In mid-November, American chocolate and confectionary giant The Hershey Company surprised the cocoa bean market by purchasing their beans as futures from the Inter-Continental Exchange (ICE), which owns and operates exchanges for financial and commodity markets globally. Hershey’s conventionally sources its beans from a network of private suppliers based in cocoa-producing countries, making this move to the public markets unprecedented. This is speculated to be in response to slumped chocolate sales during the pandemic, attributed to the closure of hotels and restaurants throughout the year and a decrease in impulse purchases with more households ordering food via online deliveries. In addition, Ghana and the Ivory Coast has introduced a new ‘living income differential’ (LID), an additional cost per tonne of cocoa imports of 400 USD to support rural farmers. Combined, the two West African countries are the world’s largest exporters of cocoa beans, and, as such, their pricing policies can heavily impact the global cocoa trade. The decision of chocolate producers like Hershey’s to circumnavigate the price premium has led to the formation of a cocoa-producer coalition that are fighting for fair trade.
Futures contracts are traded over exchanges and are conventionally a means for traders to speculate on prices and are not usually the vehicle through which chocolate companies source their physical beans. When purchasing a futures contract, the buyer agrees to purchase a commodity at a specified price at a pre-determined date and time. Hershey’s purchased such a high volume of cocoa futures contracts from the ICE (amounting to an estimated 30,000 tonnes of beans) that the trade required special approval from the exchange. The rationale was that beans bought over the exchange had not yet been affected by the LID, due to the nature of futures contracts. After its execution, the price of December-delivery contracts shot up 13.4% as supply shrank and began trading at a record premium over the next available contracts, which deliver in March of 2021. The bulk-buying came as a shock to the cocoa market because of Hershey’s history of sourcing their beans directly through traders and intermediaries.
Ghana and the Ivory Coast account for 60% of global cocoa bean production, and demand for the beans produced in these countries is fuelled by the widely held belief that they are of a higher quality to that of its competitors. Seeking to capitalise on their dominant market position, the two countries entered an agreement in July 2020 to better control the cocoa bean prices by forming an alleged price cartel. Similar to the partnership OPEC countries formed in the 1960s to manipulate crude oil prices, this new cocoa bean club has been dubbed ‘COPEC’ by the media. This resulted in the imposition of the LID, a 400 USD price premium paid for every tonne of cocoa, and a fixed price floor of 2600 USD per tonne of cocoa beans. When efforts to establish the LID were announced last year, the policy was welcomed by leading chocolate companies who embraced the higher price as part of their efforts to meet the increasing consumer demand for ethically sourced chocolate. However, cocoa traders are now bemoaning the policy’s flexibility, in particular the implementation of a price floor significantly above the current market price for cocoa at a time when demand for chocolate has slumped and the global economy is faltering. Sales of cocoa beans in the COPEC pair are reported to be down 500,000 tonnes this year, a drop in exports of about 15%. With the excess supply to be carried forward into the next trading year, it will be challenging for the West African nations to maintain their higher price point without ultimately hurting the farmers whose interests they claim to be protecting.
In a letter leaked to the media, the Ivorian Conseil de Café Cacao and the Ghana Cocoa Board (regulators of their respective domestic cocoa industries) have branded purchases from futures markets by Hershey’s, as well as Mars and Olam, as a ‘breach of faith’. The accusation focuses on companies’ use of futures markets to avoid paying the LID on beans as commodities exchanges do not incur the LID premium, meaning buyers from these markets save around 200 USD/tonne. Hershey’s rebutted, dismissing the letter as ‘misleading’ and ‘unfortunate’ and maintained that they have paid the LID this year on crops acquired through their supply chains and declined to comment on their overall purchasing strategy for ‘competitive reasons’. This appears to have intensified the row as the two countries this week announced that they would be suspending all Hershey’s-run sustainability programmes in their cocoa farms and have threated to suspend licences that allow Hershey’s to operate in their countries. As December-delivery futures reach their last trading date on the 18th of December, the price for March delivery contracts is rallying to 2800 USD/tonne, 100 USD higher than the peak of the December delivery rally. This suggests that demand for beans on the exchange has intensified despite the public criticism of the COPEC countries, as companies continue to source beans from the exchange.
Since Hershey’s and other companies that have bought cocoa beans from exchanges this year had not previously entered any legal agreement to buy cocoa beans from the COPEC countries, they may purchase their cocoa beans from whichever source suits their business needs best. What remains to be seen is whether the cocoa beans from the various countries that supply the ICE are of the same quality of the COPEC beans, viable as a long-term alternative, and whether consumers the ethics of these suppliers will satisfy consumers. If the answer to both of these is yes, then it is likely COPEC will have to reconsider their pricing strategy going forwards and open negotiations with their consumers.
By Stan Clark
Sector Head: Edouard Nelson