From Cocoa to Chocolate

Srinivasan-Balan
  Srinivasan Balan
North Carolina State University
Abigail-Lindner
  Abigail Lindner
Regent University

If you ever savored a bar of chocolate, sipped a cup of hot cocoa, or indulged in a slice of chocolate cake, you are benefiting from the work of countless farmers, firms, and distributors who coordinate the operations of the complex cocoa supply chain. We spoke with Srinivasan Balan about his experience in this process. From 2012 to 2015, Srinivasan, current Industrial Engineering PhD student at North Carolina State University, worked for Olam International Ltd., a leading agribusiness company, and managed the supply chain for, among other commodities, cocoa in West Africa.

Q: Can you tell us a bit about the history and current state of cocoa and chocolate?

Cocoa dates back three thousands years. In Mesoamerica, the Mayans and Aztecs considered the cocoa tree a god and drank cocoa juice during religious rituals. Today, cocoa is one of the largest traded commodities in the terminal market (an assembly and trading place for commodities). Between 2010 and 2019, cocoa farmers worldwide collectively produced 4.8+ million tons of cocoa annually. Ivory Coast alone employs over 6 million cocoa farmers and ranks as the world’s top cocoa producing country with 2.1+ million tons of beans produced annually.
Trends in chocolate highlight the rapid growth of cocoa production. In 2010, the chocolate industry was worth $70 billion and is predicted to grow to over $200 billion by 2025. Europe, the largest market for chocolate, accounted for 49% of the global market share in 2017 with Switzerland ranking as the continent’s largest per capita chocolate consumer at 10.5 kg (23 lbs) of chocolate per capita. In Asia, however, per capita consumption remains small (300 g in India and 400 g China), but rising purchasing power and rapid national growth has prompted increased consumption.
In emerging markets, the annual consumption rates of cocoa butter and cocoa powder, key chocolate ingredients derived from roasting and pressing cocoa beans, are growing at compound annual growth rate of 7% and 5%. Assuming steady world population growth of 1.2%, growth in the cocoa grinding pace of 3%, and expected chocolate consumption growth rate of 7.3% by 2025, growers and processors will not be able to meet demand without effective agronomic practices supporting a high quality, high-yield cocoa crop.

Q: What affects cocoa yield and price?

First, cocoa requires very specific growing conditions - high annual rainfall, humidity, and temperature (minimum 16°C) - so about 30% of cocoa beans never make it to processing because of mold and disease. To combat these threats, the International Cocoa Organization (ICCO) is conducting research to develop disease- and drought-resistant cocoa trees. In addition, government-supported rehabilitation, replanting schemes, and improved chemicals and fertilizers are boosting cocoa bean yields. For instance, the government of Ghana proposed various propagation techniques to improve cocoa production and integrated crop & pest management for mature farms.

The price of cocoa is sensitive to the political and economic conditions of the exporting countries. Most cocoa production occurs in West Africa - the Ivory Coast and Ghana together provide 60% of the global cocoa supply - and conflicts in this region impact regional and global cocoa prices. For example, in 2010 a civil war in the Ivory Coast significantly affected exports, and the primary procurement price for cocoa in West Africa surged drastically.

Local currency fluctuations also affect the price of cocoa beans. For example, in Nigeria, the primary procurement price, including direct costs and overhead, of 1 kg of cocoa beans in 2015 was 550 Naira, equivalent to $2.75 ($1 = 200 Naira). Just two years later, the price rose to 700 Naira per kg while the Naira lost some of its value ($1 = 450 Naira), so the equivalent price decreased to $1.56 per kg.

In the terminal market, cocoa future prices dropped drastically from $3,422 per tonne in late 2015 to $1,769 per tonne in mid-2017, which influenced the price paid to farmers for their cocoa beans (the farm-gate price). Futures and options on the London International Financial Futures and Options Exchange (LIFFE) and the New York Board of Trade, Coffee, Sugar, and Cocoa Exchange (NYBOT CSCE) allow producers to hedge this price risk.

Q: What do “cocoa supply chain” and “cocoa value chain" mean?

A value chain shows how companies add value to raw materials to produce finished goods for profit. The industrial grinders and chocolate manufacturers enhance product value, resulting in chocolates and other confectionery. Of the total cocoa supply chain revenue, 6.6% goes to the farmers; 7.6%, to processors; 35.2%, to manufacturers; and 44.2%, to retail. This shows how much value is added downstream in the value chain.

A supply chain shows how the product flows from suppliers to the customers. For cocoa, it begins with small-scale cocoa farmers. Cocoa beans grow on the branches and trunks of cocoa trees. Workers manually harvest and open the bean pods to separate the 20 to 30 sweet, pulp-covered beans inside and store them in baskets. Then the farmers ferment, dry and store the beans in preparation for transport. The fermentation and drying steps are important to reduce the bitterness and acidity of the cocoa beans.

Cocoa beans must be transported in jute bags to support ventilation and control moisture content. Quality inspectors gauge bean quality based on various parameters, including bean count per 100 g, moisture content, contamination, and appearance. A slatey appearance (greenish-grey or purple instead of dark brown), for example, indicates under-fermentation.

The next steps in the cocoa supply chain differ based on the origin country. The Ivory Coast, the world’s largest producer, and Nigeria, which produces 250,000+ tons of cocoa beans per year, follow a similar primary procurement model. Farmers sell their cocoa to government-approved local buying agents (LBA). The LBAs supply those cocoa beans, bagged in jute bags, to global trade houses (GTH), which generally buy cocoa beans from the farm gate, clean, process and transport them to the port city. From there, the beans are shipped to Europe or the USA. Generally, the GTH’s transaction budget takes into account direct costs and terminal-based profit to decide the purchase price at the farm gate.

The process in Ghana, the world’s second largest cocoa producer with 850,000+ tons per year, is different. The local supply chain falls under Cocobod, the Ghana Cocoa Board association. Farmers sell their beans through a government-approved trader or a License Buying Company (LBC), which pays them a price that the Producer Price Review Committee (PPRC) predetermines. Cocobod’s Quality Control Division then inspects the beans before Cocobod buys the beans for a PPRC-set price and sells them to the exporters and processors. Because of strict production and processing regulations through Cocobod, cocoa beans from Ghana are considered the finest premium cocoa. The biggest purchaser is the Netherlands, the home country of major cocoa grinders such as Cargill and Archer Daniels Midland.

At their destination countries, local processors roast the cocoa beans and shell them for the cacao nibs that, when ground, become cocoa liquor. Chocolate manufacturers like Mars Inc. and Hershey’s buy the cocoa liquor for their confectionery. Pressing the liquor creates two products: cocoa cake from the non-fat solid portion and cocoa butter from the fatty liquid portion. Cocoa cake is further ground to make cocoa powder. Of the two liquor derivatives, cocoa butter is more valuable, quoted at $7,728 per ton in March 2018, while cocoa powder cost about $1,800 per ton.
Once the final chocolate is ready to be shipped, the distribution or outbound logistics bring the product to the retail customers.

CSC

Cocoa supply chain

Q: Cocoa follows a long and complex supply chain, from small local farmers to, oftentimes, multinational foreign companies. How, if possible, might the supply chain be shortened for time and cost efficiency?

Cocoa passes through many hands. One way that some GTHs, including Olam, have tried to shorten the early stages of the supply chain while also enhancing their profit margin is to grind and process the beans in the origin countries, cutting out the separate processors. That way they export the higher valued cocoa liquor. Recently, Cargill announced its plans to invest more than $113 million in its Ivory Coast and Ghana facilities.

How can OR and other professionals help streamline the supply chain and/or help the cocoa industry keep pace with growing demand?

There are a few places where operations researchers and similar business and technical professionals play roles in cocoa value chain.

  • In operations: Supply chain analysts are relevant in purchasing, manufacturing, crop procurement, and process improvements.
  • In trading and planning: Business majors, data scientists and OR PhDs contribute to stock trading, futures & options trading, crop yield and planning problems.

Do you have any other thoughts on this topic that you’d like to share?

I think cocoa is a very exciting industry, and it is important to the many people who enjoy the fruits of its supply chain. I would just like to leave the readers with these questions:

  1. What actions should governments take to enlarge the rehabilitation and replanting schemes that provide farmers with improved planting materials?
  2. What incentives can the chocolate grinders and manufacturers provide to safeguard and improve the yield of cocoa crop year on year?
  3. What can we do to ensure that the cocoa industry meets the ever-growing demand without affecting the livelihoods of the millions of farmers and traders in Africa, South America, and Asia?
CVC

Chocolate value chain