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The Chain: IOI sues and FGV withdraws – both actions increase buyer risk

May 12, 2016

IOI Takes RSPO to Court

On Monday, IOI Corporation (IOI:MK) announced they were taking the RSPO to court over its decision to temporarily suspend the palm oil giant. IOI filed its challenge in the Zurich District Court of Switzerland, arguing that upstream deforestation should not impact downstream processing units, which they contend are under a separate RSPO mechanism. In February, CRR analyzed IOI’s alleged violations and their potential financial impact.

IOI is not the first company suspended, or threatened with suspension, by RSPO – but its aggressive legal response is unprecedented. Many other companies have successfully worked with RSPO to arrive at mutually beneficial outcomes, including Wilmar, Genting, and Bumitama. Other companies have voluntarily removed their memberships from RSPO to improve their operations and then returned to RSPO at a later date.

Felda Withdraws RSPO Certificates

Last week, on 3 May 2016, Felda Global Ventures (FGV:MK) withdrew their RSPO certificates from 58 of its 71 Malaysian mills. FGV’s move does not influence their ongoing RSPO Supply Chain Certification System (SCCS) certificate of its kernel crushing plants and downstream refineries.

By withdrawing mills from RSPO certification, FGV increases its reputation risk while putting pressure on its margins as they choose to temporarily exit the RSPO market. The self-imposed action, however, is widely assumed to be a preemptive move by the company, possibly tied to seven ongoing Malaysian court cases over fresh fruit bunch oil extraction rate price manipulation. Other sources suspect FGV withdrew because they were clearly shown to have deforested 880 hectares of identified High Conservation Value peatlands.

Whatever the reason, the withdrawal gives FGV time to improve its operational risk management processes and does not appear to reflect that FGV is losing faith in RSPO. The RSPO market is rapidly growing – increasing 165% year over year – while uncertified palm oil market growth is stagnant or declining as many buyers switch to less expensive soymeal oil.

Analysts were sharply negative on the withdrawal. FGV’s RSPO sales are 7% of their revenue while IOI’s RSPO sales are 51% of their revenue, reported Kenaga Research. BIMB Research found that the company faces potential premium sales losses from its inability to supply certified palm oil, and BIMB Securities reduced FGV’s FY2016 to FY2017 earnings by 3% to 2.8%. Public Investment Bank said the company may lose their RSPO premium of about US $25 per ton, and Kenanga Research thinks the move could decrease 2016 FGV revenue by $4.2 million, reducing the company’s fiscal year 2016-2017 earnings estimates by 7% to 10%. TA Securities Holdings Bhd also said that FGV’s lack of CSPO premium sales going forward would impact their bottom line.

Two Approaches to Similar Problems

IOI’s response to sue the RSPO following its temporary suspension may be an attempt to manage its reputation risk by suing RSPO. IOI violated RSPO principles and criteria at the plantation level, which in turn is jeopardizing firm-wide reputation and goodwill, and putting cash flow at risk. As a result, major buyers including Unilever, Mars, Kelloggs and Nestlé have cut back on the palm oil they buy from the company.

FGV, under similar circumstances, is choosing to mitigate is reputation risk through removing its mills from certification. This proactive model gives FGV three years to fix its operational risk management culture – from its plantation manager to its Board. While FGV’s decision in the near-term may have a negative impact on cash flows, FGV’s decision “does not does not affect Felda Group’s RSPO Supply Chain Certification System (SCCS) certificate of its kernel crushing plants and downstream refineries.” By doing this, FGV will mitigate its reputation risk while giving it time to improve its firm-wide risk culture.

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