There’s no money in the banana stand: Climate change impact on Del Monte’s business
Climate change is leading to more frequent and serious environmental disasters, which can seriously damage Del Monte’s banana production. What is Del Monte doing to mitigate the risk of supply chain disruption, and what are the implications for their core business?
Bananas are the leading internationally traded fresh fruit in terms of volume and dollar sales, and a key produce department product due to its high turnover and the premium margins obtained by retailers [1]. They have a relatively short growing cycle and are grown in tropical locations with humid climates and heavy rainfall, such as Central and South America, the Caribbean, the Philippines and Africa [1]. However, the industry is exposed to environmental risk; in 2012, flooding hit Ecuador, the largest banana producer in the world, which resulted in a 5.6% decrease in output [2]. Another example is Hurricane Mitch; when it hit Honduras, Guatemala and Nicaragua, it damaged 25% of Dole’s world-wide banana production [3]. As a result, Dole reported a fourth-quarter net loss of $108.3 million- compared with a net income of 23.2 million- which included a $100 million write-off for the hurricane damage [4]. For the purpose of this paper, I will examine how Del Monte, a publicly traded banana producer and distributor, has hedged the increased risks of climate change in their supply chain.
Effects of Climate Change
Research has shown warmer atmospheres hold more water vapor and, as a result, experience more extreme rains [5]. The possibility of an extreme event such as tropical hurricanes happening in 2017 has increased six-fold since the late 20th century [6]. It is clear that climate change and the resulting environmental disasters have real-world consequences for Del Monte’s business. As of 2016 Del Monte produced 39% of the banana volume they sold on company-controlled farms, purchasing the remainder from independent growers [1]. Bananas, as of 2016, made up 45% of Del Monte’s $4 billion revenue, still constituting a majority of the firm’s core product offering [1]. Thus there is also a considerable price risk that can affect Del Monte’s profitability in addition to supply chain disruption, as Del Monte is exposed to price fluctuations when sourcing bananas, as shown below [7]. Apart from the physical risk of not being able to deliver bananas to major retailers and jeopardizing relationships with customers, Del Monte is also exposed to commodity price risk in the event of an environmental disaster affecting their plantations.
[5]
Current efforts to protect the banana production and distribution business
In order to address this concern in the short term, Del Monte has been investing in improving their supply chain through increased capital expenditures. In 2017 their capital expenditures totaled $146.7 million, with 51% relating to their banana segment [1]. Banana segment expenditures consisted primarily of expansion of their production operations, with the remainder of the expenditures spent on a new distribution center, additional ripening room capacity and IT integration [1].
In addition, Del Monte is exiting certain banana growing areas that have proven to be continuously susceptible to climate change; in 2016, Del Monte wrote down $2.5 million in asset impairments and other charges related to drought conditions in Brazil due to the decision to abandon certain banana and other fresh produce growing areas [1].
Diversification as a long term strategy
Del Monte has embraced diversifying the company’s product offerings, not only becoming a first-mover and market leader in pre-cut fruit, but also hedging their business from climate change related disruption such as higher banana production and procurement costs. In 2015 Del Monte grew their global fresh-cut business volume by 30% and sales by 32% year over year [8]. The shift in product mix is in the below graph, where we can see that Del Monte has steadily shifted away from fresh bananas as their main product offering, both in volume and overall product types [9]. Although climate change is not the only consideration, the diversification efforts will protect Del Monte in years where banana production is negatively affected by supply chain disruptions.
What next?
Del Monte should continue to diversify their business, focusing on alternate regions and different food products. Del Monte management should also examine whether capital expenditures in the fresh fruit business is improving the bottom line, and create metrics and timelines to evaluate the long-term viability of the banana production business- as well as further changes to their core business strategy.
Other considerations
Questions that merit further thought are: 1) How can giant multinational companies directly exposed to climate change risk come together to combat this issue 2) At what point should a company move from diversifying their business to shifting entirely away from their core business products?
Thanks AHL, in addition to you having my favorite article title, you also pose one of the most interesting supply chain dynamics to me. While climate change and natural disasters obviously impact many people and businesses, the impact on consumable goods industries that rely on these regions is particularly acute. I think that Del Monte is doing the prudent thing in diversifying its business into adjacent products, similarly to what the power industry has done with fuel types, to mitigate this environmental risk. However, the difficult questions, as you pointed out, remain:
• How much can a business diversify away from its core competency without causing more harm than good, and
• What more can a business that requires to be located in a susceptible region do to protect itself?
I don’t see banana demand declining significantly fore the foreseeable future, so if not Del Monte, someone else will need to address these issues.
Your article reminded me of a similar dynamic that is occurring in the coconut industry today. While demand has skyrocketed in recent years due to increased popularity of coconut water, oil and other products, supply faces major long-term shortages, as coconut trees require years of growth before bearing fruit, have been subject to years of underplanting, and are confined to hurricane prone regions in the Caribbean and the Philippines. As a much more fragmented industry, it seems it may be difficult for this industry to take the necessary steps to alleviate these issues. However, the below article poses an interesting potential alternative in using tissue culture cloning to grow the industry in unnatural regions like Australia. It may be interesting to check out and provide an additional potential alternative to Del Monte’s banana issue.
http://www.abc.net.au/news/rural/2017-08-26/australians-love-coconuts-so-should-we-grown-our-own/8834012
Thanks WL for the thoughtful comment & for catching the arrested development reference! I like your parallel comparison between the banana supply chain and the power industry. You brought up a really interesting point re: using science to create alternative ways of sustaining production, particularly in regions where historically it was considered impractical to grow certain types of crops. This could definitely be a consideration if major producers want to diversify against For bananas, it looks like there currently is research being done to create drought-resistant bananas. This seems primarily to protect bananas against climate aberrations in traditionally tropical regions, but could also be developed to grow them in new, non-tropical regions as well. The most important point for players in the industry would be to be aware of these alternative strategies for the future.
[1] Ravi, Iyyakkutty et al. “Phenotyping Bananas for Drought Resistance.” Frontiers in Physiology 4 (2013): 9. PMC. Web. 1 Dec. 2017. https://www.ncbi.nlm.nih.gov/pmc/articles/PMC3580962/
Thanks for an interesting read! I think it’s smart for Del Monte to be diversifying its business in light of environmental impacts of its core product, bananas. With that said, I don’t think they are addressing the underlying issue which is that global demand for bananas may persist in the future but that the supply may be in danger, especially as biggest producers and distributors of the product, such as Del Monte, are doubling down on it as a category. I wonder, has Del Monte considered effecting sustainable or agricultural practices on its farmers and sourcers? As the time horizon for the impact of climate change on banana production is rather long, there are actions Del Monte, as the global influencer of this product, can take to help mitigate those risks.
AHL, thanks for the interesting article and, as Will also pointed out, the great Arrested Development reference. I agree that diversification is key to Del Monte’s long-term viability as a business. Apart from offering an opportunity for a great title, the Bluth’s frozen banana stand hints to an interesting additional diversification strategy: frozen fruits. Demand for frozen fruits is expected to significantly over the next decade, fueled by a rapid ‘westernization’ of household habits in Asia, where women have less time to prepare fresh meals – demand for frozen fruit and vegetables is poised to grow at a 7.2% CAGR over the 2017-24 period. [1] Expanding into frozen banana production might also help to address the underlying issue of volatile supply as mentioned by JN. Excess production can be frozen and used for times when production suffers from climate change or other weather effects.
[1] ‘Rising Demand for Convenient and Easy to Prepare Foods Drives Growth in the Global Frozen Fruits and Vegetables Market’, Global Industry Analysts, http://www.strategyr.com/MarketResearch/Frozen_Fruits_and_Vegetables_Market_Trends.asp, accessed December 1, 2017