Regime change...
Following a ruling by the World Trade Organisation in April 2005 that restricted the export of subsidised EU sugar in world markets from 2006 onwards, the EU's Council of Ministers agreed in November 2005 the broad framework for reforms to the Community's sugar regime.
Designed to be implemented progressively from July 2006, the reform programme runs through to September 2015, slashing beet-based production, exports and internal EU prices - and, of course, threatening profits of producers.
Since the EU had been subsidising the production and processing of beet sugar - as well as exports of the refined white sugar produced - for decades, some would say that the reforms were long overdue. The regime had escaped previous major reforms to the Common Agricultural Policy that had already brought other sectors - notably cereals and oilseeds - into line with WTO rules. Nonetheless, the severity of the reform package surprised many analysts and has meant that no producers - even the most efficient - could avoid making radical structural changes to their business.
Following the November 2005 announcement, Nordzucker - the EU's second largest beet sugar processor - said it expected sugar production in northern Germany would be reduced immediately by 15-20%, while Südzucker - Europe's largest beet sugar processor - announced that it would have to cut production and consider moves into bioethanol and speciality products, as well as looking for new supply sources as far away as Brazil.
The reforms call for white sugar support prices to be reduced by 36% over four years, while beet prices will be reduced by 40% over the same period. The production quota system will be simplified and overall production quotas are set to be cut from 17.4Mt in 2005/6 to 12.4Mt (about 30%) by 2012/13, on a similar progressive basis. So, over the entire period of the programme, the intention is to transform the EU from a net exporter of white sugar to the tune of about 4Mt a year in 2005/6 to a net importer to the tune of 3.3Mt by 20012/13 (according to the projections of a European Council working party on sugar, September 2005).
Interim measures to ensure that the programme is implemented as smoothly as possible include a package of incentives to persuade producers to meet the reform targets, such as various restructuring payments.
These involve grower compensation of 64% of lost income and tight quotas on imports in the early years of the reforms to avoid passing off lower-cost imported material as higher-cost domestic production. In this way, quotas for sugar imports are initially restricted largely to historical levels or so-called traditional supply needs (TSN). At just over 1.1Mt, the TSN allocation for the UK is by far the largest for any Member State, the next largest being a little under 300,000t in the case of France and Portugal.
In the longer term, however, as a result of the EU's EBA (Everything But Arms) trade initiative, ACP/LDC nations (African Caribbean and Pacific, and the Least Developed Countries) will be free to supply duty-free imports of sugar to any EU processors or refiners from 2009 onwards. In particular, this will mean that in addition to traditional supplies of cane sugar mainly from the Caribbean, by 2010 significant supplies of cheaper-to-produce cane sugar will also be available from many other developing nations, including those in Africa, where production is set to boom.
How the reforms have been going
By all accounts, the first year (2006/7) of the reform programme was seen as successful, going broadly according to plan. For 2007/8, however, the incentives built into the original restructuring scheme delivered a shortfall in production quota reductions, so that some revised interim measures were needed to bring the reform programme back onto schedule and balance internal supply with demand.
Accordingly, an adaptation proposal was agreed by EU ministers last September for implementation from October onwards, with the aim of reducing all political blocks to the restructuring scheme and at the same time increasing the attractiveness of its incentive measures.
This involved a temporary relaxation of export limits to balance internal supply with demand and the introduction of a sugar beet growers initiative whereby increased compensation payments were available for relinquishing quotas.
A revised restructuring package - with larger payments in the first phase and reduced payments subsequently - is expected to force sugar industries in all EU Member States, regardless of how efficient, to renounce further production quotas.
It is understood that, following submission of restructuring applications, a temporary revised quota cut will be agreed for 2008/9 by the EU authorities by this month or next. This is expected to result in an aggregate reduction of at least 13.5% of remaining quotas, or about 2.5Mt, although some observers put the figure at well over 3Mt. Final, uncompensated, production quota cuts will be implemented in 2010 to rebalance the market once more.
Some specific moves
British Sugar, which already considers itself the most efficient processor in the EU, is broadly in support of the pro-efficiency focus of the reforms and is implementing further efficiency changes and investments, including energy-saving measures. Chris Carter, the company's corporate affairs director, says that as a result of the adaptation proposal the UK industry has already decided to renounce 13.5% of its sugar production quotas and will be using non-quota sugar to produce 55,000t a year of bioethanol. Looking forward, he says: "All industries in the EU, including beet processors, growers, refiners and raw sugar suppliers, will have to substantially improve efficiency or exit the sector"
Meanwhile, Tate & Lyle, the EU's major cane-based sugar supplier and refiner, says it is increasingly positive about the future once the EU's sugar reforms are fully implemented in 2010.
The company expects a further 3.8Mt of beet sugar production quotas to be surrendered and for the balance between beet and cane-based production to ultimately change to around 12Mt beet and 4Mt imported cane.
The company announced last March that it had formed a joint venture with Eridania Saddam, the beet-based sugar market leader in Italy.
While Associated British Foods, British Sugar's parent company, is looking to Africa as a major source of imported cane sugar into the EU, having negotiated a stake in Illovo Sugar back in 2005, Tate &Lyle sees the EBA initiative as an opportunity to build its supplier base and to source suppliers from EBA countries as well as ACP.
Notably, it announced last August the acquisition of a stake in Mitr Lao Sugar, which will grow sugar cane and mill it in the People's Democratic Republic of Lao, an Asian country that is eligible to export sugar duty-free into the EU under the EBA initiative after July 2009.
The mill will have capacity to refine up to 10,000t of cane per day, and the raw sugar shipped to the EU by Mitr Lao Sugar will be refined by Tate & Lyle.
Price outlook
The reform package calls for the EU reference price for sugar to fall by 36% by 2009/10 - and the reduction has already started. "Although market prices are de-linked from the reference level, inevitably prices have already dropped across the EU," says British Sugar's Chris Carter. "But, of course, they still bear little comparison with those in international markets, which are still plumbing the depths."
In the long run, market prices will depend on supply and demand. "This will be more dynamic moving forward and it is difficult to speculate where they might be," says Tate & Lyle.
Of course, cheaper sugar could change the competitive balance between sugar and other sweeteners, but that will depend on global market factors after 2010, which remain to be seen.
The world sugar scene
While sugar production in the EU declined almost 16% in 2006/7 as a result of the reform measures, output in much of the developing world increased by more than enough to compensate. According to the UN Food and Agriculture Organisation (FAO), there were record sugar cane crops in Latin America and the Caribbean which, combined, account for a third of world output.
At the same time, output rose strongly in Asia and Africa, with Asia's 17% aggregate increase dominated by a 20% rise in cane-based India (to 25Mt) and high growth also recorded in China, Malaysia, Thailand and Bangladesh.
With world output for 2006/7 close to 160Mt, and the figure for 2007/8 pegged at around 167M, large global surplus stocks have developed (around 10% of world supply), which will probably not be used up quickly.
This has brought international prices for raw sugar to two-year lows, now at around $220/t, compared with a peak above $418/t in February 2006. Both FAO and the International Sugar Organisation have predicted that market fundamentals will remain unchanged and international prices will therefore remain weak, at least through most of 2008.
While also falling dramatically, internal EU prices at present bear no relation to international price levels and it will still be years before they do. But pressure on EU prices will mount as unrestricted imports of cane-based sugar from EBA countries begin to move in from mid-2009 onwards, especially if international sugar prices remain depressed.
Significantly, it has been estimated that India alone accounts for about 60% of the present global sugar surplus. This has prompted decision-makers in the country to follow the example of Brazil, which has been channelling large quantities of cane-based output into bioethanol for fuel use for decades.
This, however, is not likely to happen as quickly as some would like, because both state and national legislative changes and government biofuel incentives will be required to persuade India's distillers to make the necessary capital investment for expanded ethanol production to be based directly on sugar cane juice, rather than the molasses traditionally used.
A large number of so-called developing countries will be allowed to export sugar duty-free into the EU after 2009, and sources in Asia and Africa look set to make their mark in this trade. Analyst Simon Bentley at agribusiness consultancy LMC International points out that African LDC nations have more competitive production costs than Caribbean producers, but also that African producers are not necessarily the most reliable.
Significantly, Africa's largest sugar producer, Illovo Sugar, which has operations in Malawi, South Africa, Zambia, Tanzania, Swaziland, Mozambique and, soon, Mali, is now majority owned by Associated British Foods, the parent company of British Sugar. A South African sugar analyst told Public Ledger in November that Illovo's expansion programme was timed to coincide with changes in the EU market and that the company would be able to increase supplies into the EU competitively, despite the steep decline in the European preferential price.
