In 2010, consumer goods companies put forward their ambitions to stop deforestation by setting a goal to achieve net zero deforestation by 2020.
While these goals will not be met, the increased scrutiny of the role these businesses play in deforestation has encouraged some industry leaders to begin investing in innovative new products and business models.
Meanwhile, 7 million hectares of forest are lost each year and climate change, partly caused by deforestation, is already affecting agricultural production.
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What does this mean for investors? As it stands the industry faces growing vulnerability through its links to deforestation.
Our new research on large-cap consumer goods stocks shows that some are making significant efforts to bring deforestation under control, but many others need to up their game.
Deforestation is an investment risk
Investors are learning that environmental degradation can impact the economics of business and for the consumer goods sector this is becoming more apparent through their agricultural supply chains.
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We looked at 22 global companies with exposure to Forest Risk Commodities (FRCs), including food manufacturers, personal and household goods manufacturers and fast food retailers, accounting for 3.1% of the MSCI ACWI World companies by market cap.
These stocks are particularly exposed to ‘soft commodities’ linked to deforestation such as palm oil, soybeans and cattle as well as paper and pulp products.
Management of FRCs is an issue for investors. Not only because of concerns about the long term sustainability of agricultural production, but also because they may indicate hidden risks to companies in these sectors.
Many palm oil plantations, for example, are concentrated in low-lying land exposed to coastal flooding, which could jeopardise global supply and lead to further deforestation as production is forced inland.
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In fact, nearly half of consumer goods companies report revenue dependencies of at least 20% on palm oil but certified volumes still only account for 20% of global production, posing a serious risk to supply chains and share prices.
Cattle farming, which is one of the biggest drivers of deforestation globally also carries embedded risks from soymeal which is used to feed many of the world’s cows.
As public concern over deforestation and intensive livestock production soars, the sector is ever more susceptible to reputational risks.
Where is my portfolio on deforestation?
European companies such as Unilever and L’Oréal, all with large exposure to FRCs, have focused on sustainable product innovations and have more robust governance of deforestation related risks and therefore perform relatively well.
Although the companies we surveyed are multi-national corporations, in many cases they are dealing with small producers, who, for example, manage 80% of the farmland in sub-Saharan Africa and Asia.
High performing companies – again, such as Unilever, are working with these producers to implement sustainable agriculture innovations, helping to increase on-farm carbon stocks and protect and restore forests.
Leading companies are beginning to implement transformative innovations to shorten the supply chain working more directly with producers and increasing traceability and transparency.
Firm evidence that with increasing pressure to feed a growing population and feed the planet, leading companies and their customers are looking beyond their headquarters to the field.
Many of the companies at the bottom of our league table failed to disclose information about their use of FRCs.
Without understanding FRC exposure, companies struggle to develop strong governance and action towards tackling sustainability issues.
Companies need to step up – and investors need to engage
It is clear that consumer goods companies understand the importance of ending deforestation from the ambitious goals they have set themselves.
Some companies have begun to take action and demonstrate innovative, competitive sustainable production solutions and new business practices, providing a blueprint for those companies which have yet to take serious steps towards tackling deforestation within their supply chains.
Increasing the scale and pace of change will be key to avoiding serious corporate and investment risks.,
With demand growing for food and consumer products at the same time that global consciousness of climate change is rising, companies and investors that fully understand the need for innovation and sustainable practices will have a significant advantage in years to come.
Ling Sin Fai Lam is senior analyst at CDP
