stakeholders to build
accountability at the operational level;
prevent unfair practices in buyer-farmer relations, and not prohibit or

discourage farmers from associating with other farmers to compare
contractual clauses or to address concerns or problems;
have clear mechanisms for settling disputes.
The government should:act as a third party, or mediator, between the

parties and not be a mouthpiece for the company sponsor;
have appropriate legislation to ensure that farmers’ rights can be enforced.

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What is contract farming

Contract farming can be defined as agricultural production carried out

Contract farming business models

Small firms conclude simple, informal seasonal production contracts with

The success often depends on the availability and quality of external

Embedded services, if at all provided, are limited to the delivery of basic

Typical products: requiring minimal processing/ packaging, vertical

Intermediary model - In this model, the buyer subcontracts an

The intermediary provides embedded services (usu- ally passing through

This model can work, if well-designed and if incentive-structures are

Multipartite model - This model can develop from the centralised or

This model may feature as joint ventures of parastatals/ community

The vertical coordination depends on the discretion of the firm. Due

This model may also feature as farm-firm arrangement complemented by

Separate organisations (e.g. cooperatives) may organise farmers and

This model may involve equity share schemes for producers.

The relation/ coordination between farmers and contractor is strictly

The quantities (quota), qualities and delivery conditions are determined at

The production and harvesting processes and qualities are tightly

Typical products: large volumes of uniform quality usually for processing;

The nucleus estate usually guarantees supplies to assure cost-efficient

Typical products: perennials

Makes small scale farming competitive - small farmers can access

Assured market for their produce at their doorsteps, reducing marketing

It reduces the risk of production, price and marketing costs.

Contract farming can open up new markets which would otherwise be

It also ensures higher production of better quality, financial support in cash

In case of agri-processing level, it ensures consistent supply of agricultural

Optimally utilize their installed capacity, infrastructure and manpower, and

Make direct private investment in agricultural activities.

Problems faced by growers like undue quality cut on produce by firms,

Contracting agreements are often verbal or informal in nature, and even

Single Buyer – Multiple Sellers (Monopsony) .

Agricultural marketing is regulated by the States’ Agricultural Produce

NABARD developed a special refinance package for contract farming

Special Refinance package for financing farmers for contract farming in

100% refinance to disbursements made by CBs, SCBs, RRBs and select

Term facility for repayments (3 years)

Fixation of higher scale of finance for crops under contract farming.

Extension of refinance scheme for financing farmers for contract farming in

Extension of Refinance scheme for contract farming under Automatic

Agricultural produce suitable for CF

Broadly, the project must:

not result in farmers’ over specialisation in certain crops to the detriment of

promote sustainable farming practices and not promote reliance on

substantially include women farmers and promote their rights;

promote the land rights of farmers;

In relation to contractual terms, the project should:

be negotiated transparently and fairly among the parties, providing

consider alternative contract farming models;

be regulated by a written contract spelling out the details and obligations of

be transparent about how the price is determined, the duration of the

build in a clause for the renegotiation of the contract at agreed intervals,

prevent unfair practices in buyer-farmer relations, and not prohibit or

have clear mechanisms for settling disputes.

The government should:act as a third party, or mediator, between the

have appropriate legislation to ensure that farmers’ rights can be enforced.

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