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Hedging becomes food and drink to the makers of consumer goods Companies look to hire commodities traders By Jenny Wiggins and Javier Blas Food and consumer goods companies are overhauling the way they buy and hedge commodities after being caught out by increases in the prices of raw materials that have squeezed industry margins and cut profits. Companies are turning to commodity trading houses for the first time to hire traders and are buying complex financial trading systems to help them cope with a new era of global inflation. Such decisions suggest executives have realised that volatile commodity markets are not a shortterm phenomenon but a structural change driven by rising demand from emerging markets. Peter Evans, co-ordinator of the European consumer products practice at headhunter Russell Reynolds Associates, said companies were approaching trading houses such as Cargill, Bunge and ADM to find traders who understood volatile markets. “If they can buy commodities more intelligently than their competitors, that can be a competitive advantage,” he said, adding that the firm had been Hedging is second nature for food groups financial times excerpt By Jenny Wiggins in London Hedging is second nature for food groups Food companies were once a little blasé about the price they paid for the ingredients that went into their corn flakes, chocolate bars and yoghurts because in the 1980s and 1990s, prices of agricultural commodities were falling. While many food companies Food companies were once a little blasé about the price they paid for the ingredients that went into their corn flakes, chocolate bars and yoghurts because in the 1980s and 1990s, prices of agricultural commodities were falling. While many food companies took the precaution of hedging some of their key ingredients – Mars, the owner of Snickers bars, has been hedging cocoa since the 1960s – they did not have to worry too much about being caught out by unexpectedly big price jumps. Today, that luxury has vanished. Soaring global demand for commodities has driven prices of all kinds of food ingredients, from corn to cocoa to coffee, to new highs, and more than a few food companies have been unpleasantly surprised. On Friday, Hershey, the US chocolate group, became the latest in a long line of food companies to warn that its commodity costs – which include sugar and peanuts as well as cocoa and are up as much as 45 per cent since the start of the year – were rising faster than expected. The company said it would spend up to $12m hedging its 2009 costs – it expects cost increases next year to be double this year’s – and take a hit to third-quarter profits. Other companies caught out by soaring commodity prices include Hershey’s competitor Cadbury, which recently said it was proceeding with a new round of restructuring after finding rising raw material prices “a stronger challenge” than it had previously anticipated. Meanwhile, Unilever, the multinational food and household products group, which estimates its commodity costs rose by €1bn ($1.47bn) in the first half of the year, has warned it will face its biggest ever annual rise. Analysts estimate this will amount to €2bn. Companies have been trying to counter higher costs by raising the wholesale prices for their products. On Friday, Hershey said it was putting through another round of price increases (it raised them 13 per cent in January) on its chocolate bars and other confectionery, lifting them by a further 11 per cent. But companies are starting to find that consumers are reluctant to pay more for groceries as inflation rises and disposable incomes fall, and many price increases are being followed by drops in sales volumes. Good commodity risk management is consequently becoming an essen- tial part of remaining profitable. Michael Steib, consumer goods analyst at Morgan Stanley, says: “Companies are more focused on hedging, particularly the ones that got burned.” Although food companies have long employed “procurement” people with logistical skills in sourcing commodities, they are now looking for people with experience in trading commodities. “Consumer industry companies are turning into agriculture commodities trading houses,” said one senior commodities banker in London. Meanwhile, consumer industry bankers say investment banks are putting money in commodities teams that give food and consumer goods companies advice on how to hedge their risk exposure. When corn prices rose or fell 5 cents per bushel per day, companies could afford not to be hedged because the price movements were not big enough to lower profits. But now that they are swinging by 30-40 cents a day, and prices have soared – which means they account for a bigger proportion of total sales – companies are being hit with considerably higher additional costs. Pilgrim’s Pride, the US group that claims to be the world’s biggest took the precaution of hedging some of their key ingredients – Mars, the owner of Snickers bars, has been hedging cocoa since the 1960s – they did not have to worry too much about being caught out by unexpectedly big price jumps. click for more of this story hired to fill a new role of global commodities procurement director at one of the biggest food groups. Prices of some commodities, such as corn and wheat, are now fluctuating as much in a single day as they did in a year in the early 1990s. Brice Russell, chief procurement officer for food group Mars, said companies were poaching people from each other as well as from commodity trading houses because it was hard to find experienced people. “A lot of managers have not been in an inflationary environment before…they have to figure out how to manage it,” he said. Michael Schwartz, chief marketing officer at Triple Point, a USbased company that designs trad- ing software for oil companies, miners and Wall Street banks, said: “Consumer industry companies are showing interest in managing their commodities exposure now in a way very much similar to the energy and metals companies.” Rick Hughes, vice-president of global purchases at Procter & Gamble, which hedges all kinds of commodities, said: “We’ve gone longer and hedged a broader portion of our portfolio.” Unilever created a position of chief purchasing officer a few months ago. Kellogg’s, which has hedged 90 per cent of its raw material exposure this year, said it hedged earlier, and PepsiCo said it was also hedging more. Copyright The Financial Times Limited 2008