The Chain: Noble Group’s Palm Oil Investments Value Decreased by USD 60 Million

On August 10, 2017, Noble Group posted a USD 1.75 billion loss for Q2 2017. Four days later, Moody’s, S&P and Fitch cut Noble Group’s credit rating one or two notches to Caa3, CCC- and CCC, respectively. S&P analysis suggests that Noble Group’s creditors may experience non-payment within six months. As shown in Figure 1 (below), these three credit ratings agencies have cut Noble’s credit rating four, five and six times this year, respectively.

To shore up its financial situation and potentially avoid default and bankruptcy, Noble Group has a tight timeline to sell its assets to meet is Q3 2017 cash needs. Bloomberg reported (paywall) that Nomura estimates Noble Group’s Q3 2017 cash outflows at USD 387 million including its next bond repayments and coupon payments due in September 2017.

But the problem is that since Noble Group’s highest share price of USD 12.83 March 31, 2011 to its lowest share price of USD 0.33 August 17, 2017, in the intervening 26 quarters, Noble has 14 quarters with negative cash from operations and only 12 quarters with positive cash from operations.


Figure 1: Credit rating agencies cuts to Noble Group 2016-2017. Source: Bloomberg.

What does this Mean for Noble Group’s Palm Oil Investments?

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The Chain: JBS Improving Its Governance and Cash Position While Brazil’s SEC Opens Case

Last week, JBS appointed Alfred “Al” Almanza as Global Head of Food Safety and Quality Assurance, reporting directly to JBS Global President of Operations Gilberto Tomazoni. From 2014 to 2016, Almanza was Deputy Undersecretary at U.S. Department of Agriculture Food Safety and Inspection Service under Secretary Tom Vilsack.

Almanza has a 40-year career as an expert on the food safety, risk management, the development of modern inspection systems and international sanitary systems and standards that enable market access for meat and poultry products. As Dallas District Office manager, he led a team of more than 7,000 FSIS field employees.

Almanza’s focus at JBS will be to enable JBS global operations to achieve and implement the highest food safety and quality control and risk management systems globally, to maintain and grow their export presence globally.

Almanza has a lot of work ahead of him.

JBS is facing numerous issues it needs to manage concurrently to maintain its position as the largest meatpacker globally.

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Report: Olam International – Deforestation Risks from its Peruvian Coffee Supply Chain

Coffee production has been identified by the Peruvian Agricultural Census of 2012 as one of the major drivers of deforestation in the Peruvian Amazon, making up 25.4 percent of agricultural land in this region. Smallholders with less than 5 hectares (ha) of land produce 62 percent of the coffee grown in the Peruvian Amazon, often applying shade-grown techniques. Smallholder coffee production and the expansion of the agricultural frontier by migrant farmers contribute to deforestation and forest degradation.

In 2016, Olam Peru was the second largest exporter of coffee from Peru with 13 percent volume share. Olam Peru has an important role in the coffee value chain. It purchases 95 percent of its coffee from smallholders through agents and intermediaries. Its parent company Olam International (Olam) has zero-deforestation goals, but policy implementation remains not fully adopted within Olam Peru’s coffee value chain. This exposes Olam to deforestation risks, which could result in reputational damage.

Key Findings

  • Olam International has extensive environmental sustainability policies. Olam’s upcoming Global Forest Policy, will have a cross-commodity scope and may apply to Olam Peru’s coffee supply chain.
  • Olam Peru is one of the largest coffee traders in Peru. In 2016, it accounted for 13 percent of Peruvian coffee exports. As most Peruvian coffee is produced for sale to export markets, Olam Peru has an important position in the coffee value chain. Olam Peru sources 95 percent of its coffee through a network of licensed agents, intermediaries and traders. Suppliers are selected on a day-to-day basis.
  • Government institutions, research agencies and civil society have identified coffee as a major driver of deforestation in the Peruvian Amazon. Coffee has the highest land coverage and highest expansion rates of all commodities produced in the Peruvian Amazon. Small-scale coffee production and the expansion of the agricultural frontier by migrant farmers contribute to forest loss.
  • Olam Peru uses certification schemes for parts of its supply chain. It applies its Livelihood Charter and Supplier Code to smallholders and intermediaries, but Olam Peru is unable to guarantee a zero-deforestation supply chain. Olam Peru does not suspend trading relations in response to non-compliance with its sourcing policies.
  • Olam International faces reputational risk because of deforestation in Olam Peru’s coffee supply chain. It is unlikely that Olam faces possible loss of clients or regulatory sanctions because of Peruvian deforestation in its supply chain. If Olam Peru lost all its Peruvian coffee sales due to deforestation risks, it would have a negative impact of 0.5 percent on Olam’s enterprise value. Because of Olam’s high debt level, this would trigger a negative 1.6 percent impact of 1.6 percent on its equity valuation. This USD 60 million annual loss of client revenue would exceed the estimated USD 10 million financial gain from extra coffee sales by Olam Peru from deforested land.

Financial Risk Assessment: Conclusions

  • Olam’s Confectionary and Beverage Ingredient segment contributed respectively 37 percent and 30 percent to its 2016 net sales and adjusted EBITDA. Olam should focus on managing the reputational risk of this important segment.
  • Olam Peru’s coffee business generated about USD 100 million in sales in 2016, which is 2 percent of the Confectionery and Beverage segment and 0.7 percent of Olam’s sales. As the Confectionary and Beverage segment has a relatively low margin, its estimated EBITDA contribution from Peruvian coffee is 0.5 percent.
  • Olam Peru’s deforestation risk will probably not lead to a loss of clients. However, if Olam Peru would lose all its Peruvian coffee sales this equals a negative 0.5 percent impact on their enterprise value. As Olam International is leveraged with a high level of debt, this would trigger a negative impact of 1.6 percent on the equity valuation. This worst case USD 60 million negative impact from a loss of clients would substantially exceed the estimated financials benefits of USD 10 million from the extra coffee sales from deforested land.
  • Minority shareholders might be successful when engaging with Olam. As the Confectionery and Beverage segment is important to Olam, the company and its dominant shareholders could be willing to adjust their Peruvian policy.
  • Olam has a high net debt/EBITDA. Of its gross debt, 70 percent is from bank credits and 25 percent from bonds. In credits, leading banks are in the syndicates. In bonds, leading asset managers hold stakes. As a majority of banks/investors have high scores on their deforestation policies, we should expect engagement about the Peruvian deforestation related to coffee production.

Download and read the full paper here: Olam International Peruvian Coffee Supply Chain Deforestation Risks

The Chain: Noble Group Crisis May Understate Palm Oil Liabilities and Pose Risks to Forests

In the summer of 2016, Chain Reaction Research profiled Noble Group. At the time, Noble’s market cap was around USD 2 billion. Likewise, Moody’s, S&P and Fitch had long-term credit rated Noble speculative grade at Ba3, B+ and BB+ respectively.

Some key takeaways from the July 2016 analysis were:

  • Investors may sell or divest from Noble because of potential decreases in future revenue.
  • Noble’s balance sheet oil palm plantation valuation may be inaccurate because its concessions includes potential peatland and primary forests that may not be cleared under Roundtable on Sustainable Palm Oil (RSPO) principles.
  • Sustainability concerns may impact Noble Group’s cost of debt.

If Noble Group Defaults, Impact on Oil Palm Concessions Unknown

In June 2017 and July 2017, Chain Reaction Research again profiled Noble Group and the complex set of issues facing investors regarding the company’s oil palm plantations. According to Noble Group’s 2016 Annual Report, their total landbank is greater than 70,000 hectare (ha). Noble’s concessions had previously passed RSPOs New Planting Procedure (NPP) in 2012 and 2014. Their oil palm plantation estate includes:

  • PT Henrison Inti Persada (PT HIP) in Sorong, Indonesia.
  • PT Pusaka Agro Lestari (PT PAL) in Mimika, Indonesia.

These key risks facing investors are further complicated by Noble Group’s recent environmental and financial news:

  • On May 16, 2017, environmental groups filed a complaint against Noble Group’s High Conservation Value (HCV) assessor alleging poor quality
  • On July 10, 2017, The Financial Times reported that Noble Group creditor HSBC pushed for an investigation into Noble’s environmental practices – including allegations it planned to clear-cut 18,000 ha of rainforest from its concessions in Papua, Indonesia. The RSPO then ordered Noble to halt further development of its palm oil holdings.
  • On July 6, 2017, investment fund Goldilocks increased its recent purchases in Noble to 107.564 million shares. Goldilocks’ direct interest in Noble now totals 8.19 percent. Goldilocks is an indirect subsidiary of Abu Dhabi Financial Group.
  • On July 26, Noble announced an agreement to sell its North American gas and power business for USD 248 million to Mercuria Energy Group.

Then, on July 27, Noble Group announced Q2 2017 losses as high as USD 1.8 billion. On this news, its shares fell 31 percent day-over-day to close at SGD 0.395 from their July 26 close of SGD 0.575. Traded volume was more than 75 million shares, three times its 15-day moving average.

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The Chain: Misleading Climate Advertising Causes EU Legal Liabilities, Ferrero Wins Nutella Lawsuit Over Ahold Delhaize

In June, Ferrero won an EU lawsuit in the Belgian National Court against Ahold Delhaize. Delhaize, before its merger with Ahold in 2015, had run an advertising campaign stating that Nutella and other Ferrero products contained palm oil, regardless of Ferrero’s sustainable palm oil and Roundtable on Sustainable Palm Oil (RSPO) commitments. Since 2014, Ferrero has purchased only ‘segregated’ RSPO-certified palm oil. The term ‘segregated’ means that Ferrero’s palm oil supply chain is kept separate throughout the supply chain from any other palm oil. The court ruled that Delhaize’s campaign ran afoul EU law against misleading advertising.

Background – Palm Oil is Big Business

Palm oil is a staple of many consumer goods, biofuels, and plastic substitutes. It is found in about half of all packaged products purchased by Western consumers. Demand for palm oil has tripled over the past fifteen years. In 2016, global palm oil production was 58.3 million metric tons. Malaysia and Indonesia produced 85 percent of global supply. In 2016, palm oil production was a USD 65 billion market.

Oil palm trees yield about 4 to 5 metric tons of crude palm oil (CPO) and 0.5 metric tons of crude palm kernel oil (PKO) per hectare (ha) per year. Because oil palm production achieves a higher yield than other oilseeds, it is attractive for cultivation. This has made it the most actively traded vegetable oil globally.

At the same time, palm oil production is a key driver of both deforestation and peatlands clearance in Indonesia and Malaysia. These activities have major negative impacts including greenhouse gas emissions, public health risks, human rights violations, land grabbing, and result in irreversible biodiversity loss. Chain Reaction Research estimates suggest that at least ten percent of Indonesia’s land is under concession to palm oil estates which has resulted in about 3 percent of Indonesia’s oil palm estate to be potentially a stranded asset due supply and demand constraints associated with deforestation regulations by governments and voluntary commitments by corporations.

Voluntary Corporate Commitments

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The Chain: UBS and Aviva Investors State Financial Stability Board’s New TCFD Proposal Supports Deforestation Risk Mitigation

July 19, 2017
On June 29, the Financial Stability Board Task Force on Climate-Related Financial Disclosures (TCFD) published their final report including key recommendations for the Agriculture, Food and Forest Products sector. The Financial Stability Board (FSB) monitors and makes recommendations about the global financial system with FSB members including all G20 economies, the European Commission and other relevant financial and monetary leaders. Its current chair is Mark Carney, Governor of the Bank of England.

Bruno Bertocci, Managing Director, Head of Sustainable Investors, UBS Asset Management and TCFD member stated:

“TCFD framework enables addressing material deforestation risks in agriculture supply chains and for downstream buyers.” (Interview, July 19, 2017).

Steve Waygood, Chief Responsible Investment Officer, Aviva Investors stated and TCFD member stated:

“The TCFD will be both a mirror and a widow. A mirror as it will help companies study where they can improve their own risk management practices. A window as it helps the market understand where climate risks exist in their portfolios. This is particularly important where those risks are not being managed well.” (Interview, July 19, 2017).

The purpose of the TCFD work is to develop voluntary climate-related financial disclosures that are consistent, comparable, reliable, clear and efficient. They also aim to provide information to lenders, insurers and investors the aids decision making. The TCFD was developed in response to Mark Carney’s Breaking the Tragedy of the Horizon: Climate Change and Financial Stability speech in fall 2015. The FSB chose 32 members to lead the TCFD. These individuals represent financial markets and economic sectors from the G20 and broadly cover both users and preparers of disclosures of financial data. Over an 18-month period, the TCFD developed voluntary guidance on climate-related financial disclosures, seeking input from global stakeholders through an exhaustive set of engagements, and then published their final recommendations.

These TCFD disclosures and their specific Agriculture, Food, and Forests Products sector recommendations are built upon years of experience from implemented disclosure platforms and knowledge generated from recent sustainable banking initiatives. As an industry-led initiative, the TCFD recommendations bring climate-related disclosures to a mainstream audience. The TCFD process is important for investors to be aware because it provides voluntary guidelines for better data as a climate risk mitigation tool in the Agriculture, Food, and Forests Products sector.

The TCFD stated in their findings that they see clear evidence for the need for climate-related financial disclosure in the Agriculture, Food, and Forest Products sector’s financial statements, specifically its: Continue reading

New Report: Sustainable Banking Initiatives – Regulators’ Role in Halting Deforestation

Greenhouse gas (GHG) emissions from tropical deforestation are among the key contributing factors to climate change, contributing around 10 percent of total GHG emissions based on 2010 figures. Natural forests are under threat of deforestation and forest degradation, leading to significant carbon emissions, loss of biodiversity and livelihoods of indigenous communities, and other adverse sustainability impacts. Such conversions are often driven by the expansion of agricultural commodity production in tropical countries. Noteworthy examples include the Chain Reaction Research focus countries, Brazil, Colombia, Ecuador, Indonesia, Peru, Democratic Republic of the Congo, and Liberia. As shown in Figure 1 (left), 2012 to 2016, commercial banks financed over USD 50 billion to support tropical timber, pulp & paper, palm oil, and rubber expansion in SE Asia.

The Financial Stability Board Task Force on Climate-Related Financial Disclosures (TCFD) published June 29, 2017 their final report with key recommendations for the Agriculture, Food, and Forest Products Group.

As stated by the UNEP Finance Initiative, international financial banking regulation generally does not recognize environmental and social risks including those from deforestation as material risks to financial stability. The Basel Capital Accord III has not yet addressed deforestation risk. Yet the sector is changing: over the past ten years sustainable banking initiatives by national policymakers and regulators have emerged. These initiatives can support the commercial banking sector in mitigating deforestation risk while enabling sustainable economic development.

Findings and Recommendations

  • Binding regulation is more likely to be effective than voluntary initiatives. Sustainable banking initiatives are generally not older than a decade. Previously, the field was led by voluntary and industry-driven initiatives. On their own, these non-binding guidelines and recommendations may not be sufficient to mitigate deforestation risk. Binding regulation is more likely to be effective, especially when it is accompanied by detailed implementation guidance and standardized disclosure formats, as in Bangladesh and China.
  • Financial regulators should address environmental and human rights risks in economic sectors driving deforestation. Requirements can prevent further loss of tropical forests and related impacts on biodiversity, climate and livelihoods. Experience from Brazil shows that initial sector-targeted banking regulations can be efficient in reducing deforestation.
  • Financial institutions should be obligated to mitigate deforestation risks linked to the activities they finance. Assessing their own risks arising from their exposure to these industries could help to contain damaging practices like rampant deforestation, land grabbing and human rights breaches.
  • Experiences on binding regulation from Bangladesh, Brazil, and China may be useful to other regulators as indicators for what may work. While it is too early to make generalizing conclusions on the effectiveness of different sustainable banking measures and frameworks, there are some encouraging indications from Brazil, Bangladesh and China.

Download and read the report here: Sustainable Banking Initiatives – Regulators’ Role in Halting Deforestation