Food Raw Materials

Procurement versus Inflation

 

 

 

Since Russia invaded Ukraine, the world has been predicting – and dreading – a food crisis in the Global South, since the two sides in the war are the primary grain suppliers to the African continent. But even in prosperous Western countries, shortages coupled with rising prices for energy and staple foods like grains and vegetable oil are driving inflation upward. It is becoming clear that global commodity flows for food are undergoing permanent change. Buyers need to plan for a long period of increased volatility and gaps in availability. On the other hand, however, this does not necessarily mean simply accepting new price requests.

According to the World Food Programme, the number of people without enough food has risen continuously since 2018 – and the war in Ukraine has only exacerbated this problem. Last year, prices for staple foods had already risen by around 30%, driven primarily by higher energy and transport costs. Since January this year, these figures have already risen by over 20%.

Although starvation mainly affects people living in poverty-stricken crisis and conflict regions around the world – referred to as the Global South – shortages also occur in Europe. British charity The Food Foundation, for example, recently reported that around 14% of households in England ate smaller meals than usual or skipped meals. European supermarkets and discounters are increasingly seeing customers switch to cheaper own label brands and drop more expensive food – such as dairy products and beef in Germany – from their shopping lists completely. Cheaper foods, in turn, are missing from the food banks, which are seeing unprecedented demand.

As companies and consumers switch to alternatives, the entire market is under pressure.

Grain and Vegetable Oils at Record Prices

Boston Consulting Group (BCG) calculates that the two parties in the war supply around 12% of all calories consumed worldwide. This energy has not been lost; it is simply not reaching consumers – some 20 million tons of grain were blockaded in the Ukrainian port of Odessa before the summer. Although shipments have begun since the signing of an initiative brokered by the UN and Turkey, they are slow and do not always reach the people who need the grain most urgently. The war has halted operations at the Ukrainian oil mills, which process sunflower seeds.

As a result of this, businesses and consumers have switched to alternatives, the entire market is under pressure, and prices of all vegetable oils have risen to unprecedented levels around the world.

 

 

Although other countries are interested in filling the gaps – Argentina and India, for example, have announced that they are cultivating more sunflowers and will be able to export more oil to Europe in the future – that will only alleviate the issue in the medium term. India had also indicated its intention to export significantly more wheat this year and that it planned to increase grain exports in the long-term. However, the heatwave that hit India and Pakistan in the spring and – according to initial estimates – destroyed around 25% of the harvest, halting these plans for the time being. Given the government’s worries that it would not be able to feed its own population, it has put a stop to exports.

Three Types of Grain Feed the World

Around 40% of the calories consumed by people worldwide are supplied by just three types of grain: wheat, corn and rice. Production of these food staples is concentrated in just a few parts of the world and many countries rely on importing grain from these areas to feed their populations on a daily basis. As climate change progresses, this established global practice is becoming increasingly risky. Experts are recommending greater diversification of grain cultivation, more regional cultivation areas and more intensive use of plants that are adapted to the local climate.

/ Share of Russia and Ukraine in the global export volume of selected agricultural products in 2020

Sunflower cake
Sunflower oil
Barley
Corn
Raapseed

Acute Shortages Today – Long-Term Insecurity Tomorrow?

Although the war has led to acute shortages, there are concerns that these could turn into serious supply insecurities in the medium term. This is because both Russia and Belarus – which has also been hit by sanctions – are significant fertilizer producers, plus natural gas is one of the main ingredients for its manufacture. Price rises coupled with sanctions mean that farmers in poor countries are struggling to afford fertilizers. If steps are not taken very quickly to ensure that adequate supplies of fertilizer are available on the world market at affordable – and subsidized, if necessary – prices, then harvests will shrink and shortages will worsen.

Buyers Fighting for Supply Security

While UN organizations the FAO (Food and Agriculture Organization) and WFP (World Food Programme) are working with Western industrialized nations to combat the looming food crisis and provide relief packages for poorer population groups across Europe with the aim of softening the impact of inflation, procurement departments in food manufacturers and retail companies are facing the challenge of securing their supply chain and slowing down rampant price rises. As food is a vital public service, not just consumer goods, the pressure is huge.

The acute crisis means that parties involved in the food supply chain must balance finding solutions with scrutinizing their existing procurement strategy. The heatwave in Europe and India, and weeks of rainfall and flooding in Pakistan and the USA plus other extreme weather events clearly indicate that climate change is gathering speed around the world. That means an increase in failed harvests, which result in export bans and global evasive responses. We anticipate that the volatility responsible for the ongoing rising number of people in food poverty since 2018 will remain high. For producers, the “new normal” means getting used to recurring shortages of a range of foods.

Since food is not only a consumer good, but also a public service, the pressure is enormous.

Buyers Fighting for Supply Security

While UN organizations the FAO (Food and Agriculture Organization) and WFP (World Food Programme) are working with Western industrialized nations to combat the looming food crisis and provide relief packages for poorer population groups across Europe with the aim of softening the impact of inflation, procurement departments in food manufacturers and retail companies are facing the challenge of securing their supply chain and slowing down rampant price rises. Since food is not only a consumer good, but part of public service, the pressure is enormous.

The acute crisis means that parties involved in the food supply chain must balance finding solutions with scrutinizing their existing procurement strategy. The heatwave in Europe and India, and weeks of rainfall and flooding in Pakistan and the USA plus other extreme weather events clearly indicate that climate change is gathering speed around the world. That means an increase in failed harvests, which result in export bans and global evasive responses. We anticipate that the volatility responsible for the ongoing rising number of people in food poverty since 2018 will remain high. For producers, the “new normal” means getting used to recurring shortages of a range of foods.

Closer Working Relationships Between Businesses and Suppliers

To ensure that supplies are maintained in these circumstances, it is essential that businesses familiarize themselves with their own supply chain and the value creation for their most important raw materials. Businesses should work more closely than ever before with their suppliers in order to understand the relevant dependencies and risks and to jointly define early warning signals and appropriate measures.

This includes diversifying supply chains and sourcing crucial raw materials from several different parts of the world simultaneously. Potential variations in product specifications mean that procurement departments must also work closely with production and quality assurance departments. Although regionally diversified supply chains tend to be more expensive than a central supply from one single source, this option does provide greater security against supply issues in view of the increasing climate-related and geopolitical risks.

Realistic Scenario Planning

If there is one global dominant supply region for a particular product – as is the case for sunflower oil, for example – businesses should use their risk management process to define potential substitutes they can switch to if they need to act quickly. While wars obviously cannot be predicted, harvests in an arid region withering in the fields, for example, is unfortunately a realistic scenario, so should be taken into consideration when planning potential countermeasures.

The advantages of a long-term, strategic risk management process are particularly apparent in the food industry. Switching raw materials may not only affect the taste and appearance of a product for customers, but will also change production requirements and require compliance with the relevant food legislation provisions – right down to the specification, for example, that a breakfast spread must not contain rapeseed oil if the label says sunflower oil. Businesses that have considered all these issues and questions before a risk occurs will be able to respond appropriately.

Cooperation and the ability to compromise are crucial elements in finding viable solutions to the current situation. However, that does not mean buyers should simply accept price rises from their suppliers. Quite the opposite, in fact: they should challenge every price increase. Buyers should be particularly suspicious if the reason for a rise is a flat “because of inflation”; if an increase is justified, suppliers can provide evidence of what price rises have been incurred and where. Dealing fairly also means suppliers should be prepared to conduct reviews at short notice, so they can pass any price reductions on the world market on to their customers as well. Procurement departments should also tackle these increases in cooperation with the supplier. This approach might create new opportunities for offsetting looming price increases, helping to ensure that food remains affordable.

 

CONCLUSION

The current volatile situation in the food markets is highlighting the supply concentration and global dependencies in food production. It is also a foretaste of the consequences of climate change. Businesses can accommodate increasing uncertainty by diversifying their supply chains and implementing a strategic risk management system with a long-term focus. And procurement has a particular responsibility in the current situation: responding rapidly to short-term shortages and accurately analyzing price rises can help them to stabilize supply security and offset food price inflation.

Authors

Paul Mohr

is Managing Director of INVERTO’s Cologne office and a food industry expert. He advises clients predominantly from retail, the the retail, food and consumer goods sectors.

contact@inverto.com

Katharina Erfort

is a Principal at INVERTO in London and supports clients from the retail and food industry. Sustainable procurement is one of her particular interests.

katharina.erfort@inverto.com