Transcript Dynamics of Agri-food Supply Chains in Transition Countries Johan F.M. Swinnen

Dynamics of Agri-food Supply
Chains in Transition Countries
Johan F.M. Swinnen
The World Bank
Sarajevo Conference
May 24-26, 2004
Background
Breakdown of the relationships of farms
with input suppliers and output
markets.
 Contracting and vertical coordination in
supply chain emerging to overcome
these obstacles
 Processes have been an engine of
growth in most advanced ECA
countries.

Key Issues / Questions

How important / general is this process ?

Which models ?

Which conditions are required ?

Effects ?

Who gets the benefits ? (What about small
farmers ?)

Which role does FDI play ?

Implications for government policy and
international organizations ?
Methodology

Series of case studies, interviews and
surveys

Different sectors (dairy, cotton, fruits &
vegetables, …)

Different countries across ECA
1. Important ?
Yes.
Farms selling on contract in
Central Europe (% of all)
Farm
Family
Comp. Farms
Hungary 1997
94
17
Czech
1999
98
46
Slovak
1999
96
35
Dairy in North Poland

ALL dairy companies assist suppliers
(farms) through :
 Input supply programs
 Credit programs
 Extension services

PART : Bank loan guarantee programs

Programs for SMALL and LARGE suppliers
Dairy in Bulgaria, Slovakia, Poland
Credit
Inputs Extension
Vet.
Bank
Total
1994
PL
SK
BG
50
0
9
67
0
18
50
83
9
0
17
0
50
17
0
43
23
7
1998
PL
SK
BG
83
17
45
100
17
64
83
83
18
17
17
18
83
33
18
73
33
33
2002
PL
SK
BG
83
100
82
100
33
91
83
83
73
17
17
18
83
50
36
73
57
60
CIS

5 country study : 40% of agri-food
processors offers credit to suppliers

Kazakhstan cotton : 71% of cotton
farmers contracts with ginner, with
assistance packages
Q17: Do You Get the Following Resources
from the Ginnery?
yes
no
100%
11%
90%
27%
35%
80%
60%
70%
80%
60%
96%
50%
96%
89%
40%
73%
65%
30%
40%
20%
20%
10%
agroconsulring
fuel
4%
water
fertilizer
seeds
finance
agrochemistry
4%
0%
How Important ?

Sugar sector : 80 – 90 % of CEEC sugar sector is
FDI, using contracts & farm assistance programs

Dairy & oilseeds sector : significant FDI, and
most companies implement programs, with
strong spillover effects on domestic companies

Supermarkets : Some, but not generally

After 1998 : VC in Russian food chain by
domestic investments from outside agriculture

Kazakhstan : grain trading companies investing
upstream; cotton ginning : contracting mostly
with small farms, ...
2. Multiple Models & Motivations
Commodity specific
 Transition-stage specific
 Securing basic supplies
 Quality !
 Many constructions (simple & complex)
 Key is “Non-traditional” design (also
e.g. Warehouse Receipt Systems)

Reasons for Contracting – CEE
Czech
Slovak
Hung
Contract price higher
12
10
10
Avoid price uncertainty
6
21
33
Guaranteed sales
60
50
43
Immediate payment
7
11
3
Easier to get credit
0
0
9
Contract - inputs or TA
10
6
2
Other
4
2
0
Reasons for Contracting
Kazak Cotton Farmers
Q36: If you sign a contract, why do you do it? What
is the benefit of having such contract?
no
yes
100%
19%
90%
80%
50%
91%
89%
96%
100%
96%
0%
4%
other
60%
access to
technical
assistance
from ginner
70%
81%
40%
30%
4%
11%
access to
quality
inputs
9%
access to
pre-finance
from ginner
0%
guaranteed
sale price
10%
guaranteed
place to sell
20%
Reason
Agri-business Motivations for
Vertical Integration

Early stage : Securing basic supplies
(ex: pre-finance, inputs, …)

Advanced : Upgrading quality of
supplies (ex: technical and
management assistance, investment
loans, loan guarantees, …)
Supermarket
Assistance to farms

Available evidence indicates that
modern retailers introduce similar
packages “if they have to” to secure
quality supplies. E.g.
 Central America (Berdegue et al)
 Croatia (Reardon et al)
Transition Region is Special

Collapse of farm output and livestock
numbers creates discrepancy between
processing capacity and supply

History of poor quality

This makes it a “SUPPLIER’s MARKET”
(compared to other regions)
Some Examples of More
Complex Models
Integrating Multiple Stages :
INTERBREW (Brewing Multinational)

Brewing Co.

Malting Co.

Barley farm

Seed supply

Core business = brewing
Forced to vertically integrate
to ensure quality
malt/barley/seed
General strategy applied
differently in different
countries b/c of local
conditions
Bring in co-foreign investors
to assist with non-core
activities and set up farm
assistance programs
Programs interlink markets
Proces./Retail – guaranteed supplier loans:
JUHOSUKOR in Slovakia
& KONZUM in Croatia
Retail/Processing Co.

Farm
Bank
Retailer/processor
provides loan
guarantees for bank
loans to suppliers
Dairy Processor Becomes Financial
Institution: DANONE in Romania

Processor takes on
banking function:
 provides loans
to farms
 based on
business plans
 takes collateral

Provides payment
guarantee for input
suppliers
Processing
Farm
Bank
Input Supplier
Lending with distributed risk:
RABOBANK - SPVs

Financial institution is
foreign investor

Special purpose vehicle
(SPV) to distribute risk
equally among partners

Ex. where group of
small farmers formed
cooperative to
participate in SPV
Processing co.
SPV
Bank
Farm
Input Supplier
3. Contract Enforcement
is essential for ANY model

Crucial to make VC sustainable

Not obvious: Many cases and stories
where contract enforcement problems
undermines VC

Private enforcement mechanisms can
be more important than public
institutions
4. Effects

Important Direct Effects :
 Enhanced QUALITY (& higher prices)
 Increased PRODUCTIVITY
 (eg CIS study)

Important Indirect Effects: Spillovers
 Contract replication by other companies
 Farm assistance replication
 Household level spillovers
Change in yields in Central
Europe 1989-2000
15
10
Change in yields (%)
5
0
-5
-10
-15
-20
-25
-30
-35
1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999
Sugar Beet
Milk
Coarse Grain
Oilseed
Share of Extra Class Milk in Total (%)
Change in Quality
Dairy in North Poland 1996-2001
100
90
80
70
60
50
40
30
20
10
0
1996
Mlekpol
Mleczarnia
Kurpie
Mazowsze
ICC Paslek
Warmia Dairy
1998
2001
Household Spillover Effects
Reduced risk (guaranteed price for
contracted crop) in absence of
insurance markets
 Improved access to credit (cash for
contracted crop) with imperfect capital
markets
 Increased productivity of noncontracted activities, through improved
management and better input use

5. Foreign investment (FDI)
Conceptually, no need for FDI
 Empirically:
 FDI is driving force for contract
innovations
 Domestic spillovers are important
 Several exceptions: FIG investments
(Russia, Kaz), Cotton Kazakhstan
 Crucial factor appears access to outside
finance (and management strategy)

6. Will small farms survive ?

Key concern

Lots of stories and intuition

Usually based on little evidence
The Key Concern

Modern supply chains (or “The
supermarket revolution”) will push a
large share of farmers, in particular
small farmers, out of the market as
they fail to meet the requirements to
sell to these chains (“The
supermarkets”)
The Key Concern
Small farmers may ‘fail to make the
grade’ because :
1. Fixed component in transaction costs
makes it more costly to deal with
many small farmers than with a few
large farms
2. Small farms are constrained financially
(internally and/or externally) for
making necessary investments
Evidence ?

Many stories but little ‘hard evidence’

What exists suggest that
 We should take this concern seriously
 But the reality is much more
complex and nuanced than
assumptions
Evidence – part 1
Interviews with agri-food companies
confirms preference for larger suppliers
 Specialized wholesalers and supermarkets
prefer to work with (relatively) large FFV
producers in Croatia (Reardon et al 2003)
 Danone and Megle in Bulgaria and Romania
have strategy focused on >20 cow farms
 CIS study finds 60% of processors have
minimum size for some of its farm
assistance programs

Evidence – part 2

Examples of company programs to small
farmers being quite successful. Eg.
Croatian F&V suppliers to supermarkets
 Kazak cotton
 Polish and Romanian dairy
 e.g. Friesland Romania works with
40,000 small farms through 1,000
collection centers; contracts include
farm assistance packages

Impact on Loans and Investment
Small farms in Polish Dairy sector
Size
(# of
cows)
1-5
6-10
>10
ALL
Invests
(% of
total)
A
52
78
92
76
Uses loan
to invest
(% of A)
B
54
51
74
58
Uses dairy Uses bank
loan
loan
(% of B)
(% of B)
C
41
43
43
43
D
50
70
75
69
Share of farms (%)
Impact on small farms –
Poland dairy
50
45
40
35
30
25
20
15
10
5
0
1995
2000
1-4
5-10
10-15
Herd size
15-20
20-25
Evidence – part 2

CIS study finds that processors do not
discriminate on size for providing basic
programs (agronomic support, physical
inputs, prompt payments, …)

Both Polish dairy study and CIS study find
that FDI companies are not more likely to
cut small farms as suppliers (the opposite)
More importantly
Modern dairy companies focusing on highquality market (incl retail sector) tend to
assist small farms; compared to market
channels targeted to informal and low
quality sales which do not
 In Lithuania, all credit which small dairy
farms get is through the dairy companies
(cannot get access to bank loans or public
assistance, incl SAPARD)

Why work with small suppliers ?

In some cases processors have no choice : small
farms represent most supply (eg Poland, many
Balkan countries, Transcaucausus, Kyrgyz, …)
Eg. Romania: 95% of dairy farms have 1-2
cows.
=> Small Farm Paradox ?
“processing companies stressed that willingness
to learn, take on board advise, and a professional
attitude were more important than size in
establishing fruitful farm-processor relationship”
(CIS study)


Supply Chain
Revolution or Evolution ?

Several factors suggest that the impact
of the supermarket revolution on
farmers, including small farmers, may
be less dramatic in some contexts, and
may have positive effects in transition
countries
A. Supermarket is part of chain

For vast majority of farm output there is no
direct link with supermarkets: FFV is 15-20% of
ag output. Most farm produce (milk, grains,
sugar, cotton, etc.) is processed before it
reaches retail sector. The impact on these
farms will be indirect through the food
processing sector.

The effects may be more similar to that of FDI
in food processing. These effects have been
positive in several cases for small farms
B. Farm structure is mixed
Share of large farm companies (% land use)
Slovakia
90
Czech Rep
74
Hungary
45
Romania
18
Croatia
5
Poland
15
Russia
85
C. Next step in major changes

Agricultural restructuring in transition
countries (Output, trade, employment,
FDI, food industry restructuring, ….)
has been dramatic over past 15 years
Revolution or evolution ?
Change in ag employment 1998-2001
120
Change in agr. labour
100
80
Czech Rep
Hungary
60
Poland
Slovakia
40
20
0
1989
1991
1993
1995
1997
1999
2001
Revolution or evolution ?
EU – CEEC trade in ag and food products
1988-2001
7000
Total agricultural trade (mio €)
6000
5000
4000
3000
2000
1000
0
-1000
-2000
1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001
Export
Import
Balance
D. Retailers and vertical coordination may
play positive role for key weaknesses
Key weaknesses of ECA farms :
 Shortage of finance for investments
 Quality
 Access to high value markets
 Retail investments and coordination
with supply chains may assist farms in
these areas

7. Implications for policy

Create right conditions for business
investment

Competition policy !
Competition is VERY Important

Induces horizontal spillovers and the spread
of farm assistance packages

Constrains (potential) rent extraction in chain

E.g. Kazak cotton story: competition among
processors for suppliers induces assistance
programs, collection center investments, etc.
Bad Policies are Worse
than Bad Weather

VC may survive defaults due to
unforeseen and one-time events (eg
bad weather in Kazakhstan)

However, inappropriate government
intervention may destroy VC
 Eg Ukraine in 1990s
Implications for investments
and projects
Traditional Public goods : eg
 rural electricity (Azerbaijan),
 rural roads (Romania), …
 New instruments: Focus on
 Chain Finance,
 Quality & Bringing small farmers ‘on
board’  Example

Finance The Chain

Warehouse receipt programs

Leasing

Reverse Factoring

….
How to benefit small farmers ?
Bring / Keep them in
=> LOWER TRANSACTION COSTS

Ensure fair distribution of rents
=> EMPOWER THEM

Reduce Transaction Costs

Lower transport costs (eg improvement of rural
infrastructure)

Reduce number of transactions by intermediary
institution between farm and processor/input
supplier
 collection points
 Milk (ex Poland, Romania, …)
 F&V (supermarkets in Latin America, …
 farm associations, but need
instrument/incentive system to ensure
homogenous (and high) quality
 ….
Empower the (Small) Farmers

Stimulate ASSOCIATIONS of farms
 Bargaining with companies
 Lobbying the government

Stimulate COMPETITION in the chain (input
suppliers, processors, traders, …)

Organize INDEPENDENT institutions for product
quality assessment
Quality Control and Rents
in Kazak Cotton Chain
Extra payments for clean cotton ? NO
(99%)
 Fines for ‘dirty’ cotton ? YES (100%)
 Is your cotton mixed with that of other
farmers ? YES (100%)
 Can you inspect quality of processed cotton
from your seed cotton ? NO (97%)
 Who assesses the quality of your cotton ?
GINNER’s LAB (100%)

Quality Control and Rents in Kazak Cotton
Q45: Do you trust the quality assessment as fair and
honest?
Yes, always
8,0%
Never
33,3%
Yes, always
Not always
Never
Not always
58,7%
The end