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How complex coffee marketing system is rigged against farmers

Sunday November 15 2015

Coffee farmers in Gachatha Village, Nyeri County. The Nation kicked off a campaign on November 16, 2015 to demand a revolution in the coffee sector that will deliver fair prices to farmers and all concerned and in that way, help the economy. PHOTO | JOSEPH KANYI |

Coffee farmers in Gachatha Village, Nyeri County. The Nation kicked off a campaign on November 16, 2015 to demand a revolution in the coffee sector that will deliver fair prices to farmers and all concerned and in that way, help the economy. PHOTO | JOSEPH KANYI |  NATION MEDIA GROUP

JOHN KAMAU
By JOHN KAMAU
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For years, coffee farmers have been victims of a long-winded marketing system that hardly auctions their coffee based on quality.

Initially, the Coffee Act granted the Coffee Board of Kenya control over how much coffee was produced, who processed it, where, when and to who it could be sold.

Today, a cartel of coffee barons has put in place a marketing system, which rigs prices along the chain.

The circus starts at the milling stage where farmers’ co-operatives deliver their parchment.

After the milling, the miller prepares a report which states the primary factory and the number of 50kg bags sorted accorded to bean size.

Size AA is supposed to be top grade followed by AB, PB, C, E, TT, and T.

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Kenya’s AA is considered one of the world’s finest coffees.

It is at the mills where farmers get the first short-charging in what the market calls “the milling loss” — which refers to coffee lost during milling.

Many cooperative societies have for years been accusing millers of manipulating milling losses and grading of coffee.

At one point, the giant Othaya Coffee Cooperative Society was informed that their milling losses were between 25 to 35 per cent.

This went down when they started milling to between 16 and 22 per cent, according to Mr Newton Nderitu, the chairman of the Othaya Coffee Cooperative Society in a published interview.

IMMENSE LOSSES
At the Kabati Coffee Cooperative Society in Murang’a, farmers earn up to Sh130 per kilo after they started milling their own Mbuni Hauler.

“We used to pay Sh40 per kilo of Mbuni Hauler due to milling costs and losses. Now farmers are getting real value for their harvests,” said Ms Anne Kamande, the manager.

When there is a dispute between farmers and millers, farmers are expected to raise the matter with marketing agents.

However, what farmers don’t know is that their appointed marketing agents — the people who are supposed to safeguard their interests by making sure millers grade coffee based on quality — could be partly, or wholly-owned by the same millers they complain about.

Marketing agents are supposed to be brokers.

They are the ones who present catalogues to the Coffee Board (now the Coffee Directorate) and to the auction.

The catalogues include grades, number of bags, the miller, the cooperative society and the hidden reserve price.

Previously, coffee from each factory was sold in what the dealers called “warantable” lots.

This consisted of not less than 200 bags for each grade, and since most coffee factories were unable to get this number of bags per grade, their coffee was pooled with other coffee factories and sold as “bulk” or “ungraded.”

In this mix, top grade coffee was auctioned as “ungraded” or under “bulk” leading to immense losses to farmers.

In some cases, where the marketing agent’s sister company also holds a dealers’ license – and many of the biggest agents do – chances of leaking the reserve price to their parent company are high.

We asked insiders whether this is possible given that international traders are now controlling Kenya’s coffee through ownership of dealerships, marketing agents, mills and farm-management companies.

“No, competition among buyers is fierce on both the buying and the selling sides. The NCE operates the most transparent and competitive internal marketing mechanism possible in the world – and the Kenya auction is the envy of most other producing countries worldwide, thanks to the high prices it obtains for the country’s coffee,” said Mr Dirk Sickmueller of Taylor Winch (Coffee) Limited, a US coffee exporting company, and part of the Volcafe Group.

FARMERS OBLIVIOUS
But this might not be the case where buyer/exporters (those holding dealers license) and the sellers (those holding marketing licenses) are the same company.

“The problem is that farmers never get to know the quality profile of their coffee… if they did, they would demand more money,” said a source who works with a local miller.

At the auction, the marketing agent (the farmers’ broker) is supposed to appoint a liquorer whose work is to analyse the samples.

This again is not an independent party and works on behalf of the coffee chain and not the farmer.

His work is to sample the AB lot and give it a class which becomes the benchmark for all the other grades from that factory. This also creates problems.

“If the AB is assigned Class 5 for instance, the AA (top grade) is assigned Class 4, and those below are assigned lower grades. The “poor” grades T, TT, C are awarded Class 5 and above by default, the fact that TT is a by-products of AA and AB notwithstanding,” said Mr David Ndii, an economist in a brief paper co-authored with Mr Githuku Mwangi.

Previously, Coffee Board’s Chief Liquorer used to determine the classification.

But this is now done by the marketing agent whose other company perhaps holds a dealer’s license.

Even where growers’ agents have a chance to counter check what millers have classified, they are interested parties.

“The buyers at the Auction, known as dealers, can, and often appoint their own experts to verify the seller’s classification. The dealers do not report their findings to the auction. Considerable scope for collusion is readily apparent. The determination of warrantable lots is discretionary, and classification is a matter of expert opinion, of which there is no independent verification,” said Mr Ndii in his paper.

“Interestingly, even though the class is supposed to be the main price determinant, the class is not included in the sale catalogues made available to dealers at the auction,” he says.

BEANS CLASSIFICATION
The next mischief is when a marketing agent – while knowing the quality of his beans – offers a very high reserve price to knock out any independent buyer or competitor.

When this happens the offered coffee lot is categorised as “noted bids” – meaning that it has not attracted any buyer on the reserve price.

This “noted” lot could be sold at the next auction.

Co-operative societies are supposed to be informed that their coffee did not attract any buyer and as such they agree to a lower price.

In most cases, they are not informed and that way, their coffee could be sold at a knock-down price, according to insiders.

Can a cartel be at work at the Coffee Exchange and can price fixing happen? It depends on who you ask.

“Relationships and partnerships are present in every business environment. Licensing is undertaken by the regulator. The conditions for price fixing simply don’t exist at the NCE which presents samples to a huge number of buyers who have very low barriers to entry. The highest bidder wins the day – great for the farmers,” said Mr Sickmueller, an agent for Taylor Winch (Coffee) Limited.

The other big problem is on the beans classification.

In Kenya, the beans are categorised by size.

The next mischief is when a marketing agent –
The next mischief is when a marketing agent – while knowing the quality of his beans – offers a very high reserve price to knock out any independent buyer or competitor. PHOTO | JEFF ANGOTE | NATION MEDIA GROUP

Farmers are told that big AA beans fetch premium prices but customers at coffee outlets do not pay for coffee based on these classifications.

Thus, coffee sold as “poor” grades TT, C, and T could still fetch premium prices at the consumer level.

The loser is the ordinary farmer duped to sell his coffee at a lower price.

“In reality, the elaborate grading and classification are an anachronism whose real purpose today is to perpetuate a monumental fraud. All a dealer has to do is put the coffee together again and sell it by description,” says the briefing paper.

One warehouse operator is quoted in the paper saying: “This coffee is bought as rubbish at the auction. We upgrade it to AA.”

MARKETING AGENTS
Would a farmer get to know how much his coffee fetched at the international market?

Insiders say there is no way as he has to rely on his marketing agent, who is the same league with the buyers.

At the auction, two market reports are prepared for both the public and the insiders.

The public report has information on grades, quantities and average prices and is published at the end of the coffee year.

There is also a sales report kept by the marketing agent indicating how much each lot was sold and average value of coffee sold in the pooled category.

In a non-convoluted system, the auction system is supposed to offer the best price discovery mechanism.

The introduction of marketing agents was supposed to help farmers get better pay for their crop.

Instead, they come from the same block as the millers and the dealers.

A mills manager in the Mt Kenya region said: “The problem with multinationals is that they badmouth the local companies to international roasters. They also have money to pay the farmers upfront as advance, which gives them control of the coffee.”

The coffee network is huge and well oiled.

At the apex are the major coffee-buying companies and roasters – US’s Starbucks and Stumptown, Germany’s Neumann, Swiss’ Nestle, Kraft, Sara Lee, and Procter & Gamble — some with deep roots in colonial days.

These companies have taken advantage of the 1989 suspension of the coffee quotas by the International Coffee Organisation (ICO) to rule the world market and determine farmer prices, paying as little as six per cent of a cup price.

The collapse of ICO led to a major drop in world coffee prices as production outstripped consumption and as the free market economy allowed coffee giants to stock up by buying from the lowest-cost producers such as Kenya.

NATIONAL PRODUCTION

But unlike other nations that grow the cheap robusta coffee, Kenya grows the top-notch Arabica which is used to blend other coffees to give them a unique taste.

But where is the money to show for it?

“Kenya coffee is very expensive at the international market. It is also very rare. Our problem is that we have not organised ourselves for that market,” said Mr Jeremiah Kiereni, a former Head of the Civil Service who has 350 acres of coffee straddling both Nairobi and Kiambu counties.

“We can get more money if we organise our marketing structures. At the moment, I think coffee is a dying economy.”

Mr Kiereini is one of the big farmers near Nairobi who has not been swayed to abandon coffee farming for real estate.

“May be I am not wise,” he chuckled. But then his coffee farm, Maakiou Estate, which he bought in 1974 from a Greek family, also has sentimental value.

“I do direct sales to the US markets,” he said.

While direct sales pay the best rates, multinational representatives say the auction system has served Kenya better.

“The auction has served the Kenyan coffee farmer very well for the last 70 years, and continues to offer a good price discovery and settlement mechanism assuring highest levels of traceability, competition, transparency and security,” says Mr Sickmueller.

At the moment, the auction markets 85 per cent of the national production.

“Direct sales can also be beneficial as they can create relationships and may provide for remunerative price levels and risk management and financing strategies – but not necessarily better prices,” said Mr Sickmueller.

But while large estate farmers can manage to go for direct sales, small-holder farmers are not as lucky.

PAYMENT DELAYS

They have to rely on a lengthy chain which thins all their income.

They also have to contend with excessive coffee processing, handling and marketing costs and receive lower prices for their produce compared to the elite-owned plantations.

They also suffer long delays in coffee payments.

“The problem with Kenyan rural farmers is that they do not know the quality or profile of their coffee” said a manager with a milling plant in central Kenya who sought anonymity.

In the current coffee structure, the small-holder has little say on the marketing of their produce.

They are by law required to take their coffee to a co-operative society which is licensed to pulp the cherry – which involves the removal of the outer skin.

More so, the law prohibits a farmer owning less than four acres from setting up a pulp factory and denies them a chance to combine their farms to get a pulp .

“This leaves the farmers at the mercy of multinationals and cartels and this is what we aspired to break,” said former MP Njehu Gatabaki who tried to break the cartels in the late 1990s but lost the battle.

At the moment, the auction is seen as monopolising the trade, thereby undervaluing clean coffee while the costs of production, processing, milling and marketing agents’ fees continue to go up.