Plantation companies in Malaysia continue to face hardships as can be seen by their results in the first half of 2019. Even though there is an increase in the plantation and growth of palm oil, low productivity along with the increasing cost of production and over dependant on foreign labour need to be addressed.
Palm oil is one of the key contributors to the Malaysian economy. Malaysia used to be the largest palm oil exporter in the world but was displaced by Indonesia in 2006. In 2015, palm oil contributed about 4.2% to the country’s gross domestic product, but the number has increased to 37.9% in 2018.
Some of the largest plantation companies in Malaysia which contributed to the country’s economy are Sime Darby Berhad, IOI Corporation Berhad, Kuala Lumpur Kepong Berhad, Genting Plantations, Felda Global Ventures Holdings and United Plantations.
With the increasing demand for palm oil, which is used in products such as chocolate bars, chewing gum, lipstick and washing powder, Malaysia is faced with a challenge to increase its production without sacrificing sustainability. The Chief Financial Officers (CFOs) of the above-stated companies will have to consider the following:
1. Diversification
CFOs face a challenge of how to balance and manage short term profits against long term performance. Expansion to drive revenue growth or continuously find avenue to increase revenue is crucial to ensure the survival of the plantation company.
Risk-taking and venturing into diversified and niche business activities through higher value-added products such as oleochemical finished products, biomass, biodiesel, food and phytonutrients are essential for plantation companies to combat inflation and margin erosion.
Diversified ventures invoke endless opportunities. For instance, the introduction of pollinating insects, the discovery of harvesting pole and sickles, and the containment of ripe bunches are previous successful breakthroughs in Research & Development (R&D). Therefore, the allocation of funds to R&D is vital for long term sustainability.
2. Financing
Plantation companies are having difficulty securing financing for the expansion of replanting. Traditionally, estates are replanted 4-5% of the total area per year. However, due to depressed oil prices, replanting is cut down. In the long run, the yield is low resulting in a reduced profit. Banks are not that forthcoming when they were presented with the companies’ bottom line.
The current government is providing incentives under the 11th Malaysian Plan (2016-2020). Under this plan, the government is promoting the adoption of technology to improve productivity by focusing on high value-added and advanced technology. This is an opportunity to expand productivity, innovation and pursue green growth for sustainability.
Managing the cash flow of the company through the incentives given by the government will yield higher production, quickens the collection of receivables and extend payables to a longer period.
3. Regulatory Reporting
One of the new certifications all plantation companies needed to comply with is the Malaysian Sustainable Palm Oil (MSPO) certification by the end of 2019. This standard requires compliance with Good Agricultural Practices (GAP) and Occupational Safety & Health regulations in addition to the legality of land tenure and knowledge on social concerns and environmental issues. This sustainability reporting is demanded by Bursa Malaysia and Securities Commission to be reported in the annual reports.
Additional costs are incurred to comply with this reporting. By implementing GAP diligently, productivity and quality of the produce will improve. This will eventually enhance the plantation company’s income and help offset the cost to maintain the MSPO certification status. Companies that act beyond compliance with human rights commitments, due diligence efforts, and risk management will gain recognition and respect.
4. Taxation
The export tax on palm oil is making plantation companies not at ease. If the crude palm oil (CPO) price reach above RM 2,250, all export shipments are taxed 4.5%. This is a huge chunk out of the profits given that the stockpile is high in the country.
In May 2019, Malaysia suspended export duties on crude palm oil (CPO) until Dec 31, 2019 to improve the country’s CPO export competitiveness and clear the nation’s current high stock level of 2.92m tonnes as at March 2019. This move has encouraged CPO exports and attracted African countries, middle eastern nations and Russia to buy Malaysian CPO.
Companies do not need to worry about paying a tax of 4.5% if the CPO price reaches above RM 2,250 per tonne now that Malaysia is enjoying export free CPO until the end of the year. They will have a better focus on keeping palm oil competitive ahead of the peak production season in 2H19 and avoid a repeat of the sharp drop in CPO prices in 4Q18.
5. Information Technology
Obtaining the right system to cater for the business is a huge challenge, as no system is able to fully cater to the overall plantation needs. The start of evaluation till execution is a very time consuming & lengthy process. In addition, post-implementation incurs never-ending maintenance issues.
Sime Darby introduced a pioneering initiative called “Crosscheck” on 23 May 2019 to address this issue and ensure the industry’s long-term prospects. This initiative is an open access online tool that enables traceability across the supply chain down to the mill level, making it possible for everyone to identify where problems may exist, so that action can be taken.
Investment in this online tool to develop and advance plantation companies into the future of plantation business is a move towards sustainability, as this could be the next frontier in halting deforestation and a major step towards a deforestation-free supply chain.
6. Managing stakeholders, including commodity analysts
The challenging business environment and volatile external environment influenced by the US-China trade war has impacted the CPO prices. External factors including the negative perception of deforestation have indirectly played a role in the decline of CPO prices as well.
Engaging in consultants from competent consulting firms who are capable of analysing companies’ performance and making recommendations to improve will bring in more ideas and gains to the companies.
It is a must to embody the culture of good governance and transparency to avoid further scrutiny from external parties, both the government and the public. The MSPO certification which was emphasized on point 3 must be complied before the end of 2019.
7. Labour shortages
Malaysia’s Ringgit currency has plunged in value by 15% against Indonesian Rupiah since 2015. About 70% of this industry’s workforce comes from Indonesia, but as Indonesia is now opening new plantations to meet increasing production and offering higher wages, Indonesians will work locally instead.
During the harvesting peak period which is about 3 to 4 months, crop recovery couldn’t be met. The need for a firm policy on the recruitment of foreign workers is crucial. The wages of these workers need to be raised 20-30% above the average wage in Indonesia to attract foreign workers.
Most of the field operations are mechanised but older palm trees which are over 10 to 15 years are taller and more difficult to harvest as their productivity decreases, so the machines couldn’t reach that height. In order to resolve this difficulty, funding to spark innovation on the electrical cutters is a decent approach to facilitate harvesting to enhance productivity. Hence, the harvesters’ earnings will also be multiplied, thus this will attract foreign workers.
Robotics is an alternative harvesting technique to overcome the shortage of labour. Kingoya Enterprise Sdn Bhd, an oil palm harvesting equipment manufacturer, has developed ECut after 4 years of R&D. ECut is the first of its kind battery powered palm oil harvesting tool which is able to increase the profitability of plantation with a significant reduction in cost and improvement in yield. Costs reductions are estimated to be at 10-25% and harvesting times are cut down by 300%. ECut can reach heights of six to eight metres, therefore catering for both young and mature palm trees. On top of that, there is zero-emission and lower level of noise, making it “Environmentally Friendly”.
8. Sustainability
Legislation and policy changes, in particular to sustainability & environmental requirements demand new and greater management time. Due to the strong demand for palm oil, cultivation of oil palms has expanded resulting in environmental impacts that have attracted considerable debate among policy-makers, scientists and the general public.
Greenpeace report claimed that palm oil production was the single biggest cause of deforestation, causing destruction to the critical habitat of endangered species such as the orangutan and the Sumatran tiger. Furthermore, carbon is released into the atmosphere resulting in global warming.
Companies have a tough time in optimizing sustainable cultivation as they try to achieve the highest possible yield with the minimum detriment to nature.
To ensure sustainability, the Roundtable on Sustainable Palm Oil (RSPO) was formed in 2004 to promote the use of sustainable palm oil through credible global standards and engagement of stakeholders. The sustainability criteria set ensures the basic rights of indigenous landowners, local communities, and plantation workers are respected and considered. It is also specified that no rainforest areas or areas of high conservation value should be cleared to make way for new plantations. This will contribute to greater transparency in the value chain and help to strengthen the dialogue on sustainable palm oil.
Conclusion
In view of these challenges, plantation companies in Malaysia have the option to begin diversifying by looking at its downstream sector. Adding value through innovative activities will help tackle the volatility of the market, and tariff and non-tariff barriers. Exporting downstream goods fetch better prices and value as opposed to selling raw materials.
It is important to search for new markets for further expansion as production traditionally rises over the third quarter of the year. Instead of big markets, Malaysia could look at its own backyard. Countries like Myanmar and Vietnam are evidently showing growth in demand.
Collaboration between the government and plantation companies on the proposed implementation of a minimum wage is essential to strike a balance between productivity and cost of operations. Moreover, the government is providing support and technical assistance to meet sustainability objectives.
Written by Adrienne Gim, Senior Consultant
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