The cotton industry is vast and involves a wide variety of actors – from small-scale farmers and weavers to spinners to global brands. It is influenced by entities outside of the supply chain, such as hedge funds and speculators, and faces competition from other fibers and crops (for arable land). The participants of the Bangkok Session made some key observations on the imbalance of power and lack of risk management mechanisms along the entire supply chain, highlighted by the following points:
· There is a need to develop mechanisms to enforce contract sanctity and to continue to foster communication along the entire supply chain.
· Speculators, hedge funds and pension plans can create artificial and higher levels of volatility, contributing to a higher level of risk for more vulnerable members of the supply chain.
· The lack of exports from China and India, two of the largest producing countries, places the U.S., the largest exporter, in a strong negotiating position.
· A handful of large retailers have a disproportionate negotiating power. At the same time, there are no existing mechanisms in place to manage risk associated with such actions as defaulting on contracts and incentivizing bad buying behavior.
The discussion at the Bangkok Session was not limited to the thoughtful points just outlined above. Some participants provided presentations on other aspects of the cotton and other agriculture commodities price volatility. I'd like to take a moment to reflect on a presentation by Mr. Arvind Singhal, Managing Impact of Cotton Supply Chain Volatility, that provided insight into what contributes to cotton price volatility as well as steps that some food companies are taking to manage risks in their supply chains as examples for ways to make improvements within the cotton industry.
Some of the factors behind cotton price volatility that Mr. Singhal presented include shifts in production due to climate change, government interventions (e.g. India export bans), currency movements, and the entry of large commodity speculators. He also showed how cotton has lost market share to other fibers as a result of higher prices, and how retailers have changed sourcing patterns by increasing the number of seasons, reducing lead times (which helps control raw material costs), and, in many cases, by outsourcing to a sourcing management firm (e.g. Li & Fung).
Mr. Singhal provided us with case studies on four food companies’ strategies to manage the volatility of raw materials:
· Nestle has a four-point strategy to: 1) enhance connections with farmers and suppliers, 2) improve understanding of price movement trends and to sensitize customers accordingly, 3) innovate to replace expensive ingredients, and 4) reduce waste and improve efficiencies.
· McDonald’s approach involves establishing long-term contracts with suppliers and vendors, buying in bulk to take advantage of the economies of scale, using “no frills” logistics, and improving their ability to forecast input costs.
· Barilla, a leading pasta company, takes a central role in raw material procurement – even for its suppliers – and staying abreast of raw materials demand-supply conditions and how these affect pricing. Providing market intelligence to buyers helps them manage price volatility and source better.
· Starbucks has a diversified procurement model and sources from multiple regions. However, they have suffered from entering into a contract when prices were high (and the market priced subsequently dropped) and were forced to raise retail prices.
These case studies indicate that large global brands are engaging more deeply in their supply chain, possibly creating new business relationships.
Mr. Singhal closed his presentation with some suggestions:
· Volatility will likely remain. Brands and retailers can dampen its effects on the other members of the supply chain by improving their understanding of upstream volatility and adjusting sourcing practices to help their suppliers mitigate risks associated with such volatility.
· Producers and traders should work more directly with retailers.
· Affected actors or cotton institutions should strategically address harmful, short-term government interventions.
This timely session covered issues that need to be addressed to ensure a healthy and more stable cotton industry. I feel that fair and mutually beneficial partnerships can be developed, and that such partnerships could help manage risk along the supply chain, creating stronger supply chains and industries.