Global Economics

China Lifts Malaysian, Indonesian Palm Oil Sales


Consumption of palm oil by its No. 1 importer is expected to jump as rising global demand hikes prices for the cheapest of the edible oils

At an oil palm estate near Melaka Town in peninsular Malaysia, the harvesters are winding up the day. The Regent Estate, owned by IOI Corporation, employs around 300 workers in all. With the sky turning dark and little shelter out in the plantation, the harvesters hurry to avoid being caught in a tropical downpour.

One harvester, a Bangladeshi national, cuts down a final bunch of fruit from a palm. He swings his sickle—modified with an elongated, four-meter-long handle—and a cluster of yellowish-orange palm oil fruit falls from the tree. It hits the ground with a heavy thud.

Once these fruits are crushed and refined into palm oil, there is a good chance they will end up in China. IOI exported 230,000 tons of palm oil products to China last year, accounting for 6% of Malaysia's total palm oil exports to the country. Malaysia itself is responsible for 40% of world palm oil output.

The versatile commodity is used as cooking oil, in food and cosmetics processing, and myriad other industries. China, perhaps unsurprisingly, is the world's biggest importer of palm oil.

"If we look at the major importers, China has been number one for many years," said Ivy Ng, who researches palm oil plantation stocks at investment bank CIMB in Kuala Lumpur.

Palm oil, traditionally unglamorous, has lately become a hot commodity. According to investment bank Credit Suisse crude palm oil prices rose 38%—from US$917 a ton to US$1,265 a ton—over a 12-week period from the start of December. There haven't been highs like this since 1998.

China is a key driver of these towering prices. The disastrous snowstorms this winter mean the spring rapeseed harvest will likely be poorer than planned. Rapeseed is a major source of edible oil in China, and palm oil imports are expected to make up the difference. At the same time, broader trends, like China's increasingly wealthy population, also mean individuals are consuming more oil than before.

"China was consuming a very low amount of edible oil per person compared to some of the more developed countries," Ng said. "But over the past few years they've been catching up."

Increasing demand from China isn't the only reason for palm oil's current popularity. Demand is rising across the developing world while biofuel policies introduced in developed countries are another contributing factor. In Europe and the US, the commodity is a substitute for rapeseed and other edible oils, which are increasingly being used for fuel purposes.

Of the 17 types of edible oils and fats that are traded globally, palm oil remains the cheapest, going for US$300 less than soya oil, according to Credit Suisse.

The rivals

Palm oil's great rival in China is soybean oil, which is mainly imported from South America. China is the world's biggest soybean importer, buying 33.5 million tons last year, a CLSA report said. Soybean oil occupies 37% of the edible oils market in China, according to research firm Beijing Agribusiness, compared to palm oil's 21% share.

But palm oil has momentum on its side. In 2002, it overtook rapeseed oil to gain its current second-place position in terms of market share.

"Traditionally, the Chinese market is a big market for rapeseed oil; probably 15 years ago rapeseed oil was the number one oil, followed by soybean and then palm. But today the relationship has changed," said James Zhou, who heads Cargill's grain and oilseed supply chain unit in China.

History lessons

The fact that Southeast Asia and China are linked by palm oil is a quirk of geography and history. The plant is native to West Africa, and was first transported to Indonesia by the Dutch. In 1917, the first oil palm plantation was established in what is now peninsular Malaysia.

The Dutch transplantation turned out to be a felicitous move. According to Tan Teck Hock, an agronomist at IOI, oil palms grow best within five degrees latitude of the equator, and in areas with evenly distributed and heavy rainfall. Malaysia and Indonesian Borneo, in particular, with vast expanses of rainforest, were ideal candidates for plantations.

With China's rise, palm oil again seems to be benefiting from being in the right place at the right time.

"[Palm oil] is relatively cheap, and we can get palm oil from Malaysia, Indonesia, which is only about five to 11 days' voyage, depending on which part of China," said Cargill's Zhou. "Soybean oil is primarily from South America, it has a much longer voyage—40 to 45 days—and higher shipping freight costs."

The palm oil supply chain typically begins at an estate owned by one of the big plantation companies—firms like Singapore-listed Wilmar, Kuala Lumpur-listed Sime Darby or IOI.

Estates in Malaysia and Indonesia account for 90% of global palm oil output. In 2006, 65% of China's palm oil imports were from Malaysia, with nearly all the remainder coming from Indonesia, according to Beijing Agribusiness.

The plantation companies conduct agricultural research and planting at their estates. The palms are harvested for "fresh fruit bunches," the basic metric for estate output, which are transported to nearby mills for crushing and separation. Mills process the fruit bunches to produce crude palm oil and extract the fruit kernels before shipping it all to a refinery. The crude palm oil is bleached and deodorized to produce RBD palm oil. Kernel oil is turned into oleochemicals or specialty fats that are used in cosmetics and soap manufacturing, and in food processing as products like cocoa butter substitutes.

An additional step of fractionation produces palm olein, a liquid, and stearin, a solid. These are used for making things like margarine or as ingredients in ice cream, for example.

From Southeast Asian refineries, the oil is imported into China. Wilmar, which has most of its plantations in Indonesia, is responsible for some 60% of palm oil imports to China, according to Cargill's Zhou. Unlike most producers, Wilmar is vertically integrated, running its own estates and refineries as well as handling imports to China and even producing end-products for the China market. Zhou's own firm imports about 10% into the country, mainly for selling on to second-tier traders or end-users.

One of the main applications of palm oil in China is industrial frying. As such, the country is very reliant on RBD palm oil, which is prized for its resistance to oxidation. This allows users to fry many batches of food without it going rancid.

"Palm oil has a big advantage over soya bean oil or other oils," said Wong Chee Kuan, who runs Loders-Krokland, the specialty fats subsidiary of IOI Corp, in the Netherlands. "With palm oil you are able to fry much longer with less deterioration in quality of oil."

Fried and dried

One industry that does plenty of industrial frying is instant noodle manufacturing. Instant noodles have to be fried to remove moisture in order to be preserved. Hong Kong-listed Tingyi, which claims to be the biggest instant noodle producer in the world by volume, has 32 factories in China. It pumps out 9 billion packets of its Master Kong brand instant noodles a year. Tingyi buys refined palm oil from Malaysia and Indonesia.

According to Tingyi CFO Frank Lin, the palm oil price increases have eaten into the company's gross margins. He said palm oil makes up 12-18% of the cost of a packet of noodles. The higher-end the noodles and the more expensive the packaging, the lower the percentage. Instant noodles, in turn, make up about half of the company's annual turnover, which was US$2.3 billion in 2006.

"Our production costs and gross margin are squeezed by the rise in palm oil costs," he said.

Back at the estate, the harvesters are done for the day. They spent months learning how to wield their sickles efficiently—slicing a 20-kilogram fruit bunch off a 4-meter-tall tree is no easy task. But as China's demand for oil continues to rise, they can rest assured that they will have plenty more work in the coming years.


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