Doing the splits

This week, in an interview with Bloomberg, Sunny Verghese, the CEO and co-founder of Olam International, announced that his company would be splitting into two parts. The first, Olam Food Ingredients, will be made up of cocoa, coffee, edible nuts, spices and dairy. The second, Olam Global Agri, will contain the traditional commodity businesses of grains, animal feeds, protein, edible oils, rice, cotton, and commodity financial services.

Each new entity will seek to take advantage of two distinct trends. The first is the growing desire among wealthy consumers for healthy, sustainable and traceable products. (Milk farmers will be pleased to read that dairy products are included in this category.) The second trend is the dietary shift in developing countries, particularly in Asia and Africa, away from carbohydrates towards meat and fats.

In other words, the company is to be split between bulk food, feed and fibre for developing countries, and traceable, sustainable food ingredients for developed countries.

As I wrote in my recent book, traditional commodity trading companies have been struggling in recent years to reconcile these two trends: the need for traceability versus the desire for tradability.

With the exception of Glencore, the ABCD+ group of trading companies has chosen to build an active presence all along the supply chain. This has a number of advantages. It means that the companies trade more with themselves, increasing traceability while lowering counterparty risk. Moving downstream can increase profitability with less emphasis on low-value commodity businesses and more on higher value consumer businesses. Being present in the whole supply chain can also help to even out earnings. Steady profits from downstream businesses can dampen the earnings volatility of traditional commodity businesses.

A presence along the entire supply chain can also provide trading opportunities. As Brian Zachman told me, Bunge has an ‘end-to-end presence in the supply chain; that’s an inherently strong position, which is not easy to replicate. From the standpoint of risk management, our network also provides us with a lot of proprietary information that helps us optimize our value chains. In a way, our asset base is a call option on volatility in the supply chain.

Finally, maintaining a strong commodity-trading base does not stop you growing your higher value ingredient businesses. ADM has invested massively in food ingredients, particularly flavours, over the past few years. As Greg Morris told me in his interview for the book, ADM views these investments ‘as expanding the value chain of our processing streams to create additional value for our customers. It allows us to create a stronger connection with our customer base, participate in faster growing markets and create a more stable business.

In other words, being closer to the customer, and listening to what the customer wants, helps ADM in all their businesses.

However, Olam is not drawing a dividing line in the supply chain between upstream and downstream businesses. They are separating off the unglamorous, low-growth and cyclical commodity trading businesses from the sexy high growth food ingredients businesses. To achieve that, they are splitting the company between different commodities, not splitting it between two different parts of the supply chain.

Unfortunately, the distinction is not always a clear one. People in rich countries also need food, feed and fibre. People in developing countries also care (enormously) about food safety, and hence traceability. Coffee and cocoa can be just as cyclical as soybeans or wheat.

In addition, there is something to be said for being in a range of different commodities. Corn, say, can have a bad year while cocoa has a good one. This, in theory at least, helps even out earnings.

Olam is splitting with the aim of increasing their market capitalisation. The company argues that it will ‘unlock(s) significant long-term value’. Some investors, they believe, like the growth potential of the foodstuffs business but don’t like the cyclicality of the bulk commodity business. Other investors like the (sometimes outsized) profits that commodity trading can bring during the up cycles, and they are long-term enough to sit out the down cycles.

Even so, investors in public companies usually look for steady growth. Because of the cyclical and low growth nature of our business (Wilmar excepted), commodity-trading companies tend to have lower PE ratios than, say, food ingredient or food processing companies. In addition, investors tend to view commodity trading as not only cyclical, but also high risk.

Being in traditional commodity trading tends to act as a weight, a drag, on a company’s share price. That’s why some argue that traditional commodity-trading companies are better off as privately held, rather than publicly held, companies. But as Glencore Agriculture shows, being private doesn’t mean not having outside investors.

Both Olam and Noble went public during the commodity super-cycle. As the market cooled Noble got into financial trouble and Olam effectively took the company private, finding a white knight in Tamesek (the Singapore Sovereign, Wealth Fund) and later Mitsubishi. Splitting Olam into two may provide both an opportunity to exit.

Of the two new entities, Olam Global Agri may be the harder sell. Rather than being IPO’d, one source suggested that it could end up privately held with a couple of strategic investors; Tamesek and Mitsubishi may remain on board.

Having said that, it will take a couple of years before the reorganisation is completed. It is not impossible that by then commodities will once again be booming (sugar appears to have already turned). Perhaps Olam will once again get their timing right.

© Commodity Conversations ® 2020

Food and famine

In her book ‘Red Famine: Stalin’s War on Ukraine’, Anne Applebaum describes how Russia’s Communist leadership used food—or in this case a lack of food—for political ends. She describes how, across the Soviet Union, 5 million people died of starvation during the great famine of 1931 to 1934, of which 3.9 million in Ukraine. The famine was largely politically induced.

Ms Applebaum writes that the Russian Empire had been struggling with food supplies since the outbreak of the First World War. When war broke out the Imperial government had centralised and nationalised the country’s food distribution system, eliminating middlemen and traders. By doing so they created administrative chaos and severe food shortages.

When the Bolsheviks seized power they quickly realised that the fate of the revolution depended on their ability to ‘reliably supply the proletariat and the army with bread’. But instead of relaxing the food distribution system, they tightened it further. Lenin in particular denounced traders as ideological enemies, writing,

‘The peasant must choose free trade in grain – which means speculation in grain, freedom of the rich to get richer and the poor to get poorer and starve; the return of the absolute landowners and the capitalists; and the severing of the union of peasants and workers – or delivery of grain surpluses to the state at fixed prices.’

Of course Lenin gave the peasants no choice: he forced them to sell their grain to the state at fixed prices.

It was a policy that Stalin later copied, taking it to extreme lengths.  In 1928 he launched the government’s first ‘Five Year Plan’, an economic programme that mandated a massive 20 percent increase in industrial production. At a party plenum he told party members that ‘…for hundreds of years England squeezed the juice out of all of its colonies, from every continent, and thus injected extra investment into its industry’. He argued that without colonies the only way the USSR could achieve its goals was through the exploitation of the country’s peasants.

As Ms Applebaum writes, Stalin ‘had determined that the peasantry would have to be sacrificed in order to industrialise the USSR, and he was prepared to force millions off their land.’

Russia had had a long tradition of communal agriculture, and prior to the revolution the majority of Russian peasants had held land jointly in rural communities. Ukraine had no such tradition; most of the land was owned and farmed by individual peasants.

The Soviet government arbitrarily divided peasants into three categories: ‘kulaks’, or wealthy peasants; ‘seredniaks’, or middle peasants; and ‘bedniaks’, or poor peasants. The author writes that ‘very quickly, (the kulaks) became one of the most important Bolshevik scapegoats, the group blamed most often for the failure of Bolshevik agriculture and food distribution.’ They were arrested, deported or killed, their grain and their animals confiscated and their land ‘collectivised’.

Stalin believed that collectivisation and the elimination of the kulaks would lead to greater efficiency and increased output, while at the same time convert the peasantry into ‘proletarianised’ wage labourers.

He believed that the political and economic future of the Soviet Union lay in industrialisation. Politically, he believed that wage labourers could be ‘controlled’ more easily than peasants. Economically, he felt that the only way a country could grow was through industrialisation—and that that could only be achieved by redeploying the surplus, both in labour and food, from the countryside to the cities.

He used brute force and mass murder to try to achieve these aims, while deliberately setting high prices for industrially produced goods and low prices for agriculturally produced goods.

The state would fine peasants who could not deliver grain, charging them up to five times its worth. Those who could not or would not pay had their property confiscated.

it wasn’t just the rich peasants that were under attack. The government issued orders to arrest ‘the most prominent grain procurement agents and most inveterate grain merchants…who are disrupting set procurement and market prices.’ Trading grain became a crime.

In the end, his policies led, as Mikhail Gorbachev later admitted, to a new form of serfdom. They also led to a collapse in agricultural production, mass murder and mass starvation.

Food has always been used as a weapon. Even in recent history, unscrupulous leaders have used food, famine and starvation as a weapon, supplying food to their supporters and denying it to perceived enemies.

Meanwhile, most classical economists still share Stalin’s view that industrialisation is the key to a country’s economic development, and that cheap food is an important policy tool in achieving that objective. Cheap food forces farmers to become more efficient, while at the same time freeing up labourers to work in the factories where ‘real wealth can be generated’. Cheap food also transfers wealth from rural to urban areas, ‘subsidizing’ the wages of workers in the cities.

In her book Ms Applebaum clearly shows that famines are not necessarily the result of bad weather, nor cheap food necessarily an accident of market forces.

© Commodity Conversations ®

Milking it

Regular readers will know that one of the recurring themes in my books and blogs is the idea that power has shifted along the supply chain first from farmers to traders, then from traders to processors, then from processors to retail and finally from retailers to consumers. The Internet and social media have empowered the final consumer. Not only that, but the gamma, the rate of change in consumer preferences, has accelerated.

I was reminded of this when I read this week that Borden Dairy Co, a major US milk processor, had followed hard on the heals of Dean Foods Co., another major US milk processor, to file for bankruptcy. Both are based in Dallas Texas, and between them they control(led) 13.5 percent of the US dairy market.

Both companies blamed the collapse in dairy milk consumption for their difficulties. Per capita consumption that has fallen more than 40 percent since 1975, of which 25 percent since the start of the century. And according to the USDA, per capita consumption continues to fall at 2 percent per year.

The reasons for milk’s fall from favour are numerous. Some people have stopped consuming milk on health grounds, concerned about its fat (and weirdly, its sugar) content, or because of their perceived lactose intolerance. Others cite concerns about animal welfare, particularly the way that young calves are seperated at a young age from their mothers. Others are concerned about the GHG emissions of livestock farming in general.

Partly as a result of these concerns milk has been facing stiff competition from the growing availability of plant-based milk substitutes such as soy and oat drinks. But it has also been a victim of a trend away from eating breakfast at home. The bowl of cereal (with milk) has lost out to the (dry) cereal bar that can be eaten on the move.

The collapse in milk consumption has forced many dairy farmers out of business. The U.S. has lost nearly 20,000 licensed dairy farms, a roughly 30 percent decline, over the past decade. In court filings, Borden said that 2,730 US dairy farms had gone out of business in the last 18 months alone. Ironically, this has increased the pricing power of the farms that have managed to stay in business. As a result farm gate raw milk prices have increased by 27 percent since this time last year, squeezing processor margins.

At the same time there has been a new entrant into the milk-processing sector: a customer has become a competitor. Walmart, previously one of Dean’s major clients, opened its own milk processing plant in Indiana in 2018. Some in the business have accused Walmart of using liquid milk as a ‘loss leader’ to attract customers into their stores.

Companies in the sector are doing what every sector under pressure does: cutting costs by reducing capacity through consolidation while diversifying into other products where demand is growing, whether they be plant-based milk substitutes or value-added dairy products such as cheese and yoghurt.

And while demand for ordinary milk is falling, demand for lactose-free or lactose-reduced milk is increasing, as is demand for specialty dairy products. US sales of flavored whole milk jumped 8.9% in the first ten months of last year while sales of lactose-reduced or lactose-free milk grew 11% between November 2018 and November 2019. Grass-fed milk sales grew about 51% in that period.

Some companies have even taken the dramatic step of exiting the shrinking dairy market to concentrate solely on the expanding plant-based substitute market. Elmhurst 1925, which operated dairy facilities in the New York City region, closed in 2016 and emerged a year later as a plant-based beverage producer without any cow products.

Unfortunately neither Borden nor Dean Foods were nimble or flexible enough to avoid bankruptcy. Borden’s CEO told Bloomberg, “Borden has a 163-year history that has stood for the goodness of dairy for all that time. We’re going to stay squarely focused on that.”

Finally, I was shocked to find out this week that Charles Darwin never said, “It is not the strongest species that survive, nor the most intelligent, but the ones most responsive to change.” It’s a shame because it is a great quote, one that obviously applies in this case.

© Commodity Conversations ®

Wilding a marginal farm

Over the holiday period I enjoyed reading Wilding – The Return of Nature to a British Farm by Isabella Tree. It is the (true) story of how the author and her husband Charlie Burrell stopped traditional farming on  Keppe Castle Estate, 3,500 acres of heavy weald clay in West Sussex, and let it return to nature, with only the occasional nudge from themselves.

Before the Second World War Britain imported about three quarters of the country’s food by ship each year. During the war enemy submarines and warships prevented much of this food from getting in. Fearing food shortages, the British government launched ‘The Dig for Victory’ campaign. People were urged to use every spare piece of land to grow vegetables. More importantly, marginal farmland was switched to intensive crop production and grazing. When the war finished, the country did not return that marginal land to nature but instead farmed it more intensively.

It was this typical marginal British farm that the author’s husband, who had studied agricultural at college, inherited in 1987 at the age of 23. His family had owned the land since it was a medieval deer park. It is situated on the famously heavy clays of the Sussex Weald: poorly draining “marginal” soil that sets like concrete in summer and porridge in winter.

Although intensively farmed since the war it had rarely made a profit. The couple thought that they could turn the business around by investing heavily in better dairy cattle and new technology, but by the end of the century they were deeply in debt and still losing money.

They had little choice but to sell off their farm equipment and dairy herd, letting off two-thirds of their land on contract to a neighbouring arable farmer. The land closest to their home they returned to nature, spraying it first with glyphosate (!) and then replanting it with native grass seeds. Three years later the neighbouring farmer let his contract drop, also unable to make a profit from the marginal soil, and the couple let that land return to nature as well. Slowly they introduced free-roaming grazing animals – cattle, ponies, pigs and deer – to act as proxies for herbivores that would have grazed the land thousands of years previously.

The couple now has 350 head of English longhorn cattle (100 cows and their youngsters), Tamworth pigs, red and fallow deer and Exmoor ponies. Rather than set targets to protect specific rare species, their principle is to allow “natural processes” to unfold. There is no predator control.

As an intensive farm, Knepp lost money in all but two years as a result of both high running costs, particularly labour, but most importantly because of capital investments in new machinery, such as dairy technology or new slurry lagoons or sewage systems to adhere to new legislation.

The ‘wilded’ farm has much fewer capital demands and only one employee. Annual farm income (not profit) is now made up of £120,000 from selling high-grade organic meat, £500,000 from renting former farm buildings to local businesses (attracting 200 full-time jobs to the local economy), £118,000 from renting seven former workers’ cottages and £230,000 from a ‘glamping’ site. The couple has recently started running ‘safaris’ to allow visitors the wildlife and explain what they are doing.

As far as subsidies are concerned, the farm currently receives £220,000 for having its land in the highest level of environmental stewardship scheme and £195,000 in “basic payments” which every British farmer receives via EU funds. What happens to these EU payments after Brexit remains an open question.

The couple admits that not every farmer is as lucky as they are. First, they got their timing right. They sold off all their farm equipment and livestock before the market tanked; as a result they were able to pay off their hefty mortgage, leaving them with no debts. This was partly because the farm has been in the family for generations: Charlie and Isabella had got the land for free, something that many farmers could only wish for. In addition, the EU was at that time just beginning to switch subsidies away from production and more towards ‘setting land aside’, leaving it idle.

Second, the couple was lucky in terms of geography: their farm is conveniently located close to London in the populated (and wealthy) South-East of England. This has obviously helped them with tourist income, as well as enabling them to rent their old farm buildings.

In a way their situation is similar to my own family smallholding outside Canterbury in Kent. As I described in my recent book, our land was worth more to the sports club next door than it was worth as a pig farm.

Wilding is beautifully written and I would recommend it highly to any nature lover. It describes in detail how wildlife has returned to the farm with astonishing results in terms of biodiversity with purple emperor butterflies, turtledoves and nightingales, to name just a few.

I would also recommend the book to any farmer struggling to stay afloat – and I know that many of you are. The author clearly explains how and why their farm failed—it was marginal land that shouldn’t have been farmed in the first place—as well as the difficult steps that the couple took in getting financial support to ‘rewild’ it. The author also clearly demonstrates how they are now beginning to take advantage of the recent trend for pasture-fed meat.*

The book is also important because the author emphasizes the point that grazing animals are—and always have been—an essential part of nature’s heritage. Indeed her most important—and most positive message—is that farming can benefit nature; it isn’t necessarily detrimental to the environment.

The author doesn’t pretend to have all the answers, but at least she poses the right questions.

* If I have understood correctly, grass-fed livestock must be fed on grass for 51 percent of their lives while pasture-fed livestock must be fed on grass for 100 percent of their lives.

© Commodity Conversations® 2020

The cost of food subsidies

A report published in September 2019 by the Food and Land Use Coalition estimates the total value of world food production at $10 trillion per year. However, the report argues that the environmental cost of food production is an additional $3.1 trillion, an amount that is not being paid by consumers, but being passed on in debt to future generations.*

As the graph below shows, the report’s authors estimate that the annual hidden costs of our current system of agriculture are even greater once you add in health and development. However, I am not sure that one can blame our farmers for, say, the world obesity epidemic, nor for malnutrition.

However it is not clear where subsidies fit into the calculations. The International Food Policy Research Institute (IFPRC), using OECD data, estimate that governments pay out $700 billion in farm subsidies each year, three-quarters of which are paid directly to farmers.

The Food and Land Use Coalition estimate the figure at closer to $1 trillion per year, and argues that the world has to “switch these subsidies into explicitly positive measures.” They say that they are a massive lever that could be used “to incentivise the farming community across the world to act differently.”

The EU agricultural subsidy bill comes to $65 billion per year, accounting for around 40 percent of the EU’s annual budget. However, as the New York Times recently reported, it is not always clear where the money ends up. One well-known statistic is that about 80 percent of EU agricultural aid goes to the top 20 percent of farmers; some 125,000 beneficiaries receive around $14.3 billion, or about $113,500 per farmer.

In the past couple of years the Trump administration has given US farmers about $28 billion in additional subsidies to offset the effect of the trade wars and the resulting higher Chinese tariffs on US agricultural products.

However, when it comes to agriculture, direct subsidies are just one of the screwdrivers in a government’s toolbox. As the Food and Land Use Coalition write in another report, there are three types of agricultural support:

  • Trade or border measures such as tariffs or quotas that provide market price support;
  • Direct subsidies on output or on the inputs (such as fertilizers or seeds) that create incentives to increase output;
  • Decoupled subsidies that avoid incentives that change output levels but provide direct income support to farmers.

The nature of agricultural support has changed substantially in the past 20 years or so. The traditional pattern of agricultural support involved substantial support to farmers in the rich countries, while poor countries, on balance, used to tax agriculture. In wealthy nations, average rates have fallen and there has been a move away from trade measures and towards decoupled protection that seeks to avoid pushing for higher agricultural production and reducing the market access opportunities of other countries.

In developing countries, agricultural policy has shifted from net taxation to net assistance: most support is provided through border measures that generate revenues, such as tariffs, rather than subsidies paid by governments.

In an interview for my 2015 book The Sugar Casino, Sunny Verghese, CEO of Olam and current chair of the World Business Council for Sustainable Development, estimated that “between 55 and 60 percent of global agriculture is unviable (economically and environmentally), only supported by government subsidies and transfers from taxpayers to the farmers.” He cited 2012 figures that showed that the 30 OECD countries paid out US$387 billion in farm subsidies, while the rest of the world paid out around $615 billion.

I asked Sunny how he would resolve the dilemma that you need higher agricultural prices to reflect the true cost of food, but that higher prices will affect the poor people the most. He suggested a “simple” answer: transfer all the subsidies that the rich world gives to farmers who don’t actually need the money – to the poor.

“We need to start to try and use those subsidies to ensure that people below the poverty line are not impacted by high food prices,” he told me.

© Commodity Conversations ®

*I remember seeing another study, perhaps by the WWF, that estimates the annual environmental cost of food production at $2 trillion, but I have been unable to locate the report. If anyone does know where I can find it, please let me know.

Cheap Food

According to research by ‘New Which?’ UK food prices are lower in real terms now than they were 30 years ago. White fish is the only food that has risen in price during that period, from £12.21 per kg in 1988 to £14.41 per kilo now. All other foods researched by the magazine now cost less than in 1988.

Sugar—a food close to many of our hearts—has halved in inflation-adjusted terms from £1.44 per kg to £0.75 per kg over the past 30 years. Vegetables have also halved in price over the period, while meat (beef, pork and chicken) have all fallen between 10 and 15 percent. Bananas have seen the biggest fall in price, from £2.82 to £0.94 per kilo. Bananas are the top ‘impulse buy’ foods in UK supermarkets.

‘New Which?’ suggests three reasons why this has happened:

  • Increased yields, or what the magazine calls the ‘industrialisation’ of farming;
  • Increased imports, or what could be considered as increased competition for UK farmers—either that or economics doing its job through ‘comparative advantage’. It may be cheaper for example, to import winter strawberries from Spain rather than to grow them in UK greenhouses;
  • Increased purchasing power of the supermarkets as they compete with each other to be the cheapest.

In the 1950s, UK consumers spent a third of their income on food. By 1974 this had fallen to 24 percent and it is now estimated to be around 10 percent. After Singapore and the US, the UK spends the lowest proportion of household income on food shopping.

However it is not just in the UK that food prices have fallen. The UN’s FAO (Food and Agriculture Organisation) has published an index of world food prices since the early 1960s. In inflation adjusted terms the index is now at the same level as in 1961, and significantly lower than during the commodity price boom of 2006-2012.

This is an extraordinary occurrence when you consider the massive increase in population over the period, as well as the increased diversion of crops to both biofuels and livestock.

On the other side of the coin, energy prices—a major component of food production costs—have doubled in real terms since the 1960s.

Cheaper food my be good for consumers, but it makes life tougher for the world’s farmers. Last year the legendary cocoa trader Derek Chambers retired after 50 years in the business. In a farewell interview he told Bloomberg, “It is a great regret of mine that farmers in West Africa were poor when I came into the business and are still poor, probably even poorer now.”

(He had particularly harsh words for the movement for greater sustainability in the food supply chain: “The business that has grown up around the need for sustainability does not benefit the farmers anywhere near as much as it does the NGOs, companies and individuals involved in the circus.”)

Low food prices don’t just keep producers in poverty, they may also mean increased waste. When grocery shopping accounted for a quarter of a UK family’s budget they probably paid more attention not to waste food than now when it only accounts for 10 percent of the family budget.

Most importantly, current low food prices don’t cover the full cost of producing it: externalities such as deforestation, water pollution, and GHG emissions, along with the declining health of our soils, are currently not paid by anyone. Instead they are building up as debts to be paid by future generations—our children and grandchildren.

There is an old saying in economics that ‘there is no such thing as a free lunch’. Someone is paying – or will pay – the true cost of our food, even if we aren’t!

© Commodity Conversation ®

My PC lunch

“It depends,” he said. “If they are free range then that’s OK, but if they are battery-raised then you should really not eat them.”

I was having lunch with an old friend and we were studying the menu, a three course set lunch. I had told him that I might have the quail eggs as a starter.

“You see,” he explained, “quail are wild birds that are easily startled. When they are in cages they try to fly away and can often break a wing. Chickens are different: they have been domesticated for thousands of years and are not so easily startled. We will have to ask if the quails are free range.”

“What about the octopus?” I asked.

“Can you believe that they are now starting to farm octopus?” he asked me. “It is incredibly cruel. Octopuses are intelligent creatures; they will suffer terribly in a confined pond. But they will probably learn to escape anyway.”

“I think I will have the winter salad,” I said, taking the third choice starter. But what are you having for your main course?” I asked. The choice was beef, lamb, cod or pasta.

“It’s a problem,” he replied. “I read recently that lamb can have a higher carbon footprint than beef because there is less meat on each animal, but it depends on whether the lamb is locally produced or imported from New Zealand. Do you know that imported lamb can sometimes have a lower carbon footprint that local lamb?”

“What about the beef?” I asked, ignoring his question.

It depends if it is grass-fed,” he replied.  “I am trying to cut down on meat generally. I saw that documentary the other evening, The Game Changers, about top athletes switching to vegan diets. It seems to work for them.”

“I think I will have the pasta.”

“You’re lucky,” he told me. “I am gluten intolerant—not coeliac—but if I eat wheat I blow up like a balloon. It’s most uncomfortable!”

The waitress came to take our order. She looked nervous and I guessed it might be her first day in the job.

“Do you know if the quail eggs are free-range?” my friend asked her.

“I am afraid I don’t,” she replied nervously. “But I could ask.”

“Yes please,” I replied. I didn’t much fancy the winter salad and would have preferred the eggs. The waitress disappeared for quite a while and then came back crestfallen.

“The chef doesn’t know about the eggs,” she told us sadly.

“What about the octopus?” I asked. “Is it farmed or wild?” A look of panic crossed her face. “Don’t worry,” I said, “I will have the winter salad.” She looked relieved and noted it down on her pad. My friend told her that he would have the same.

“What about the beef?” he asked her. “Where was it raised—what is its origin? You know, you really should mark on the menu where you source your meat.”

For a moment I thought she would burst into tears.

“I will ask the chef,” she told him.”

“And please ask him for the lamb as well please.”

“Yes sir,” she replied as she fled back to the kitchen.

“Are we allowed to eat cod at the moment?” I asked my friend. “I read somewhere that the cod stocks were being depleted again. It is difficult with fish—there is always a danger of overfishing.”

My friend was about to answer but we were distracted by the sound of shouting from the kitchen. Our waitress returned, looking rather flushed.

“The meat comes from the UK,” she told us rather cautiously. “The lamb is from Wales and the beef is from Scotland.” I guessed that she was making it up, or that the chef had told her to make it up.

“I will have the beef then please,” my friend told her.

“And I will have the pasta.”

“Could you please choose your deserts as well please?” our waitress asked us.

I looked at the menu and chose the cheesecake. My friend ordered the same.

“But only if it is made with Bonsucro certified sugar,” he added.

“You’re kidding me!” I exclaimed.

“Yes,” he replied with a laugh. “I am kidding you! But I am not sure about the cheese. Dairy has a high carbon footprint, you know.”

© Commodity Conversations ®

Lessons learnt

A friend of mine recently asked me what I had learned from writing The New Merchants of Grain. A quote from Winston Churchill came to mind. He said,

“Writing a book is an adventure to begin with, it is a toy and an amusement, then it becomes a mistress, and then it becomes a master, and then a tyrant. The last phase is that just as you are about to be reconciled to your servitude, you kill the monster, and fling him out to the public.”

I had already had that experience with my earlier books, but what did I learn from writing this book in particular? I have come up with five ‘lessons-learnt’.

The first is the importance of leadership. CEOs and senior managers often get a bad press, but they play an essential role in setting both the culture and the strategy of a company. Management consultants may talk about ‘bottom-up’ organisations, but in my experience everything comes from the top. Of course not all CEOs are equal, and a company has to have the right one, but after writing this book I will never again say that a CEO is overpaid!

The second is that companies are just people. Again the media likes to present big companies as faceless organisations, but they aren’t. Enterprises are just a bunch of real people trying to do the best they can for their company, their families and for the world in general. Of course there will always be people who prioritise their own self-interest above the general good, but they tend not to last long in a team-based structure. And all companies are team-based structures.

Third, writing this book really drove home to me the cyclical nature of our business, not just in terms of agricultural production but also in terms of investment in infrastructure. Booms lead to busts. We all know that, but we still often fall into the trap of believing that ‘this time will be different’. It rarely is, and it can take years to work off the investment overhang.

Fourth, writing this book drove home to me the way in which up-cycles—and their accompanying profits—attract new players, increasing competition just as the cycle turns and times get tougher.

It is often said that in a slow growth industry you have to be in the top three companies to earn a decent return. As I wrote in my book, seven companies account for 50 percent of the world trade in grain and oilseeds. That may be four too many. But also as I wrote in my book, consolidation is currently blocked, leaving participants to eek out economies of scale in regional and sectoral joint ventures. This situation may last a while.

Lastly, I learned that different markets behave in different ways. Sugar may be similar to grain, but it is not the same.

When I started in the business 40 years ago commodities used to trade in silos. If you began your career as a cocoa trader you stayed a cocoa trader—and it took a lifetime to really learn the business. Meanwhile, what happened in the cocoa market rarely affected what happened, say, in coffee or orange juice.

This situation changed over the intervening years with the ‘financialisation’ of the commodity markets. The growth in computer power, accompanied by the growing popularity of commodities as investment tools, led to the market rather than the commodity being the dominant factor. A hedge fund manager could trade numerous commodity markets without any real understanding of each underlying commodity.

This has now been largely discredited, and commodity hedge funds have pretty much disappeared. We are seeing a return to commodity ‘silos’ where traders become experts in their own commodities, rather than in commodity markets as a whole.

I would venture that we are in the process of transitioning back to markets that are once again based on underlying fundamentals, viewed of course through the filter of human emotions. That would be a big positive for our industry. I hope I am right!

© Commodity Conversations ®

Out of the Shadows – The New Merchants of Grain is now available on Amazon

Sugar’s New Normal

Last week my daughter and I were honoured to co-chair the 28th ISO Seminar in London. It was a great event as always, well organized and well attended.

The ‘War on Sugar’ was omnipresent at the event, centre stage in both the conference and coffee rooms.

Some attendees were optimistic that they would eventually win the war—that sugar demand would pick up again once folks realized that cutting sugar consumption was no silver bullet in the battle against obesity.

One presenter explained that the objective of most governments and NGOs was to reduce sugar’s share in daily calorie intake to 5 percent, as recommended by WHO guidelines. However, replacing one calorie by another will not solve the obesity problem.

Other presenters gave examples of chocolate and food manufacturers who are reducing sugar content in their products but replacing it partly with fat, the net result being lower sugar content but the same number of calories.

However, for the moment at least the sugar industry is losing the war. It is having to come to terms with slowing demand growth or, in some instances, an actual decline in outright demand. This is a completely new paradigm, and it is taking some time for the new reality to sink in. It has a number of implications.

Agricultural sugar yields, particularly in beet, have historically been increasing at around 1.5 percent per year, enabling the sector to meet rising demand with little need for new areas. However, zero demand growth coupled with rising yields means that farmers will have to reduce their sugar acreage.

Also, when sugar demand was growing at 3 million tonnes per year, any surplus production one year could be relatively quickly absorbed in the following years. Now, if one country over-produces—as recently happened in India—other countries have to reduce production if they don’t want the surpluses to hang around, weighing on the market.

The sugar sector is similar to grains in the sense that it has over-invested in capacity, both in refining and milling. In the past that wouldn’t have mattered too much because demand would have eventually caught up. This is no longer the case.

If demand is stagnant, the only solution is consolidation and rationalization. This is already happening, particularly in Europe and Brazil where factories are being closed.

It is not all bad news. First, demand is still growing strongly in some regions, particularly in Africa, but also to a lesser extent in Asia. This presents local opportunities. Second, rationalization and consolidation can lower costs if smaller less efficient units are closed. Third, slow growth sectors are less attractive to potential new entrants, reducing the threat of excessive capacity investment.

The sugar sector is also lucky in that sugar cane and beet are extremely versatile products. It doesn’t have to produce only sugar and can diversify into ethanol, bioplastics, energy generation, fibres etc. Unsurprisingly, diversification was a hot topic at the seminar.

Meanwhile, many food manufacturers are taking advantage of the anti-sugar hype to reduce the size of their products, particularly drinks and chocolate bars. But they are not reducing the prices of these products—another example of companies becoming more profitable in a zero or negative growth market. In addition, many sugar producers are starting to produce higher-value and innovative reduced-sugar sweeteners.

If you look around you can see plenty of zero growth, or low growth industries that are highly profitable. There is no reason why sugar shouldn’t be one of them.

However, as more than one presenter pointed out, it is the consumers that now have the power;  you have to follow the trends and produce what they want. But what they want is not always what they say they want. Consumers may say they want a healthy sustainable product, but what they buy is actually a convenient low-cost tasty one. In order of importance, taste comes first, price second and convenience third. Health is fourth and poor old sustainability fifth.

Having said that, modern day consumers take for granted that their foods are sustainable and healthy—and they rent their outrage on social media when they are not. Unfortunately, consumers are not willing to pay for sustainability. This means that the extra costs involved are passed down the value chain to the farmers, making them worse off. It is a problem that I have often touched on in my blogs, but so far no one has found any solution to it.

On a brighter note, one piece of research presented at the seminar found that consumers prefer the cake to their presents on their birthday. Baking a cake is apparently seen as an act of love, more so than just buying a present. I will remember that for my grandchildren!

© Commodity Conversations ®

Trading is a people business

A conversation with Ito van Lanschot

Ito van Lanschot is a business developer, strategist, investor, leader, risk and commodity expert. He is founder and managing director of TRADESPARENT BV, (formerly named Commodity Services & Solutions) which is today a leader in commodity data and solutions.

Previously Ito was CEO of BayWa Agri Supply and Trade, President and COO of Reliant Energy Europe and CEO of Nidera where he was directly responsible for the international trading and processing business and operations for the grain and oilseeds complex, freight, energy business and the development and implementation of its global risk group.

You left Nidera 4 years before COFCO acquired a 51 percent stake. While you were CEO, had you already started to look for an equity partner for Nidera?

Indeed, as the company had grown tremendously, and financing became an issue—how do we finance future expansion? Markets were volatile and prices were rising; high prices mean that you need more trade finance. Banks were willing to lend, but they increasingly looked at Nidera’s solvency ratio. Equity was important, and we needed more equity. We started to look around for equity partners to take a 10 to 15 percent in the company

Why did the families decide to sell the whole company rather than the initial 10 or 15 percent?

I left Nidera in 2010 so I was not involved in the transaction. I can only speak from what I have heard second-hand. While our initial intention had been to find an equity partner, the families also wanted a strategic partner to help grow the business. They found that strategic partner in COFCO.

COFCO was interested in acquiring the origination assets that Nidera had in Argentina and Brazil. Nidera was interested in COFCO as a strategic partner. The 51 / 49 percent deal that they eventually agreed was in line with that logic. The idea was that Nidera’s managers would continue to run Nidera with an assist from COFCO.

Nidera posted its first loss in five years in 2015 after a rogue trader incurred losses of around $200 million in the biofuels market. How did that happen, and why didn’t risk management controls catch it earlier?

I was the last CEO of Nidera who had a trading and risk management experience. A financial manager took over after me, and ultimately a gentleman from Unilever. As often seen in the various trading industries, it is difficult to manage traders, you can have the best governance structure and control systems, but you always have to keep your eyes open for anything that looks out of the ordinary. So, I believe it is easier for an experienced trader to understand and to know what is not right. It takes a trader to catch a trader.

Do you think there is still a role for small trading houses in today’s market?

You have to be highly specialized to operate in a trading market. With the strength of the farmer and the strength of the consumer, the trader has to have a very defined role and to add value. I find it hard to believe that the smaller traders can add value unless they have something really unique in their product offering. And the markets are so transparent that this is unlikely.

The large guys are struggling as well. Our whole industry is going through a period that is similar to the time after the Great Grain Robbery of the 1970s. It was difficult to make money in the 1980s and 1990s, and it is difficult to make money now.

What are the greatest risks or challenges that the trading houses face today?

The biggest risk a manager has is in taking decisions on reports based on incomplete or incorrect information. It is a real struggle for companies to collect the correct data in these fast moving and complex markets. Senior management needs to drive this effort and embrace technology themselves, and not leave it to their IT-staff alone.

In the past, trading companies had margins, so they could get away with taking the odd bad decision; everyone makes bad decisions from time to time. But today there are practically no margins in the business, and you are punished immediately for a bad decision.

Thank you, Ito, for your time and insights.

© Commodity Conversations ®

This is a brief extract of a conversation from my new book Out of the Shadows – The New Merchants of Grain available on Amazon