2013

Keeping the Lid on Price Risk

Portfolio Management

From growers, to importers, to roasters, to retailers, everyone in the coffee supply chain must contend with a single and extremely impactful common denominator: the price of coffee. Indeed, all producers, manufacturers, and consumers of commodities face this challenge: how to manage the price volatility of a commodity to meet business objectives.

Whether you’re the proud owner of a new mom and pop coffee shop or have been tasked with creating next year’s procurement budget for a big brand manufacturer, trying to create an annual business plan and navigate the execution of that plan around a volatile and unpredictable factor, such as price, can be scary.

Today’s marketplace is increasingly global and complex.  As a result, understanding what is driving price demands, along with additional factors such as weather, currency rates, import/export controls, government regulations, and energy costs can be tricky. But, even in this world, where coffee futures have spiked more than $1.50 per pound in one year and plummeted $1.50 per pound the next, you don’t have to lay awake at night worrying—IF you have a sound price risk management plan.

Make Price Risk Management Work for You
Many market participants are buying and/or selling futures, options, and other financial instruments to mitigate or capture market volatility and achieve their pricing objectives.  However, some business owners view price risk management strategies as “confusing,” “too complicated,” or even “too risky.” And, as a result of these concerns, they don’t do anything.  But, doing nothing might be the most risky strategy of all.

In real terms, a $1.50-per-pound move can have a significant impact on the value of your coffee. Do you produce or consume ten million pounds of coffee?  This price move would create a value change of $15 million dollars.  Do you produce or consume one hundred million pounds of coffee?  Now you’re talking about $150 million dollars of value created or lost!  Can your business handle this type of value swing?

Fortunately, there are a number of experienced, trustworthy providers of price risk management services that can meet the needs of coffee business owners, big or small. These companies provide a spectrum of offerings including complete price risk management services to individual, custom-tailored products to help you achieve your business objectives, and price risk management goals.

Start at the Finish Line
There is an old saying that goes something like this: “I’ve never met anyone who was able to always buy at the market low and always sell at the high—but I’ve met a lot of people who’ve gone broke trying.”

Prudent price risk management is about clearly defining where you want to go with your business—and then determining a price risk management solution that will help you meet those objectives.

In Cargill Risk Management, we define price risk management as the process of using a structured approach to manage uncertainty through understanding the resources available and implementing strategies to achieve the desired results. Modern price risk management strategies typically incorporate a balanced, diversified portfolio that combines physical pricing/contracts, futures and options, and custom-tailored financial instruments that can help protect or capture market volatility.

Realistic and meaningful price risk management goals include:
• Protecting your profit margins;
• Securing your budget;
• Minimizing the overall impact of price swings;
• Eliminating surprises; and/or
• Capturing additional revenues if and when the market moves in your favor.

Portfolio Management

We believe a sound price risk management policy should be grounded in what we call the DDC concept: Diversified, Disciplined, and Controlled.

Diversified. Because no single price risk management tool can counteract all possible market behaviors and achieve the desired results.

Disciplined. Once a strategy and course of action is determined, it should be executed according to the plan, regardless of market action.

Controlled. Reviewing and auditing strategies and results help ensure long-term success.

By itself, working with an experienced price risk management provider, and developing the right plan may not help you beat the market every time—and it won’t guarantee never missing market opportunities.  But, it can help you obtain your business goals and desired profitability more consistently and predictably.  And, it just might enable you to sleep a little better at night too.

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