Tips and Tools to Manage Risk for Roasters

The coffee industry is multi-faceted; with far ranging areas of expertise, varying specialties and a massive array of knowledge. The coffee roaster is more than meets the eye…or cup. The strategies and financials are just as important as the craft and properly managing risk can make or break a roasting business.

Risk management can be broad for a roaster (and possibly overwhelming) but if approached correctly, can become second nature. Ways to manage risk could be as general as making the right relationships, or specialized, like making use of the “C” market. Regardless of the approach, you must first identify the risk, and then find a way to avoid it, reduce its effects or accept its results.

Navigating the “C”: Swim, Don’t Sink

Coffee futures have traded in New York since 1882, and coffee is famously known as the second most traded commodity after oil. Its longevity makes it a piece of history, but its “intraday volatility” makes it a “favorite for day traders over the years,” according to the InterContinental Exchange (ICE). For participating roasters, there is a critical need for risk management when dealing with the market.

When a roaster is involved in the futures market, they become “commercial traders” and can play a role in determining the price. “First and foremost roasters should keep in mind that their chief purpose in using mechanisms such as futures and options trading is to secure desired coffee quality supply at reasonably targeted levels,” says Carl Leonard, V. P. Green Coffee Procurement at Louisiana-based Community Coffee Company.

The futures market also allows roasters to transfer risk. Coffee roasters are “short” the market, as they are at risk if Arabica prices increase. The risk can be transferred, or offset, if a roaster goes long a futures contract. “Hedging done carefully can be a means of protecting a company from excess risk, however speculative trading is like going to the Casino which can have very negative results,” says Leonard. “If you are a novice, your best course of action could be to align yourself with a competent coffee commodities broker who has years of experience with coffee hedging.”

Joseph Fernandes III, Vice President of New Jersey-based Socafe, is the second generation to work for the company after his father brought it to the US from Angola nearly 26 years ago. He has recently made the decision to become more involved with the “C” market and echoes Leonard’s sentiment. “I’m learning from, and currently receiving help from, someone who knows how to successfully navigate the market.” By partnering up with someone who can help Socafe manage risks, Fernandes believes “2013 is going to bring change within the company.”

It’s Not Complicated: Easier Relationships

“Global but connected” is how the coffee industry was initially portrayed to me. Relationships are imperative to better business practices, no matter what your role. Roasters, however, are probably the most connected. With direct links to producers, importers, distributors and retailers, the coffee roaster must take advantage of its rank in popularity. The risk aspect is mostly associated with the purchase of green beans.

“Buying coffee for a good sized roaster means making use of sizable sums of money. Making sure that you are getting the correct consistent quality, and on time delivery is of extreme importance,” advises Leonard. “Selecting the right producers, cooperatives, exporters, Importers, ocean going shipping companies, trucking companies and warehouses to partner/work with is essential. Having consistent procedures in place to check grade and cup quality to insure you are receiving coffee of the value that you have purchased is a must.” The better your relationships are, the more efficient your business will be.

Fernandes makes it a point to travel to origin at least 3-4 times per year, meeting directly with producers, cooperatives and exporters. “This allows me to be specific with what I want and competitive with my prices,” he says. He reduces his risk by properly delegating logistics he doesn’t feel comfortable handling to importers who he knows and trusts. “I can commit to purchasing upfront, which motivates them to give me a fair price.”

It is critical to work with trustworthy companies for your own management of risks, and to ensure the reputation of your company mirrors that of your affiliates. “Your word is your bond, only do business with people of their word. Most times in the coffee business a signed contract is what follows, business is actually done upon one’s word,” states Leonard.

Actions Speak Louder: Tactics and Techniques

For most roasters, buying practices have changed dramatically in the last few years. Information is available more quickly, sparking a newfound fast-paced, competitive market with everyone looking for the same thing: quality coffee at a fair price. “Where I used to look at consumer demand as a main indicator, I now focus on the behaviors of the importers,” says Fernandes. “Conventional indicators are almost thrown out the window.” Differential prices went from being available for a few days to five minutes, “you have to act fast or you miss out,” Fernandes emphasizes. A good plan is to align yourself with multiple brokers who may be dealing with rejections or mishaps with inventory. If your relationships are strong, this can be a risk free way to get coffee for under market value.

If your roasting business is lucrative enough, it pays to stock pile inventory and constantly rotate through supplies. This puts precautions in place that will allow your company to overcome various supply issues, like sudden price movements, natural disasters, or poor weather cycles. Socafe learned to spread their inventory throughout multiple warehouses. “When Hurricane Sandy hit the East Coast, those who kept their inventory solely in that one warehouse in Kearny, New Jersey that was damaged, must have faced major setbacks,” says Fernandes.

If your roasting business is involved with the private label sector, you can minimize the risk involved with those niche customers by simply educating them. Fernandes suggests empowering them as much as possible. “Tell them why the prices are the way they are. Explain to them manufacturing costs, transportation costs, etc. Ensuring transparency can ensure continued business.”

Last, but incredibly far from least, the utilization of proper tools to help manage risk is crucial in today’s struggling economic times. Many firms, contractors and websites can help a roaster understand, and benefit from, the futures and options coffee market. Coffee roasters should utilize the market to transfer risk and help determine current prices. Combining this with other strategies could bring a balanced understanding of the global coffee picture.

“While it is the futures market first and foremost,” admits Fernandes, “that is just a snapshot of the present moment and a roaster cannot react to the current screen. Therefore, we need another way to identify trends.” Talking directly to importers, as previously mentioned, is key, as they are on the forefront of it all. Watch weather patterns in coffee growing regions to stay ahead of crop quality conditions. Get on the ground information about who’s selling, who’s holding and what prices they are looking for. Gather information from ports of origin to gauge what they’re sending over. And, as Fernandes advises, “Don’t put all your eggs in one basket…all it takes is one speculator to ruin it.”

“Join pertinent coffee organizations and associations to meet your roasting peers and leading suppliers in the industry,” says Leonard. “Continuously attend Coffee Organization and Association training sessions to gain depth of knowledge required to be successful as a roaster. Read industry books and trade magazines to stay in tune to current developments in our industry. Spend time at coffee origin and learn coffee from the Producers point of view. Work closely with your sales and marketing department to help educate them about the world of coffee and what might appeal to the consumers that you are trying to reach.”

Alexis Rubinstein, Senior Editor INTL FCStone/CoffeeNetwork