INS789 The Palm Oil Dilemma 08/2014-5904 This case was written by Renato J. Orsato, Professor at the São Paulo School of Business (EAESP), Academic Director of the Centre for Sustainability Studies (GVces) at Fundação Getúlio Vargas (FGV), São Paulo, Brazil, and Visiting Scholar at INSEAD Social Innovation Centre with the help of Renata Loew Weiss, Research Associate at INSEAD Social Innovation Centre, Mona Parikh McNicholas, Case Writer, INSEAD, and Giovanna Sanches, Research Associate, Centre for Sustainability Studies, Fundação Getúlio Vargas (FGV), São Paulo, Brazil. The case was developed under the supervision of Horacio Falcão, Affiliate Professor of Decision Sciences, and Luk Van Wassenhove, the Henry Ford Chaired Professor of Manufacturing and Academic Director of INSEAD Humanitarian Research Group, both at INSEAD. It is intended to be used as a basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation. Additional material about INSEAD case studies (e.g., videos, spreadsheets, links) can be accessed at cases.insead.edu. Copyright © 2014 INSEAD COPIES MAY NOT BE MADE WITHOUT PERMISSION. NO PART OF THIS PUBLICATION MAY BE COPIED, STORED, TRANSMITTED, REPRODUCED OR DISTRIBUTED IN ANY FORM OR MEDIUM WHATSOEVER WITHOUT THE PERMISSION OF THE COPYRIGHT OWNER. This document is authorized for use only by Benoit Moget ([email protected]). Copying or posting is an infringement of copyright. Please contact [email protected] or 800-988-0886 for additional copies. On 30th September, 2011, Indonesia withdrew from the Roundtable on Sustainable Palm Oil (RSPO) to form its own government agency, Indonesia Sustainable Palm Oil (ISPO). This had serious implications given that Indonesia and Malaysia together produced almost 90%1 of the world’s palm oil and encompass the world’s most diverse tropical rainforests. Not only was global demand for palm oil as an edible oil continuing to grow,2 but in recent years it was considered ideal for biofuels. From a lucrative business that boosted local economies, it now began attracting negative public and media attention. The impact of accelerating deforestation and forest fires promoted an outcry from global NGOs and consumers, putting the big companies under increasing pressure to move to sustainable production in the Far East. However, despite the availability of 1.4 million tonnes of sustainable palm oil on the market in 2009, only 343,857 tonnes (around 25%) was actually purchased. Production rose to 4.8 million tonnes in 2011, with sales of 2.5 million tonnes (around 50%).3 Though this was a significant increase, half the sustainable palm oil available in 2011 was not bought. Were the product manufacturing companies not willing to pay the premium cost for sustainable raw materials? Where along the supply chain could the extra cost be pushed? Would consumers be willing to pay more for products that were clearly certified? Was there a way of negotiating the premium for sustainable palm oil between stakeholders? How were the companies who controlled the supply chain going to respond to this challenge? In the words of David Lubin and Dan Esty:4 “Executives know that how they respond to the sustainability challenge will profoundly affect the competitiveness of their organisations – and perhaps even their survival. Yet most are struggling with how to integrate environmental efforts into their core business strategies. Many had a hodgepodge of green initiatives but no overarching vision or plan. The problem was not that they don't see sustainability as a strategic issue. Rather it's that they think they're facing an unprecedented challenge. But there is a roadmap…” The authors of ‘The Sustainability Imperative’ argued that sustainability was a 'megatrend' – a transformative change in the competitive landscape – like the rise of the quality movement in the 1970s, and IT in the 1980s and 1990s, whose course could be predicted. By understanding how firms succeeded in prior megatrends, executives could craft the strategies and systems needed to gain a competitive advantage in this one. Deforestation in Indonesia and Malaysia had exhausted the land supply, and large plantation companies were considering leveraging their influence as experienced growers by expanding into West Africa and South America, where palm oil production had so far been largely 1 Asian Agri and the future of palm oil: Harvard Business School case study, 2010; “The Other Oil Spill”, www.economist.com; June 24, 2010 2 Palm oil production grew from 430,000 metric tonnes in 1970 to 45 million tonnes in 2009. (Source: Asian Agri and the future of palm oil: Harvard Business School case study, 2010.) 3 http://news.mongabay.com/2012/0308-rspo_production.html#ixzz1osadSv9A; Accessed March 2012. 4 ‘The Sustainability Imperative’ by David A. Lubin and Daniel C. Esty. This article originally appeared in Harvard Business Review 2010. Article Reprint No. R1005A Copyright © INSEAD 1 This document is authorized for use only by Benoit Moget ([email protected]). Copying or posting is an infringement of copyright. Please contact [email protected] or 800-988-0886 for additional copies. sustainable, and on a smallholder level, without resorting to a diversity-damaging monoculture.5 Where land was more abundant, pressure from NGOs was less intense. Were there lessons to be learnt from the Far East or was history likely to repeat itself in other continents? And how could voluntary initiatives or ‘green clubs’ like the RSPO resolve the conflicts between the industry and all its stakeholders along the complex supply chain? Background In 2011, palm oil was a leading agricultural crop used in a wide variety of food and non-food applications around the world. The oil palm (Elaeis guineensis) which grows best within 10 degrees of the equator, originated in West Africa, and yields two types of oil – palm kernel oil from the seed and palm oil derived from the fruits’ fibrous orange flesh. It boasts the highest yield per hectare of any oilseed crop (producing harvestable fruit within three years of planting). It is a cholesterol-free vegetable oil and is considered a good replacement for partially hydrogenated oils because it is free from trans-fats and rich in antioxidants. Advantages from a commercial point of view include its odourless and tasteless nature and the fact that it facilitates a long shelf life. In the United States, palm oil benefitted from a 2006 Food and Drug Administration regulation that required food products to label their trans-fat content, as a result of which many food processors had switched to palm oil. Roughly 80% of palm oil was used in food for human consumption. The remainder was used in personal care products, animal feed and biofuel.6 Worldwide production of palm oil was expected to reach 48.98 million tonnes (Mt) in 2011, according to Oil and World, covering an area of 13.41 million hectares. From several million tonnes in the 1960s, palm oil production had grown exponentially, doubling every 10 years.7 (See Exhibit 1) Indonesia and Malaysia, with 23.9 Mt and 18 Mt respectively, contributed to 85% of worldwide palm oil production, and were likely to continue to be the main producers. However, the expansion of production in Malaysia was likely to be held up by the availability of land. Indonesia was looking to produce 40 Mt by 2020, of which 50% would be set aside for biofuel.8 Alongside these two South-East Asian giants, about 40 developing countries produced palm oil. Amongst the most important are Nigeria, Papua New Guinea, Ivory Coast, Colombia, Thailand and Ecuador. Palm oil is the most traded oil in the world: 90% of global production is traded. Although in terms of production volume it is almost level-pegging with soybean, trade volume is almost three times higher. Trade increased from 3.78 Mt in 1980 to 36.5 Mt in 2010. Malaysia and Indonesia represented more than 90% of exports in 2010.9 The leading consumers of palm oil (in descending order) were China, India, the European Union (EU), Malaysia, Indonesia and Pakistan. Though rarely sold as cooking oil in the West, palm oil was used in many CPG (cosmetics and personal care goods) made by companies 5 UN Report on Human Development 2007-2008 6 “The IOI Group: Creating a Malaysian Palm Oil Multinational”; Ivey case study, 2010 7 http://www.unctad.info/en/Infocomm/AACP-Products/Palm-oil/ Accessed September 2012 8 Ibid. 9 Ibid. Copyright © INSEAD 2 This document is authorized for use only by Benoit Moget ([email protected]). Copying or posting is an infringement of copyright. Please contact [email protected] or 800-988-0886 for additional copies. such as General Mills, Kraft, Nestlé, Proctor & Gamble and Unilever.10 A Directive of the European Parliament and Council 2003/30/EC promoted the use of biofuels for transport, requiring member states to ensure a minimum proportion of biofuels usage for transportation.11 The Palm Oil Conflict The palm oil industry in Malaysia and Indonesia had seen fundamental changes. Given its steep growth in recent years, one of the main issues was the availability of land for plantations. In Malaysia, where land was scarce, most players focused on increasing yield per hectare, whereas in Indonesia the number of hectares converted into plantations continued to rise, and it was catching up with Malaysia in increasing yields. Both countries faced conflict on many fronts, with increasing pressure from environmental and social action groups who claimed that palm oil cultivation was the cause of deforestation, increased carbon emissions and social problems – notably conflicts between indigenous populations and growers over land as it became more scarce. Palm Oil and Development Palm oil had been a powerful tool for poverty alleviation. Smallholders and those employed in large plantations had seen incomes rise significantly, improved living conditions and access to healthcare.