IOI Corporation Commits To Improving Its Supply Chain Risk Management

IOI Corporation Commits To Improving Its Supply Chain Risk Management
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Chain Reaction Research reported that Moody’s reported on Monday, May 8, 2017 that IOI Corporation’s renewed commitment to complying with Roundtable on Sustainable Palm Oil (RSPO) certification requirements supports IOI Corporation’s corporate customer retention.

Moody’s stated that:

“Compliance with RSPO principles and criteria is an important differentiating factor for palm-oil producers, providing a competitive advantage and profitability enhancement in the industry. RSPO-compliant palm oil producers are well positioned for growth, particularly in Europe and North America, because certified crude palm oil and its derivatives are increasingly required by leading global food and household product companies.”

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Environmental NGOS have criticized IOI’s performance beyond its recent breach of its certification requirements. Other criticisms have focused  on IOI clearing peatlands in Ketapang, Indonesia. Environmental NGOs have also protested IOI’s palm oil facilities and put pressure on its financiers due to land and labor rights violations and shortfalls in its palm oil production policy.

On April 28 th, IOI committed to implement global best-practice peatland management in the Ketapang landscape and undertake third party verification of its policy compliance. Greenpeace responded to these additional commitments by suspending its campaign against IOI. Following both announcements, IOI Corporation’s shares traded up slightly to RM4.60.

IOI’S Material Deforestation Financial Risks: Two Formal RSPO Complaints

For IOI Corporation in 2016, not meeting its buyers’ procurement policies meant declining income, decrease in its shareholder equity and the loss of 27 corporate buyers. IOI sells about 750,000 metric tons of certified sustainable palm oil (CSPO) and 3.3 million metric tons of total palm oil annually.

During the first quarter of 2016, IOI’s stock price reached RM5.00. But IOI faced RSPO complaints for deforestation, peatlands clearance and operating on lands without the consent from customary landowners.

The first complaint highlighting IOI’s failure to comply with the RSPO requirements was filed in November 2010. It has since become the longest standing unresolved compliant on an RSPO member. The complaint was filed against IOI Pelita, a Sarawak-based plantation company that IOI acquired 70 percent of in 1997, that has developed oil palm plantations without obtaining Free, Prior and Informed Consent to develop on the customary lands of the Long Teran Kanan longhouse communities.

The second complaint was filed in March 2015 by Chain Reaction Research partner Aidenvironment and revived and expanded on the complaint filed four years earlier, alleging that IOI’s majority-owned subsidiaries in West Kalimantan did not follow RSPO standards and procedures. The complaint contended that IOI’s subsidiaries, PT Berkat Nabati Sawit (PT BNS) and PT Sukses Karya Sawit (PT SKS), illegally deforested 11,750 hectares (ha)—1,300 ha inside the Manismata protected forest reserve—without having secured legally required plantation business permits. Despite earlier IOI commitments to follow legal procedures, it was found that PT BNS still occupied some land within the reserve in 2015.

Market and RSPO Reaction

In February 2016, Chain Reaction Research forecasted that IOI faced material financial risks, including a decrease in 2016 earnings, from a potential RSPO suspension because of these two RSPO complaints.

In March 2016, the RSPO suspended IOI. IOI’s shares subsequently fell 18 percent to a low of RM4.12 from a 2016 high of RM5.00. IOI then announced it would sue the RSPO in Zurich, Switzerland over the decision.

In May, Moody’s Investors Service stated it would review IOI’s corporate debt for downgrade.

Failure to resolve these complaints in a timely fashion, among other market factors, resulted in a USD 800 million decrease in equity valuation and suspension of oil purchases from IOI by Bunge, Cargill, Unilever, and other corporate buyers. Q2 2016 results showed a USD 14.8 million net loss, compared to the USD 30 million profit during the same quarter in the previous year.

Below is a list of 27 corporate buyers who reportedly suspended procurement contracts with IOI due to IOI’s RSPO suspension:

  • Ahold
  • Archer Daniels Midland
  • Beiersdorf
  • Bunge
  • Cargill
  • Colgate-Palmolive
  • Delhaize Group
  • Dr. Oetker
  • Dunkin’ Donuts
  • Ferrero
  • Fonterra
  • Golden Agri-Resources
  • Hershey’s
  • Johnson & Johnson
  • Kellogg’s
  • Louis Dreyfus
  • Marks & Spencer
  • Mars
  • McDonald’s
  • Mondel?z
  • Neste Oil
  • Nestlé
  • Olam
  • Proctor & Gamble
  • RB
  • Unilever
  • Wilmar International

With suspension of RSPO certification, global CSPO supply was temporarily reduced 6 percent, from 12.5 million metric tons to 11.75 million metric tons annually. Other CSPO buyers saw their prices increase, resulting in increased global margins between CSPO and CPO. Other sellers stepped into to sell to IOI’s buyers. As reported by Kuala Lumpur Kepong Berhad (KLK), due to IOI’s temporary suspension, KLK sold its CSPO palm oil at higher prices, and they rose about 50 percent, from between USD 20 and USD 25 to between USD 35 to USD 40 per metric ton. KLK produces about 750,000 metric tons of CSPO annually.

Based on these market signals, IOI changed its approach. IOI withdrew its lawsuit against RSPO and announced it would focus on improving its sustainability profile to achieve its buyers’ NDPE policies across its operations and third-party suppliers. IOI committed to RSPO criteria but stopped short of requiring its third-party suppliers to implement a NDPE commitment by using the High Carbon Stock Approach. IOI’s equity price recovered slightly, reaching RM4.31.

IOI Begins to Resolve Material Deforestation Financial Risks

In July 2016, Aidenvironment and IOI issued their first joint statement, expressing confidence that parties would ultimately be able to settle the second complaint.

After RSPO lifted its suspension of IOI in August its share price rose to RM4.45 but never returned to its 2016 high of RM5.00. This move by the RSPO was criticized by NGOs given IOI’s failure to resolve the longstanding complaint with the Long Teran Kenan communities and outstanding labor rights violations.

Early December 2016, Aidenvironment and IOI jointly declared to have resolved the second complaint case in Ketapang. The company acknowledged the occupation of forestland and committed to abandon the planted area. Furthermore, IOI agreed to not market the palm oil produced from PT BNS and the affected areas of PT SKS with the RSPO certification claims for the duration of one planting cycle. This implies that consumers will not be purchasing certified sustainable products that ultimately originate from land that was deforested in non-compliance with Indonesian laws and regulations as well RSPO rules.

On April 28, 2017, IOI committed to funding an independent verification of its Sustainable Palm Oil Policy in Q2 2018 that included peatland management and supply chain communication. A coalition of NGOs have outlined a set of performance milestones that IOI must meet to demonstrate the translation of its new corporate commitment into real improvements of its Supply Chain Risk Management.

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Gabriel Thoumi, CFA, FRM works as Director Capital Markets at Climate Advisers where he manages global financial analytics focusing on mitigating systemic climate risk while advising on “greening” capital markets. He has 18 years of experience managing and deploying frameworks to improve global capital markets sustainability through risk mitigation and return enhancement. Previously, for Calvert Investment Management, he valued global equity, index, and fixed income portfolios and their component positions in the utilities, energy, materials, chemicals, and financial sectors. He worked on quantitative index construction and asset allocation strategies. He engaged Fortune 500 CEOs on approaches to mitigating climate risk using financial risk management tools. He led initiatives to improve financial accounting of exchange-listed products and incorporated natural capital into financial tools. He has also worked at Morgan Stanley's carbon offset company, Wells Fargo Capital Management, and American Express. He is an adjunct at John Hopkins University.
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