Chicken Rice and a bad taste in the mouth

As you sit down to eat your Chicken Rice today you may be complaining about how much food prices have increased and, having heard how much money agricultural companies are currently making, this may leave a bad taste in your mouth.

At the same time, your financial planner may have pitched to you the growth potential of agricultural investments, leading you to wonder, if food prices are already so high, what is the rationale for seemingly endless outsized profits in this industry?

Then, thinking of farmers in their shiny air-conditioned tractors, you might assume they are making a good living and return at your expense. In one sense you may be right – historically farmers in the U.S. would get on average 53%^[1] higher wages than the average U.S. household income.

However, the real bad taste left in our mouths should come from the less palatable truths – most farmers in the world barely earn enough income to live what we ourselves would consider as an acceptable lifestyle, indicating, amongst other things, food prices are still too low.

Here in Singapore our rice most likely comes from Thailand and chickens from Malaysia. Those famers are not likely to have received even 5% of the $4.50 we paid for our Chicken Rice at the food court. Our estimate is that over 1.5 billion^[2] people’s lives directly depend on growing soft commodities on their own or rented land.

If they don’t sell their crops as soon as they have been harvested, they risk defaulting on loans and lack the cash needed to pay for food, school fees, and medicine. This means they are price takers, unable to attain a good market price for which they deserve for the hard work and risks taken to produce their crops.

For this reason prices remain low. It is estimated that an average rice producing household of four^[3] people in Thailand makes on average USD 8^[4] per day. In many circumstances they will use family savings, personal belongings, and land titles (often their only assets) as collateral for the right to earn such measly incomes.

Our food is not expensive, it is cheap. It is cheap because, overwhelmingly, it is produced by family labour in conditions that wouldn’t be tolerated in other industries. It is estimated that even 'fair trade' products imply only a net household income effect of USD 5,500^[5] per year - not exactly conducive to support expensive education and healthcare for a family of four, never mind annual family holidays or trips to amusement parks.

In fact, the majority of the cost of the food on our table is due to logistics, cold-storage, processing, packaging - all potential profits for those whose hands our food passes through. Despite this, the supply chain is notoriously inefficient with wastage amounting to as much as 30% after the food we eat leaves the farm - rotting in wet markets or being thrown straight to the bin from our shelves at home.

This smacks of chronic underinvestment and untapped efficiencies. The reality is that no one in the agricultural supply chain is currently making outsized profits.

Meanwhile on the demand side, consumers are becoming increasingly sophisticated. Continually more aware of the health risks associated with the food they eat, and the exploitative conditions in which much of it is produced.

We are running out of the ability to grow the food that we need to keep up with increasing demand and consumer preferences, edging closer and closer to crisis.

Without the ability to incentivise producers there is limited scope for disintermediation and bringing efficiencies to the supply chain. Farm subsidies (without which U.S. and EU farmers would not survive) are not the answer as they do not stimulate efficient production systems and governments increasingly can't afford to fund them.

To avert unsavoury price increases and shocks, we need to invest in projects that transform the production base of the industry. Through further deployment of affordable and simple technologies such as mechanisation and the use of fertilizers to boost yields, we can relatively easily reduce operational risk and increase farm productivity for many of those 1.5bn farmers.

However, investors have traditionally stopped at financing traders and processors in Asia and Africa, deeming the fragmented nature of primary production too complicated and risky in which to deploy capital. As the world begins to wake up to mismatches in demand, supply, and investment, innovative new production models are being developed in which to allow the deployment of investors’ capital into primary production.

Tenant and outgrower farming programmes in places like Tanzania, the Philippines, and Vietnam provide the investment scale typically seen in the U.S. and Europe, whilst providing capital exposure to the increase in productivity seen from transferring technology and skills to farmers for whom it has not previously been possible to reach.

Investing into agriculture is not only a shrewd financial investment but also provides a significant development impact – according to the UNEP, “a 1% increase in per-capita agricultural GDP has five times the impact on the poverty gap than the same increase in GDP in other sectors”.

Simply put, more tractors means a lower reliance on family members for strenuous labour. Increased profitability allows farmers to send their children to school and access healthcare. Increased production, at least in line with demand growth, keeps the pressure off consumer food prices.

Such causality is well understood by investors in both the private and public sectors, but despite the plethora of research, complacency persists. Governments investment into agriculture is at historically low rates, whilst there are only a limited number of asset managers offering the kinds of transformative investment models mentioned above that aim to end the increasingly unsustainable and exploitative way in which food is produced.

Whilst such complacent persists, the message is “brace yourself”, with a failure to fairly incentivise producers to produce more efficiently, and increase supply, higher food prices are very likely to come.

Now back to that delicious and still affordable plate of Chicken Rice.

[1] Congressional Research Service: US Farm Income, Randy Schnepf, February 28 2014
[2] https://www.fao.org/fileadmin/templates/nr/sustainability_pathways/docs/Factsheet_SMALLHOLDERS.pdf
[3] Somporn Isvilanonda: Knowledge Network Institute of Thailand (KNIT)
[4] Somporn Isvilanonda: Knowledge Network Institute of Thailand (KNIT)
[5] https://www.solidaridad.nl/files/Summary%20Study%20Assignment%20by%20Solidaridad_0.pdf

Desmond Sheehy is speaking on Ag Private Equity at the Global AgInvesting Asia conference in Singapore.

Global AgInvesting Asia 2014
Marina Bay Sands
23-25 September 2014

Click here to register.