Palm Oil Battle Spreads Beyond Ethical Investors

Nestlé, Unilever, Kellogg and Mars cease trading with IOI as sustainability certificates suspended

For years, concerns surrounding the palm oil sector’s environmental impact failed to reach beyond a limited group of ethical investors.

However, the tough stance from big corporate buyers of palm oil over Malaysia’s IOI Group and its environmental standards has put the spotlight on risks surrounding the industry.
Earlier this month, Moody’s announced that it was reviewing the credit ratings of IOI, a leading palm oil producer and trader, for a possible downgrade after large consumer groups suspended trading with the group, following the suspension of its sustainability certificates highlights.
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International consumer companies, including Nestlé, Unilever, Kellogg and Mars, moved to cease trading with IOI after a decision in late March by RSPO, an industry backed standards organisation, to suspend the certification for IOI’s sustainable palm oil.

“The IOI case is a tipping point,” says Emily Chew at financial index and data group MSCI.

The case comes as the sourcing of commodities and the traceability, especially in agriculture, is becoming a concern beyond the NGO community, impacting investing and lending decisions.

Palm oil is used in everything from toothpaste to lipstick to chocolate, and the years of demand growth have led to swaths of tropical forests being destroyed to make way for plantations.
After an attempt to appeal the certification suspension, IOI has challenged the decision by filing a case with a Swiss court earlier this month. IOI said it was “a last-resort measure to draw serious attention to the weaknesses in the decision-making process in certain parts of RSPO”.

But at the same time, it says it is committed to tackling the issues raised by the organisation and is working on its action plan.

Nestlé says after IOI’s certification was suspended, it immediately ceased sourcing from the company’s plantations identified as breaching standards. After studying its action plan, the Swiss group concluded the proposed measures did not go far enough in tackling the issues raised in the RSPO case and would not award any new business to IOI.

“We will also phase out all existing contracts with an expected completion date of August 31st 2016,” says Nestlé.

Banks which provide commodity trade financing will be watching how events unfold, say commodity financiers. Many European and US banks are increasingly careful about dealing companies which fail to comply with sustainability and environmental rules.

“It’s a serious issue,” says Jean-Francois Lambert, founding partner of Lambert Commodities and former head of commodity trade finance at HSBC. In palm oil “if a company loses its certification the international banks will not be able to support it”, he says.

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NGOs have welcomed the corporate customers’ quick response. “It’s great to see the speed at which they responded. The companies didn’t want to be in a position where consumers were calling on them to act,” says Richard George at Greenpeace.

“It’s the first real big test of corporate commitments,” says Mr George. He adds: “It’s a wake-up call for the industry.”

RSPO received complaints in April 2015 from Aidenvironment, an environmental consultancy, of IOI’s Indonesian plantations’ non-compliance with various principles and requirements of the organisation’s standards.

While potential sales losses from IOI’s inability to supply certified palm oil were not quantifiable, “we note that the company’s earnings could deteriorate significantly, which could in turn pressure its financial metrics if the suspension is not resolved within a year,” warned Moody’s.

As this was IOI’s second suspension in five years, “Moody’s also expects IOI to suffer reputational damage, which may result in a further loss of customers,” the rating agency added.

Over the past few years, an increasing number of ethically focused fund managers have been avoiding the palm oil sector due to the severe environmental damage caused by deforestation and the annual regional air pollution caused by burning of peatland in Indonesia.

Last year, Norway’s $870bn sovereign wealth fund excluded four of Asia’s biggest companies due to links to environmental damage by the palm oil sector.

However, other institutional investors, especially in Southeast Asia, are also becoming more aware of the risks associated with companies failing to adhere to environmental standards.

“Southeast Asian investors are becoming more concerned about the palm oil issue,” says Ms Chew, who adds: “It’s about market access risk.”

The action against IOI comes as RSPO’s credibility has been on the line among some investors and NGOs, with the organisation facing criticism it was too soft on members who did not follow its rules.

The association’s board made clear last year, that it was going to take a tougher stance.

Biswaranjan Sen, RSPO’s chairman and vice-president at Unilever, last year told a gathering of members that it would take action against people “who do not live by the principles of RSPO”, adding that it was “no longer a club”.

The organisation has also tried to respond to critics who say its standards are too lax. RSPO NEXT, which was launched in February, is a voluntary addition to the core standard for those that are willing and able to meet the more stringent rules, it says. The association explains that the criteria includes commitments for “zero deforestation, no planting on peat and enhanced human rights obligations”.

BY: Financial Times of London