knl report_iim indore

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1 Industry Visit Report Kriti Nutrients Limited Project: International Business Submitted to: Kriti Nutrients Limited Submitted by: Adhit Shetty S. Ajay Singh Yadav Vivian Paul Gonsalves Atishay Kumar Jain Vivek Thebbaria Sukhad Chaturvedi Sonakshi Saini Khagesh Kaushal Prabhu Kiran Anugari Kushal Jajoo Shetti Sridevi Ashok Potti Rajesh Date of Submission: 18 th March, 2013

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We would like to thank Mr. Vijay Shahani, Mr. Subodh Kumar, Mr. Sameer Yadav and Mr. Anil Parikh from Kriti Nutrients Limited for giving us an opportunity to work with their organization and for their constant guidance throughout the duration of this project.We also thank Ms. Vibha Mishra from IIM Indore for coordinating with the organization and setting up this opportunity for us.

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Page 1: KNL Report_IIM Indore

1

Industry Visit Report

Kriti Nutrients Limited

Project: International Business

Submitted to: Kriti Nutrients Limited

Submitted by:

Adhit Shetty S. Ajay Singh Yadav

Vivian Paul Gonsalves Atishay Kumar Jain

Vivek Thebbaria Sukhad Chaturvedi

Sonakshi Saini Khagesh Kaushal

Prabhu Kiran Anugari Kushal Jajoo

Shetti Sridevi Ashok Potti Rajesh

Date of Submission: 18th

March, 2013

Page 2: KNL Report_IIM Indore

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Acknowledgements We would like to thank Mr. Vijay Shahani, Mr. Subodh Kumar, Mr. Sameer Yadav and Mr. Anil

Parikh from Kriti Nutrients Limited for giving us an opportunity to work with their organization and

for their constant guidance throughout the duration of this project.

We also thank Ms. Vibha Mishra from IIM Indore for coordinating with the organization and setting

up this opportunity for us.

Page 3: KNL Report_IIM Indore

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Executive Summary This report summarises our understanding and analysis of the soya bean industry Kriti Nutrients

Limited operates in.

Kriti Group was started in 1983 and operates in three main business units – Kriti Industries Limited,

Kriti Nutrients Limited and Kriti Auto Engineering and Plastics Pvt Ltd. KNL manufactures Soybean

related products in both domestic and international markets. Some of the main products include –

Soya bean Meal, Mixwell, Soya Lecithin, Kriti Cooking Oil etc.

The edible oils industry is a highly competitive one and Porter’s five forces reveal that major threats

exist from competition and potential entrants into the market. Bargaining power of buyers and

suppliers on the other hand, appears to be low.

About the internal systems employed at the organization- Inventory management systems used at

KNL currently use activity based costing for all classes of products. Combined with the use of SAP

for inventory control this means that some difference may exist between the real and recorded

inventory. Managing inventory based on product classifications, based on percentage of revenue

generated, may improve this system. The logistics for export of soybean meal is an intricate process

requiring careful handling and taking up to 15 days for completion.

Global macroeconomic factors have a significant impact of soybean prices and this is critical to

business. These factors include volatility in crude prices, number of speculators in the market, factor

cost of inputs in soybean production, impact of energy demand for soybean etc. The major producers

of soybean in the world – USA, Brazil, Argentina and China conform to these trends in these factors.

Data from these markets suggests that production of soybean has stagnated in recent years while

demand growth has continued.

Given the concerns over volatility of soybean prices, contract farming is an option which could be

explored by KNL. Different models for its implementation exist but all of them require significant

investment and large volumes to be beneficial.

Our study shows and inquires the different issues pertaining to the volatility in the soyabean prices in

the mandis and exchanges. Companies and farmers both lose out on their margins due to the

dominance of the middlemen in this line of business. Better co-ordination with the farmers and a fair

contract formulation with them can result in a win-win solution for both.

Page 4: KNL Report_IIM Indore

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Contents Introduction – About Kriti .................................................................................................................... 5

Industry Overview – Porter’s Five Forces ............................................................................................ 6

Inventory Management at Kriti Nutrients Ltd ....................................................................................... 7

Logistics at Kriti Nutrients Ltd ............................................................................................................. 7

Macroeconomic Factors affecting Soybean Industry ............................................................................ 9

Global Market Overview - Leading Soybean producing countries ..................................................... 11

United States of America ................................................................................................................ 11

Brazil .............................................................................................................................................. 13

Argentina ........................................................................................................................................ 16

China............................................................................................................................................... 18

Contract farming as an alternative ...................................................................................................... 19

Soybean price volatility and suggestive solutions ............................................................................... 22

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Introduction – About Kriti Kriti group was started in 1983. It is currently chaired by Mr Shiv Singh Mehta.

The Kriti Group has three main businesses:-

1). Kriti Industries (India) Ltd: The manufacturing unit houses comprehensive extrusion and

moulding facilities. The products are sold under the brand names of Kasta which has sub brands like

Khushali, Koresil, Krystal and are used for agriculture, micro irrigation, construction, infrastructure

and telecommunication purposes.

2). Kriti Nutrients Ltd: The unit has a state of the art manufacturing setup which includes solvent

extraction plants, vegetable oil refinery, lecithin plant, effluent treatment plant, fluidized bed boilers

and an in-house tin and jar manufacturing facility. It uses best quality, Non GMO soyabean seeds with

a high nutrient content to manufacture a premium quality product range. The range includes refined

soyabean oil, Superhypro meal, Defatted soya flakes and lecithin used for human consumption, cattle

feed, poultry, aquaculture, confectionary, dairy product, industrial applications and pharmaceutical

preparations.

3). Kriti Auto Engineering and Plastics Pvt. Ltd.: It is an auto component manufacturing division,

which produces moulded plastic components for automobiles. The customer list includes the leading

automobile manufacturers of India.

KRITI NUTRIENTS LTD

Kriti is the most respected brand of Soya Oil in central India, SBM in Asia and its Mixwell soya

Lecithin is accepted worldwide. The result obtained is reflected in the high level of customer

satisfaction which is the driving force behind the company's growth.

The company started a 50 tonne edible oil refinery in the year 1998. The soya plant is located at

Dewas, with an area of 60520 sq. meters with its modern infrastructure and technically advanced

machinery. It comprises of an Alfa Laval refinery, ion exchange R.O. Plant for water purification,

Fluidized bed boilers, effluent treatment plant and skilled man power. It manufactures Refined Oil,

Textured Vegetable Protein, Full Fat Soya Flour, and Lecithin. As a result of high-tech processing in

an in-house refinery, all soya products of Kriti are very high on hygiene quotient and have been

adopted by health conscious hospitals, schools, the Indian army, farmers, hotels etc.

In 2000,the capacity was increased to 70 tonnes, this earmarked the successful launch of the brand

‘Kriti Refined Edible Soya Oil’. In 2001, the company received the ISO 9000 certification, added a 2

tonne per day Lecithin plant in the soya division. In 2007 Kriti became the pioneer in manufacturing

and exporting Super HyPro Soya bean meal, Value added soya flakes and speciality lecithin. Total

Soya processing capacity of 4,38,000 MT/Year. Total Income of Kriti Nutrients is Rs.458 Cr., Profit

after tax is Rs. 4 Cr. It is Second highest supplier to Nestle for Lecithin

In the long run, the company is aiming to become the leader in quality value added soya-protein based

products.

Products of Kriti Nutrients Ltd: Kriti Soya Flour(Toasted/Untoasted),Kriti Soya Flakes(Toasted

/Untoasted), Kriti Super Hy-protein SBM, Mixwell Soya Lacithin, Disperthin Soya Lacithin ,Kriti

Soya Grits, Kriti Full Fat Soya, Kriti Cooking Oil.

Page 6: KNL Report_IIM Indore

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The USP for KNL and other Indian manufacturers globally is that only non-GMO seeds are used in

production of soybean related products.

Industry Overview – Porter’s Five Forces

Porter’s Five Forces Analysis:

Threat of Substitutes – Low

There is not much scope for substituting oil with another product as it is a crucial part of the Indian

food basket. As a result of this the threat of substitution remains relatively low. However there is the

threat of switching especially with the number of oils available in the market. Consumer switching

commonly happens not only between oil types but also between packaged and loose oils

Bargaining Power of Suppliers—Low

There are a large number of oil seed suppliers and no particular region can claim a monopoly on

supply. Hence the ability of nay one particular supplier to command or determine prices is non-

existent. Hence bargaining power of supplier is low.

Competitive Rivalry – High

The industry is growing at a rapid pace and this has attracted several new players into an already

crowded market. As a result there has been an addition of capacity along with the setting up of new

facilities especially along the coast in order to refine imported crude oil as quickly as possible. Also

with technology advances, those players with the deeper pockets stand to gain from technological

advances. Hence the competitive rivalry in the industry is high.

Bargaining Power of Buyers – Low to Medium

With several options available to buyers, and as the threat of switching between oil types and from

branded to non-branded oils the buyer does have a limited amount of bargaining power. However this

power is diluted by the fact that they are widely dispersed and hence cannot collectively exercise the

power

Threat of New Entrants – High

Consumer buying patterns indicate that brand loyalty is not a factor in this industry. More importantly

unbranded oils (nearly 60% of total oil sold is unbranded) sell well in this highly price sensitive

market. Select states also offer incentives to get into the production of edible oil.

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Inventory Management at Kriti Nutrients Ltd The inventory at Kriti Nutrients Ltd. (KNL) mainly consists of Soya refined Oil, Mix well lecithin,

Soya flakes, Soya flour, Super hybro SBM (poultry), soya meal and oil soya (crude). About 45% of

the inventory throughput comes from export sales.

Valuation of Inventory:

Cost of inventory is a major cost in the income statement with cost of goods sold (COGS) of 85% on

sales. However, the inventory turnover cycle is healthy at 8 times which is line with the industry

standards.

Inventory is valued as per Accounting Standards - 2 using First- In-First-Out (FIFO) method with

finished goods valued at cost or Net Realizable Value (NRV) whichever is lower. The raw materials

inventory and inventory of stores and spares are valued at moving average price.

For internal accounting purposes, the inventory items are divided as A, B, and C class items based on

the value. ‘A’ class items are those that have 70% of value while ‘B’ and ‘C’ class items are spare

parts for machinery and spare tools. There is a process to allocate the inventory cost to cost of goods

sold. The marketing budget is uploaded at the beginning of the period. On the basis of the marketing

budget, the production and purchase budget in quantity terms gets generated in SAP system.

The Activity Based costing (ABC) method is being used to absorb the inventory costs.

Issues and Recommendations for Inventory Management at Kriti Nutrients Ltd:

1. As activity based costing method is used for inventory costing, sometimes there arises a

difference between actual inventory and physical inventory as per SAP. However, inventory

reconciliation as per actual physical inventory and inventory as per SAP is done for all

‘A’ class items every quarter before the close of accounts. In case of ‘B’ and ‘C’ class

items which have lesser value as compared to ‘A’ class items, the company can apply

inventory shrinkage margin based on the past trends

2. The corroborated boxes used for packing are in short supply carrying a high lead time of 12-

15 days. Also, there are limited suppliers for corroborated boxes. The minimum stock of

corroborated boxes being maintained is currently 5,000 boxes. The buffer stock of the

boxes should be increased during peak times so that the ordering cost is lower and the

sales are smooth. The sourcing options for the boxes should be increased.

Logistics at Kriti Nutrients Ltd Export logistics

Export of soyabean products like soya meal (super hypro), soya grits, soya flour, soya lecithin, soya

chunks etc, forms a major part of revenue generation for soya industries across India. For Kriti

Nutrients Ltd, as per annual report 2011 – 12, 46% of the total turnover comes from these exports.

Major export destinations for Kriti are Japan, Argentina, Africa and Gulf countries like Iran, etc.

These exports are done through shipping vessels mainly through the ports located on the west coast of

India (i.e.) Mumbai. Some ports present on the west coast are Jawaharlal Nehru Port Trust (JNPT),

Page 8: KNL Report_IIM Indore

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Nhava - Sheva Port Trust (NSIT) and JTI. While Kriti Nutrients prefer Jawaharlal Nehru Port Trust

(JNPT) for its exports since vessels calling frequency is high in this port.

Process

Kriti Nutrients takes duration of 15 days from production in the plant to final shipping. The process is

as follows:

When the production is ready, containers are booked for shipping them. Then forward the delivery

order to Custom House Agent (CHA). CFS takes care of labor, stuffing the goods into the container.

CHA takes care of creating the documentation required for shipping and coordinates with Customs

department for clearances. CHA also takes care of invoice, packing list, weight & quality and etc and

gets loading orders. CFS then has to get all the containers inside the port within the cutoff time. If

CFS fails to do so, SSR (Special Surcharge) is levied and CFS bears it all.

Rail Transport

There are 2 types of wagons used for transportation.

BCN racks which have 42 wagons or 125 containers and which can hold a capacity of 2650 MT.

Jumbo racks which have 53 wagons or 160 containers and which can hold a capacity of 3300 MT.

Documents required for Processing

For Letter of credit (LC):

Production at the plant (3 days + 1 day buffer)

Loading at Railway sidings (2 days)

Transportation from Indore to Container Freight Station

(CFS) (2 days)

Container Freight Station for stuffing (3 days)

Move containers to port (2 days)

Gate closes before 2 days of departure of the vessel

Page 9: KNL Report_IIM Indore

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Invoice

Packing List

Certificate of Weight and Quality (done by TPA)

Non-GMO Certificate

Certificate of Origin

Copy of LC (covering letter)

At the time of realization, Bill of lading (shipping confirmation) is submitted

For Customs clearance:

Shipping Bill and Delivery Order

Invoice

Packing List

ARE (Tax documents)

Vessel details along with container number

There are annual rate contracts with the CFS and railways for container loading and transportation.

Logistics cost almost 40% of the price of the product. Some of the costs incurred are given below.

Local labor, Local freight, Train freight, CFS charges – Rs.7,500 / MT

Terminal Handling Charges (THC)

o JNPT – Rs.4,245 / container

o NSCIT – Rs.4,685 / container

o GTI – Rs.5,540 / container

Certification – Rs.2500/ MT

Spillage (0.05%) – Rs.100 / MT

Surveyors cost – Rs.25/ MT

Macroeconomic Factors affecting Soybean Industry Some of the major factors impacting soybean production globally are:

The Integration of energy and agricultural markets which is driving high commodity

prices. Due to increase in fuel and fertilizer costs, there has been tremendous increase in

variable cost of production of soybean. Growing demand for soybean due to its use in energy

production is driving up demand and hence prices.

The Strength/Weakness of the U.S dollar is another factor influencing price volatility of

Soybean. Generally commodity prices are priced in US dollars and hence a weak U.S dollar

affects commodity prices. The weakness of the U.S dollar compared to major currencies, such

as Yen (Japan), Euro (Europe Union), Yuan (China), and Real (Brazil) is responsible for

approximately 20 percent of the increase in food prices between 2002 and 2008 (Mitchell

2008).

During 2008-2011, due to weak US dollar, the prices of soybean increased by 14%.

Page 10: KNL Report_IIM Indore

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Stoc

k to

Use

Rat

io

25%

20%

30%

15%

10%

0%

5%

1999

2000

2001

World Soybeans Stock to Use Ratio

2002

2003

2004

2005

2006

2007

2008

2009

2 010

2011

Financial speculation is another major factor affecting soybeans industry. The main

advantage of futures markets is their ability to serve as indicators of future supply and

demand conditions (price discovery), which allows for efficient hedging. In 2006-2008,

hedging efficiency decreased from 78 to 26 percent in soybeans.

High crude oil prices have pushed up the prices of inputs used in production agriculture

operations. Cost related to fertilizers and fuels, which are oil derivatives, have risen

approximately 46 percent, on average, for soybeans from 2005 to 2011. These variable costs

account, on average, for 25 percent of total variable production costs for soybeans.

1999 – 2001 2002 - 2004 2005 - 2007 2008 – 2010 Average

Soybeans (USD) 15.78 15.81 26.93 39.02 24.38

Variable cost 20% 20% 28% 30% 25%

Increase in variable costs in production of soybean over the years

Annual World Soybeans Stock to Use Ratios

The increase in well-being of countries such as China, contributes significantly to the

increase in consumption of food products produced from commodities. This increase in

consumption lowers the stock to utilization ratios of agricultural commodities like Soybean,

thereby increasing price volatility in commodity markets. The other macro factors

influencing soybean industry are rate of inflation, Gross Domestic Product (GDP), currency

exchange rates, and industrial production .Most commodities volatility increases

significantly with inflation and economic growth, but decreases with the risk-free rate.

Volatility in commodity prices appears to be higher during recessions. There is also a linkage

between the long-run commodity prices and macroeconomic variables, such as population

and per-capita income. For example, both, the 1997 Asian crisis and the 2008 U.S financial

crisis contributed significantly to price declines in most international commodity markets.

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The rapid economic growth in China (with GDP of 9.5 percent) has fueled China's growing demand

for agricultural commodities, including soybeans. The domestic soybean production in China

accounted for roughly 50 percent of its total consumption from 1999 to 2004. In 2011 however, only

25 percent of consumption was met with domestic production.

1999-2001 2002-2004 2005-2007 2008-2011 CAGR

Production/Consumption 58% 45% 32% 25% -7%

Annual Soybean Production to Consumption Ratio in China

Global Market Overview - Leading Soybean producing countries USA, Brazil, Argentina, China and India are the top 5 producers of soybean in the world, in that

order.

In this section, we have tried to look at the agricultural policies in these countries which have an

impact on soybean production and also look at production trends over the past few years.

United States of America

Agriculture is a major industry in the United States and the country is a net exporter of food. As of the

last US Census of agriculture in 2007, there were 2.2 million farms, covering an area of 922 million

acres (3,730,000 km2), an average of 418 acres (1.69 km

2) per farm.

World oilseed trade consists of many closely substitutable commodities, such as soybeans, rapeseed,

sunflower seed, and cottonseed. Countries also trade oils and meals obtained from crushing oilseeds.

Foreign import demand depends on the difference between countries' domestic oilseed output and

consumption. Divergent demand for protein meal and vegetable oil, as well as limits on domestic

processing capacity, determine the ratio of oilseeds to oilseed products that countries import.

The volume and source of foreign imports depends on seasonal availability and relative prices,

credit and delivery terms, local preferences, and quality.

The United States is the world's largest producer and exporter of soybeans. Oilseed and oilseed

product exports, particularly soybeans, represent a significant source of demand for U.S. producers

and make a large net contribution to the U.S. agricultural trade balance. Among all U.S. agricultural

products, only grains and feeds outrank the oilseed sector in total export value and volume. In the

early 2000s, the value of U.S. oilseed and product exports averaged over $9 billion, nearly half the

farm-level value of production. By the late 2000s, the value of oilseed and product exports doubled to

over $20 billion.

Page 12: KNL Report_IIM Indore

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Main export destinations for U.S. oilseeds, oilseed meal, and vegetable oil include China, the

European Union (EU), Japan, Mexico, and Taiwan. Other important markets--including Indonesia,

South Korea, Thailand, Canada, Mexico, the Philippines, and several Latin American countries--also

import significant quantities of U.S. oilseed meals.

According to soystats.com, in the United States, soybeans were planted on 75 million acres (30.3

million hectares) in 2011, producing 3.056 billion bushels (83.18 million metric tons) of soybeans.

The average price paid to farmers was $11.70 per bushel ($430 per metric ton).

According to agrimoney.com, the estimate for US exports of oilseeds, and products such as soymeal

and soya oil, in FY 2012-13 was lifted by $3.3bn to $31.4bn, "propelled" by a 6.4m-tonne hike to

36.6m tonnes in the estimate for soybean shipments. Strong demand by China, coupled with limited

South American competition has kept exports brisk while supporting prices at record levels.

US soybean export sales and actual shipments for the 2012-13 marketing year - which starts on

September 1 for the oilseed, a month before the fiscal year – are running 24% higher than a year ago,

despite a weaker harvest, being boosted by the dearth of alternative supplies in South America.

Source: Indexmundi

Page 13: KNL Report_IIM Indore

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The data depicted in the above graph can be summarized into the following table:

The price change in February shows that prices may increase in the near future owing to the demand

from China and limited competition faced from alternate supplying countries.

The image below shows the supply and distribution trends of US Soybeans from 1999-00 to 2012-13

Source: Foreign Agricultural Service/ USDA

Brazil

Scenario in Brazil

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Brazil has progressively emerged as a major agricultural powerhouse during the past few years: A net

importer of agricultural products in the 1970s, the country now ranks among the world’s five largest

agricultural producers and exporters.

Brazil is the world's second-largest producer of soybeans. Brazilian soybean production has increased

more than 3000% in the last 35 years. The states of MatoGrosso and Paraná together grow on average

since 2000 over 49% of all soybeans in Brazil. Per hectare productivity has increased 37.8% since

1990. Soybean and soybean derivatives exports in 2005 alone earned over US$ 9 billion for Brazil.

Production : The following tables show the trends in the production of soybean oilseed, soybean oil

and soybean meal over the decade.

Soybean Oilseed Soybean Oil

Soybean Meal

Year Production Unit Growth

2003 51000 (1000 MT) -1.92%

2004 53000 (1000 MT) 3.92%

2005 57000 (1000 MT) 7.55%

2006 59000 (1000 MT) 3.51%

2007 61000 (1000 MT) 3.39%

2008 57800 (1000 MT) -5.25%

2009 69000 (1000 MT) 19.38%

2010 75300 (1000 MT) 9.13%

2011 66500 (1000 MT) -11.69%

2012 81000 (1000 MT) 21.80%

Year Production Unit Growth

2003 5560 (1000 MT) 6.82%

2004 5630 (1000 MT) 1.26%

2005 5430 (1000 MT) -3.55%

2006 5970 (1000 MT) 9.94%

2007 6160 (1000 MT) 3.18%

2008 6120 (1000 MT) -0.65%

2009 6470 (1000 MT) 5.72%

2010 6970 (1000 MT) 7.73%

2011 7040 (1000 MT) 1.00%

2012 7080 (1000 MT) 0.57%

Year Production Unit Growth

2003 22450 (1000 MT) 4.67%

2004 22740 (1000 MT) 1.29%

2005 21920 (1000 MT) -3.61%

2006 24110 (1000 MT) 9.99%

2007 24890 (1000 MT) 3.24%

2008 24700 (1000 MT) -0.76%

2009 26120 (1000 MT) 5.75%

2010 28160 (1000 MT) 7.81%

2011 28440 (1000 MT) 0.99%

2012 28600 (1000 MT) 0.56%

Page 15: KNL Report_IIM Indore

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Source: indexmundi.com

Prices

The price movement in various soybean products has been depicted in the following charts:

Page 16: KNL Report_IIM Indore

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Source: indexmundi.com

The Issue

The biggest factor that has been affecting soybean production in Brazil is the destruction of Amazon

Forests for the cultivation of soybean, which is detrimental to the environment, and although legally

allowed, is facing stiff opposition from the environment groups. Going forward, this might impact

soybean production in the country, hence pushing up global prices.

Argentina

Argentina is one of the world's major agricultural producers, ranking among the top producers and, in

most of the following, exporters of beef, citrus fruit, grapes, honey,

maize, sorghum, soybeans, squash, sunflower seeds, wheat, and yerba mate. Agriculture accounted

for 9% of GDP in 2012, and around one fifth of all exports (not including processed food and feed,

which are another third). Commercial harvests reached 103 million tons in 2012, of which over

54 million were oilseeds (mainly soy and sunflower), and over 46 million were cereals (mainly maize,

wheat, and sorghum). Soy and its byproducts, mainly animal feed and vegetable oils, are major

export commodities with one fourth of the total; cereals added another 10%.

Commodities for which the country is particularly relevant in world markets are soybeans and its

associated products, soybean oil and soybean meal. Argentina is the top exporter of soybean oil and

soybean meal, with 46.9% and 36.1% of the world’s export market, and the third-largest exporter of

soybeans. For all three commodities, Argentina ranks third among all producers, with almost one-fifth

of world output.

Argentina’s soybean crush declined in response to the 2012 drought and is now mired near levels last

seen in 2009, when a more significant drought occurred. While a smaller harvest accounts for most of

the decline, market uncertainty over the past few months encouraged producers to retain a larger share

of last season’s crop. Crushers are also facing competitive pressures that have reduced demand for

meal and oil, including oil used in biodiesel. Concerns that retroactive duties may be applied on EU

biodiesel imports have caused Argentina’s biodiesel exports to drop by 50 percent since September.

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Argentina’s soybean meal exports are down 1.0 million tons to 27.0 million on reduced crush

impacted by a smaller crop.

Trading on the International Exchange in Chicago is mixed because of poor crop results from across

South America and the United States. Soybean futures were supported by reports of long delays at

Brazilian ports and mixed weather elsewhere in South America, including major exporter Argentina.

The Rosario Chamber of Commerce in Santa Fe province estimated Argentina will produce 48

million tons of soybeans in the 2012-13 season. "There is at least a million tons reduction against

previous forecasts," Agriculture.com reported on its website.

Lack of water supplies the first week of February affected central and northern Argentina, including

Buenos Aires, Cordoba and Salta provinces. Rosario's estimate is at least 9.4 percent below an earlier

estimate of Argentina's 2012-13 harvest, which put the yield at 53 million tons. Analysts said that

estimate had already been revised downward as drought persisted in January, so the 1 million-ton loss

cited after Rosario's estimate is closer to the reality of Argentina's agriculture woes.

The Buenos Aires Cereals Exchange continues to predict a higher yield of up to 50 million tons.

Those projections are yet to be substantiated.

Prices

On February 8, 2013 the USDA released the February World Agricultural Supply and Demand

Estimates (WASDE) report. Compared to a month ago, the USDA projected a) higher U.S. soybean

crush (1.615 bb – up 10 mb), b) lower U.S. soybean ending stocks (125 mb – down 10 mb), and c)

lower ending stocks-to-use (4.02% S/U) for the “new crop” 2012/13 marketing year. The projected

“new crop” MY 2012/13 U.S. ending stocks-to-use of 4.05% are record low, and are down from

4.40% last month, and down from 5.36% and 6.55% the previous two marketing years. The USDA

also raised its projection of soybean prices for “new crop” MY 2012/13 marginally from a month ago,

up to $13.55-$15.05 per bushel, with the midpoint of $14.30 up $0.05.

If a large South American soybean crop does occur in 2013 in combination with either “trend line” or

“above trend line” U.S. soybean yields, then a significant rebuilding of U.S. soybean ending stocks

Page 18: KNL Report_IIM Indore

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and sharply lower U.S. soybean prices would likely result by fall 2013 and on into the coming

2013/14 marketing year.

China

China is one of the largest consumers of soybean in the world at 70 million tonnes soybeans in 2011.

Out of this only 14 million tonnes are produced in China while the remaining is imported.

This makes China one of the largest

importers of the soybean. Soybean is

used as source of animal protein in the

feed, and with rising consumption of

meat, milk and eggs moving up the value

curve, the consumption of soybean is

increasing. Though the consumption of

soybean has been rising, China's

agricultural output of soybean has

stagnant over the last decade. With

increasing demand, nearly 60% of all

soybeans in trade go to China. The

Chinese government policy of growing

food grains become self-sufficient

instead of soybean resulted in small acreage of soybean. Soybean acreage is expected to be

105million acres in 2013, which is drop of 5% thus further increasing the imports.

The main effect of significant rise in world

soybean consumption has been a restructuring

of agriculture in the western hemisphere. In

the U.S., total land acreage for soybeans is

more than in wheat. In Brazil, the acreage in

soybeans is larger than all grains combined.

Argentina’s soybean area is now close to

double that of all grains combined, putting the

country dangerously close to becoming a

soybean monoculture. In ten years, the acreage for

soya beans in Brazil and Argentina nearly doubled

from 22 million hectares to 41 million hectare.

Macroeconomic conditions of China, being the

demand driver, are affecting the volatility of the

soybean prices. As the Chinese economy (GDP of 9.5

percent, on average, over last 10 years; World Bank

2011) is growing strongly over the past decade, the

soybean prices have skyrocketed. The rising per

capita income and population of China is biggest

driver for soybean market.

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Contract farming as an alternative Contract farming is a practice wherein the buyers and farmers reach an agreement over the

sale/purchase of farm products. The farmer typically receives support from the buyer in the form of

technical advice, expertise etc. and agrees to sell his farm output to the buyer at a predetermined price.

The primary benefit of this activity is that it reduces the price volatility seen in most commodity

prices. The corresponding downside is that gains from lower prices will not be passed on to the buyer

and a significant investment is required.

Given the impact of fluctuating soybean prices on KNL’s activities, we believed contract farming in

Madhya Pradesh may be one of the alternatives that could be looked at.

The three most common models for contract farming are:

Model 1:

Model 2:

The farmer directly supplies to the company

through its extension arm.

This model helps to reduce some of the

inefficiencies in the supply chain.

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Model 3:

Advanced model for large scale Contract Farming

In addition to above mentioned three models there is also an advanced model suitable for large scale

contract farming option.

The farmer sells to the Arhatiya which

acts as a facilitator between the farmer

and the company

In this model NGO/Govt. Body acts as the facilitator

for supplies between the company and the farmers

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In this model the corporate takes help of an implementing agency. The risk of loan is also borne by

the bank which insures it through an insurance agency to safeguard against crop failure. This is a very

efficient model which could be used for large scale contract farming option.

Recommendation for Kriti:

Contract farming is highly capital intensive and requires the company to have extremely deep pockets

and a wealth of resources. This would be a huge investment for Kriti to take up and hence we are

uncertain as to whether is investment is warranted at this point in time.

Successful Contract Farming Initiatives:

The following are some commonalities among successful contract farming projects:

1. Appachi adopted a one village, one group policy which meant that each village was

responsible as a whole for the produce. This instilled a sense of mutual accountability among

the farmers

2. Pepsi established a core R&D team which worked extensively in developing the best

technology for the farmers. They also developed relations effective through public sector

enterprise

3. Pepsi also ensured on time payment through a transparent online system

4. A common element Pepsi, Appachi and Ugar was that there was a technical person from the

company either on field for regular inspection or who made atleast 3-4 visits/week

5. To ensure that there was no issue on price Ugar had a contract agreement whereby it was

binding on the part of the company and the contracted farming. This meant that the entire

produced would be sold/bought at the agreed upon contract price

6. A few problems did crop up though – In the initial years the farmers did not have much of a

problem with the contracted price. However once they had mastered the use of technology ,

the market prices suddenly seemed more attractive

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7. Some major bottlenecks are : enforcing the contract agreement and operationalization and

standardization of the above said agreement

While there have been numerous successful contract farming initiatives in different parts of India,

most have been carried out by firms dealing in large volumes. The capital outlay for such policies has

also been substantial. KNL must choose whether to use this approach based on their yearly demand

for soybean and willingness to invest large sums.

Soybean price volatility and suggestive solutions From our study of the mandi prices and their correlation with the commodity exchange prices, it was

clearly visible that the soyabean prices are highly volatile. It is now not only the effect of the seasonal

swings but the volatility has become the norm of the game.

Some of the major factors influencing the prices are:

Weather most importantly during the pod bearing period.

Prices of the competitive commodities including oils.

Movement in prices in the international market.

Pests and diseases.

Fundamentals of the feed sector.

Crush margin

Infections affecting poultry and cattle.

Soybean is traded on almost all major commodity exchanges, the primary trading centres being:

Chicago Board of Trade (CBOT), Chicago-largest soy futures market

Dalian Commodity Exchange, China

Argentina

Brazil

The Indian commodity market for Soybean is very small in comparison to the above four. Soybean is

traded in Indian commodity exchanges namely, National Commodity & Derivatives Exchange ltd,

Multi Commodity Exchange of India ltd and National Multi Commodity Exchange of India ltd

and National Board of Trade, Indore.

Within India, the mandis are operational in different parts of the country. However, some of the

biggest mandis in the country are Indore, Ujjain, Dewas, Mandsore, Astha, Nagpur, Sangli and Kota.

One of the major issues faced by companies while procuring the soybean from the mandis has been

the deep rooted impact of the middlemen in the trade. They draw the maximum margin on the

commodity trades while both farmers and the industrialists lose out on their margins. Kriti has been

trying to negotiate with the farmer to get the supplies directly but mistrust and lack of a proper

contract has failed their endeavours.

To this end, we suggested that it is utmost important for the company to increase its direct intake from

the farmers as the highly volatile markets are not conducive for the growth of the company.

The issues with a contract between the farmer and the company are as follows:

Mistrust and information asymmetry between the two parties

Farmer feels worse off selling his stock to the company if the difference in the mandi price and his

selling price are high. The company feels worse off if the mandi prices are lower. Sometimes, the

farmers complain that companies may not honour their commitments if the prices have crashed in the

mandis.

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To this we suggest that the company increase its interaction with the farmers and chalk out a contract

which looks after the fears of one the poorest but essential societies of the Indian economy.

The contract can be designed such that it factors in the implied volatility in the commodities market

while deciding the price of the futures contract. The company has to assure farmers that they get a

fixed price for the soybean if the market price remains within a certain range determined by the

implied volatility in the market. However, if the prices rise higher than the price band mentioned

earlier, the company compensates the farmer with the price difference. While in case of prices

crashing below the lower range, the company may compensate the losses in the next contracts.

Company's aim should be include the farmers as a crucial part of their value chain and win their trust.

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List of References

Euromonitor.com

Indexmundi.com

Foreign Agricultural Service/ USDA

FACTORS INFLUENCING PRICE VOLATILITY ON SOYBEANS FUTURES PRICE - by

Diego J. Gavilanez Hernandez B.S., Escuela Agrícola Panamericana, El Zamorano, May 2012

ERS, Oil Crops Yearend Review: U.S. Soybean Demand Powered by Record Supply, June

2008