Financial risks of deforestation driven by the soy boom

Channels: Investors

Companies: Louis Dreyfus, Ceres, Global Forest Watch, Ibama, McDonald, PRI

People: Julie Nash

Investors should engage with companies to help mitigate the risks posed by deforestation, says Julie Nash

Louis Dreyfus Company, one of the world's four largest soy traders, recently announced a sustainability policy covering issues such as land conversion and the rights of indigenous and local communities in its soy supply chains.

And none too soon! Last year was the second worst on record for global tree cover loss. Roughly 39 million acres of forestland – an area the size of Greece, or the US state of Illinois – were destroyed, according to a recent report by Global Forest Watch. Much of this deforestation is driven by commodities production.

Tree loss matters. And not just for the myriad environmental benefits that forests provide, from carbon sequestration to biodiversity preservation to maintaining healthy ecosystems.

It matters to investor portfolios, and particularly those with investments in companies that rely on commodities associated with deforestation.

Take the case of soy, one of the top three commodities associated with tropical deforestation worldwide. Soy production has more than doubled over the past 20 years, and is now a $112 billion market that involves global traders, food companies, animal feed manufacturers, retailers and restaurants. After the US, Brazil is the second largest soy producer in the world and the expansion of its soy production is a major driver of deforestation.

Brazil's environmental agency Ibama recently imposed a total of $29 million in fines to grain trading houses as well as dozens of farmers, for activities connected to illegal deforestation.

Companies sourcing soy from Brazil and other South American nations are exposed to a number of deforestation-related business risks, as well as land and labour rights issues, which could be financially material to their business. These risks include reputational risks when consumers become aware that a company's supply chain is linked with deforestation or human rights violations.

Companies can also face operational risks from potential changes in local climate and falling agricultural yields, as well as regulatory and market access risk.

These risks are more than hypothetical. Brazil's environmental agency Ibama recently imposed a total of $29 million in fines to grain trading houses as well as dozens of farmers, for activities connected to illegal deforestation.

A decade ago, when the Brazilian Amazon was disappearing at a staggering rate, McDonald's, the largest buyer of soybeans from Brazil at the time (for chicken feed), became the target of environmental campaigners who showed up in chicken suits to protest at restaurants around the world.

The reputation risk and damage to its brand equity eventually led McDonald's and other larger buyers of soybeans to establish the Soy Moratorium, a voluntary agreement designed to ensure that traders did not buy soy grown in the Amazon on deforested land.

Investors can address the risks associated with deforestation in soybean value chains through direct engagement with their portfolio companies and by supporting relevant policies and multi-stakeholder collaborations.

While the Soy Moratorium in Brazil helped to slow soybean production in the Amazon, the Brazilian Cerrado is not covered by the Moratorium and today that's where much of Brazil's soy is grown. Due to the expansion of agricultural crops such as soy, the Cerrado has undergone extensive land cover changes, impacting biodiversity and essential ecosystem services. Land conversion associated with commodities production is one reason why agriculture today produces about 19% to 29% of greenhouse gas emissions globally.

Investors can address the risks associated with deforestation in soybean value chains through direct engagement with their portfolio companies and by supporting relevant policies and multi-stakeholder collaborations.

While numerous companies have made commitments to eliminate deforestation from their supply chains, implementation is still lacking, leaving these companies open to material financial risks. Investors can drive the business transition by working with their portfolio companies to ensure that they are minimising and disclosing risks associated with deforestation.

Beyond mitigating portfolio risk, limiting greenhouse gas emissions produced by deforestation in commodity supply chains is vital for holding global warming to 2°C. Limiting emissions from land use changes, in fact, offers greater potential for near-term carbon mitigation than any other strategy, according to the United Nations Climate Change Secretariat.

Julie Nash, Director of food and capital markets,CeresThe sustainability non-profit organisation Ceres and the United Nations-supported Principles for Responsible Investment (PRI) are working through the Investor Initiative for Sustainable Forests (IISF) to support and coordinate investors to engage with companies, including traders and upstream buyers, to eliminate deforestation from their soybean supply chains within South America. Specifically, investors engage companies to improve deforestation policies, supply chain traceability, and supplier mechanisms, all of which are designed to address the material business risks from deforestation.

Ceres and PRI invite other investors seeking to mitigate deforestation risks to join the initiative and to learn from their investor peers about effective corporate engagement strategies.

Julie Nash is the director of food and capital markets at Ceres, a sustainability-focused non-profit organisation working with the most influential investors and companies to build leadership and drive solutions throughout the economy.