Analysis of sugar industry marketing season (2018-19)

Following the announcement by Prime Minister’s office to make inquiry report on sugar crisis public, industry’s association PSMA has finally issued the annual report of for marketing season 2018-19 (Oct to Sep). Compared to previous years, the report has been issued with a delay of almost two months; however, comes armed with a plethora of statistics that could very well be read like a passionate defence of the sector.

The presentation accompanying the regular statistics section makes substantive arguments, highlighting industry’s contribution to economy; employment; farm incomes; regional competitiveness; export potential of value chain; and most saliently, water efficiency. While most of the positions deserve a separate column on their own, these have been frequently highlighted in the Analysis & Comments by BR Research section recently. Given limitations of space, this brief will restrict its focus on the statistics shared by PSMA.

Cane Utilization & the export perspective

Delay in payments to growers resulted in 18 percent contraction in acreage, and poor investment in inputs that led to decline in yield – leading to fall in crop production by 20 percent. Reduction in headline sugar output by same percentage thus comes as no surprise, but masks important details.

While crop output was indeed lower – as was market demand when crushing began in Dec-18 due to high carryover inventory – the significant number to look at is 74 percent utilization of harvested cane for crushing purposes.  This is lowest since at least 2009-10. Cane utilization in Punjab was even lower – at just 67 percent.

Recall that because foreign trade of white sugar is controlled under a restrictive regime – ban on export is usually removed with the express purpose to ease domestic stock position. The regulatory intent is to balance supply and demand in domestic market so that sugar mills may timely begin crushing and make payments, so that growers may not face crop losses.

While the industry clearly benefited from two rounds of sugar export quotas – totalling 3 million tons – lowest utilization in ten years means that the benefit from trade ban relaxation was passed on to growers only partially.

Note that in sharp contrast to Punjab, utilization in other provinces remained in line with past seasons. In fact, utilization level in KP was much higher than last year, despite the spectre of gur smuggling raised by association’s provincial chapter repeatedly.

Mills in Sindh were perhaps expected to clock in greater shortfall in sugar production considering much more severe contraction in both area and yield under crop – partly due to water stress.

Closure of mills: less terrifying than expected

In fact, industry association representatives in several off the record conversations had noted that due to shutdown of Omni group’s mills – totalling nine – situation in the southern province was projected to be much more severe. Instead, Sindh only saw closure of two additional units, only one of which appears to belong to Omni group.

In Punjab, shutdown of two additional units comes as no surprise. Recall that relocation of several units related to the Sharif family was declared ultra vires to The Punjab Industries (Control on Establishment) Ordinance by the Supreme Court in 2016-17.

Two of these units – Ittefaq and Haseeb Waqas – were temporarily allowed crushing in 2017-18 season due to surplus availability of cane that existing units in the southern Punjab region were unable to procure despite commitment to the court. Since then, the two units are once again shutdown. In fact, out of five units shut down in Punjab, four belong to the Sharif family. The fifth unit, Imperial (Colony – I) in Mandi Bahauddin, has been for sale on the market for nearly two years, as the management has applied for change in nature of business. However, it appears the unit has so far not been sold off due to shortage of cane in mill’s home region.

Molasses recovery: still an odd ball

All 77 (out of installed 90) functional mills list molasses recovery level at 4.5 percent, without fail. This remains inexplicable, as sucrose recovery levels in the industry during the same year varied between 7.1 percent (Al-Asif) on the lower bound, to 11.5 percent (AKT).

For molasses recovery level to be constant throughout the country appears remarkable, considering the high degree of variation in cane variety, raw material quality, time of sowing and harvest, inputs used, milling efficiency, and differences in plant and machinery. Note that while molasses has a low market value (approx. Rs 14 per kg during 2019), it is used as raw material for manufacturing of ethanol, a high value exportable commodity.

On one hand, PSMA – Punjab chapter chief Nauman A. Khan in an interview with BR Research noted that the industry has advocated with FBR to use ethanol output as a proxy to estimate under reporting in sugar industry. On the other hand, quantity of molasses produced as reported by PSMA’s only official data set appears suspicious.

Connecting the dots

And this ties in back with the variance in utilization levels. In an year when sugar industry reported highest ever recovery level at 10.47 percent, higher utilization of cane harvested could have led to a totally different outcome on sugar supply position during 2019. Had utilization been higher by 10 percentage points, output could have been higher by at least 15 percent, or incremental 1.5 months of domestic demand.

Considering the impact on retail prices based on carryover stock position at the beginning of crushing season – retail price was at 7-year lowest in Oct-17 when opening stock equalled 6 months of demand – lower utilization of cane clearly played a decisive role in upward spiral seen in retail prices during last 12 months.

On industry wide basis, only 13 out of 77 units saw an increase in output over previous year. Even if the export quota perspective is disregarded, for the industry to refuse procurement of higher than average sucrose content crop, may have potentially also played a role in dissuading growers away from cane crop for the following season.

Conclusion

Seeing how market prices are usually forward looking, the shortage in cane acres for two subsequent seasons arguably is playing a role in keeping wholesale and retail price of sugar on the higher side, despite coverage of 4.5 months’ worth of domestic demand - based on industry’s figures. Shortfall in cane acres is symptomatic of falling grower interest in cane crop, which in turn is an outcome of lower cane utilization despite availability of raw material. While it may not be deemed collusion but is very well market signalling.