The increasingly visible impact of climate change on food company supply chains

The supply chain of food manufacturing companies faces numerous challenges resulting from the consequences of climate change. The entire chain is at risk, including the sourcing of raw materials and energy, the transportation, storage, distribution and logistics networks, the manufacturing process, and the related facilities.

These challenges have become increasingly apparent in recent years, as we have witnessed frequent weather anomalies occurring alongside a period of extreme disruptions to the global logistic since 2020, including the COVID-related imbalance between the demand and supply of goods which led to logistics bottle necks, the European energy crisis, the geopolitical conflict in the Black Sea region and the more recent in the Middle East, the increasing number of trade barriers, etc. Among the various weather anomalies, in 2021 prolonged dry conditions led to the worst drought in central and southern Brazil in nearly a century, severely impacting various crops of the world largest commodity producer. Additionally, in July of the same year, the worst frost in 20 years resulted in a 25% reduction of the Brazilian arabica coffee production. During this period, China and Europe also experienced severe floods that had a detrimental effect on various crops, notably grains and vegetable oils, as well as logistics. The European floods were followed twelve months later by one of the worst droughts ever recorded, further impacting agriculture production as well as exacerbating the energy crisis, limiting hydropower and nuclear production.

Today the pandemic has ended, the energy market has cooled down and the global logistic returned to more normal functioning, however weather anomalies (as well as the geopolitical crisis) have persisted and with them the hit to the sourcing of raw materials. As showed in chart 1, the global logistic pressure index came done to historical average at the end of 2022, whereas weather anomalies in Brazil have persisted and worsened since 2020.

Chart 1. Global Logistic bottle neck and Brazil weather anomalies

May 2024 has ranked the warmest since global records in 1850 and represents the 12th consecutive record-warm month. El Nino conditions prevailed since 2022 into early 2024, exacerbating high temperatures and drought in various regions across the globe. The repercussions of these climatic phenomena have been extensive, from a reduction of cocoa and coffee crops which led these markets to reach historically high levels (Chart 2, Cocoa NY rally), to a prolonged drought in the Panama Canal significantly reducing its transit capacity, which normally represents 3% of global trade.

Chart 2. Commodity index and Cocoa price

The impact of climate change on the supply chain of food companies has become increasingly evident, not only through weather anomalies. In addition to the physical risks, the magnitude of transition risks related to the necessary shift towards a greener economy has increased, notably with the proliferation of ESG regulations. The European Union has been particularly active since 2020 in introducing new regulations to drive sustainable practices and address climate-related risks. The EU “fit for 55” package, adopted in 2021, includes the expansion of the EU ETS scope to the maritime sectors, a separate new ETS scheme for building and road transport and the Carbon border adjustment mechanism. This reform has the consequence of increasing the amount of food company carbon emissions falling in the EU regulated carbon market. Since these emissions are within the food manufacturer's scope 3, as directly produced by its agri and metals suppliers, shipping companies and fuel distributors, obtaining complete visibility of their magnitude is extremely complex. Consequently, quantifying and controlling the associated inflationary component, as well as driving emissions reduction, pose significant challenges for food companies.

Another example of EU regulation is the one on deforestation-free products entered into force in June 2023, prohibiting the import into, trading within or export of certain products (coffee, cocoa, soya, palm oil, etc) from the EU market unless it can be proven they are “deforestation-free”. While this rule aims to achieve complete supply chain traceability across the food industry, the implementation, particularly in the first years, will be costly and challenging, given the complexity of the due diligence system set in place. Those commodities produced by smallholders in remote and underdeveloped locations, as it can be for palm oil, cocoa and coffee, are struggling to get the technology in place to provide GPS coordinate of their cultivated area (as requested by the regulation), also it will be complex for those agri-products exported in bulk to maintain the segregation between complaint and non-compliant products through the full journey into the European market. Consequently, food manufacturers may face uncertainty regarding the origin of their supplies and potential price volatility if, during the early stages of the reform, non-compliant raw materials surpass compliant ones.

These are only few examples on how the impact of climate change on food company supply chain has become increasingly evident. During the global logistic crisis of the 2020-2022 period, the food manufacturing supply chains had to shift from the “just in time” to a “just in case” approach. It seems that with the uncertainty derived by climate change would be safer to continue with the latter approach.

This brief article aims to provide insights into the business perspective on the challenges posed by climate change to the supply chain. It is extremely important for companies to meticulously map the associated risks and develop suitable mitigation strategies. However, these essential activities also bring additional challenges and opportunities, which I intend to explore in the subsequent articles.

Please note that this article is intended to be descriptive of historical events and the content should not be interpreted as projections of future outcomes. All opinions expressed are solely my own and do not reflect the views of my employer.