How Long Can These Sky High Colombian Coffee Prices Last?

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The perfect storm is here for Colombian coffee producers. 

Growing coffee is now remarkably profitable. 

Today, coffee prices are hitting 10-year highs on international commodity exchanges.  Within Colombia, the U.S. Dollar is also hitting 10-year highs against the Colombian Peso. 540,000 families are dependent on the coffee industry within Colombia, or 5% of the nation’s total population. Current coffee prices are double what they were just at the beginning of 2021.  This is a big deal to these coffee families, coffee growers, the coffee industry and Colombia as a whole.

We write this article through the lens of serving on the Board of Directors of and as investment sponsors for the Green Coffee Company, a Legacy Group portfolio company and a top-3 producer of coffee in all of Colombia. Our opinions and observations are consistent with the expert commentary cited below. 

What the Coffee Experts are Saying

The President of the Colombian Coffee Growers Federation (in Spanish: Federación Nacional de Cafeteros de Colombia), Roberto Vélez, has been in the news recently discussing his thoughts on the current state of affairs in coffee within Colombia.  

For readers who are not familiar with who Roberto Vélez is or the role of the coffee federation here in Colombia, he leads the organization tasked with: (1) protecting the Colombian coffee industry, (2) studying its problems and (3) furthering its interests on the national stage.  This role is critical within a nation dependent on coffee for its economic future. 

Coffee is the declared national product of Colombia. Coffee represents the third most valuable Colombian export commodity outside of petroleum and coal at $2.4 billion of coffee exported annually. Colombia is the world’s third largest coffee producer (#2 if you only count arabica coffee).  As such, the words that Roberto Vélez echoes have national and global implications in the coffee sector. 

Mr. Vélez has recently raised some key themes addressing the future of Colombian and international coffee pricing, production costs and forecasts about future coffee supply that public market data supports: 

Inflation has pushed the costs of coffee production upward, but coffee market price increases have more than compensated for these cost increases.

Despite the solid upward trajectory of coffee pricing, producers have not been completely sheltered from current inflationary economic situations that have increased costs, such as fertilizers, logistics and labor costs. While these cost factors have hit the profitability of the coffee business by roughly a 6.25% increase in cost during 2021, this year’s price adjustments to the C-price of coffee on coffee exchanges of more than 200% dwarfs these inflationary adjustments. Moreover, the current exchange rate of over 3,900 Colombian pesos per US dollar has bumped domestic pricing enormously in-country.

U.S. Coffee Market Prices

Source

Exchange Rate between Colombian Peso and U.S. Dollar – Its Impact on Coffee Prices

Source

Climate change has severely affected Brazil’s coffee production. The expected effects in Colombia and Central America will be much smaller.  

Although Colombia is projected to produce one million fewer bags of coffee this year than last (Vélez and others expect about a 7% decrease on a year-over-year production in Colombia due to greater rainfall from La Niña), the problem area both now and in the future for global coffee supply will be in Brazil. 

Vélez stated that for several months early this year he had warned that a diminished harvest of the world’s largest coffee producer (Brazil) was coming due to the lack of rain there in September, October and November. Due to the fact that international coffee markets had very high inventories of Brazilian coffee because Brazil had previously exported all of its 2019 production (the largest in its history), markets did not take notice of Vélez’s warnings about depletion. They had their coffee and did not have sufficient transparency into Brazilian production to know about coming coffee shortages. Brazil’s production due to lower rains and a strong frost that occurred in the first quarter of 2021 decimated inventories.  Brazil continued to sell to the international market during the first six months of this year until their domestic inventories also plummeted. Vélez predicts an upcoming period of potential coffee scarcity, on an international level.  He and others see the current situation starting to parallel the market that existed almost 50 years ago in 1977 where coffee prices were trading at well over $3 per pound. These were the so-called “real bonanza” years.  Vélez and others believe that today’s environment of elevated coffee pricing could last well into 2023.

Conclusion and Author’s Final Words:

Global coffee supply is in the news as becoming more distressed, seemingly, on a daily basis.  

Reuters has forecasted that coffee production may not meet global demand during 2021’s annual harvest, potentially also remaining in this deficit position throughout 2022.  Although these news articles are often largely referencing the global coffee market, the future of coffee prices will largely be dependent on what happens in Brazil. Roberto Vélez isn’t the only one pointing to Brazil as the lynchpin.  Per Nasdaq, experts believe that Brazil’s 2021 crop will see at least a 25% drop vs. 2020 figures.  Production in Colombia and Central America are not seeing the same climate change effects as compared to Brazil.  Experts are not sure what to make of the situation, but one thing is certain: there is not a clear solution in place to get more coffee produced on a global basis in the short-term. Expect global coffee prices to remain elevated.

In regards to individual investors looking to invest into the coffee industry, we offer you the following thoughts as a result of these recent market developments and our on-the-ground experience:

Larger scale coffee producers in Colombia and Central America should remain steadily profitable over the next few years, at least.  

The value chain has shifted massively in favor of the coffee producer given the current pricing on the coffee commodity markets.  In the last decade, there has never been a better time to be a coffee producer in Colombia or Central America.  By the President of the Colombian Coffee Growers Federation’s own words, the average producer should be experiencing gross margins of nearly 60% on small-scale production. Larger producers and producers who are able to sell at premiums to spot pricing and operate with scale will benefit even more. 

We believe that companies such as our own at the Green Coffee Company are going to be situated to do extremely well given current market conditions, its supply chain control and its scale as the soon-to-be largest coffee producer in Colombia.

Competition at coffee roasting companies in developed markets is going to heat up. Many will fail. Consolidation will likely occur.

Most coffee roasting companies in developed markets are smaller or mid-sized businesses that focus on smaller, local markets. With coffee prices where they are today, their cost of raw materials just doubled this year – at least.  These companies have largely been spoiled over the last decade due to historically low coffee prices. Their operating margins have been artificially enhanced to a great degree. 

Expect that their consumers will not absorb this significant increase in raw material costs just because they like their favorite roaster’s espresso blend.  We don’t expect that the end-pricing of roasted coffee will be able to be priced materially higher than the consumer price index increases that we are already seeing within developed markets’ inflationary economies. Smaller coffee roasters who are not used to operating on tighter gross margins are going to get squeezed. Expect to see many of these smaller roasters go on the market or into bankruptcy proceedings in coming years should there be no material change in coffee commodity prices on the exchanges.  We will see what opportunities become available and how the coffee industry takes form in these very interesting and fluid times.   

Subscribe to our Insights in the footer below if you are an investor interested in staying up-to-date on these coffee market trends. 

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*This publication/newsletter is for informational purposes and does not contain or convey legal advice. The information herein should not be used or relied upon in regard to any particular facts or circumstances without first consulting a lawyer. Any views expressed herein are those of the author(s) and not necessarily those of our clients.

Sources:

https://www.eltiempo.com/economia/sectores/precio-del-cafe-colombiano-las-razones-del-precio-historico-633659

https://www.investing.com/commodities/us-coffee-c

https://www.xe.com/currencycharts/?from=USD&to=COP&view=10Y

https://oec.world/en/profile/country/col

https://en.wikipedia.org/wiki/National_Federation_of_Coffee_Growers_of_Colombia

https://www.macrotrends.net/2535/coffee-prices-historical-chart-data

https://www.nasdaq.com/articles/brazilian-coffee-crop-seen-25.7-lower-in-2021-conab-2021-09-21

https://www.reuters.com/article/global-softs/ico-sees-substantial-global-coffee-deficit-next-season-due-to-climate-shocks-idUSKBN2G41IU