CASE STUDY SERIES: BUSINESS RISKS FROM DEFORESTATION
Companies that fail to manage their environmental performance expose themselves to business risks. For instance, rising consumer and investor awareness about the environmental and social impacts of deforestation is placing increased scrutiny on companies that source commodities from high-risk deforestation to ensure that their products are not sourced with illegal or questionable environmental practices. Companies that ignore this scrutiny subject themselves to potential regulatory action, or loss of customers, which can translate into negative financial consequences.
Risk is broadly defined in this case study series as the volatility of returns that could generate unexpected losses or profits associated with direct and indirect impacts from deforestation. These risks can be market related, such as input or output price volatility and/or loss of market access; reputational, where the firm’s brand equity could be impacted; operational, within the boundaries of the firm’s business activities and processes; or regulatory/litigation, where government actions could impact the firm’s operations or finances.
Overall, risks impact a company’s balance sheet (assets, liabilities, equity, valuation), income statement (revenues, costs, profitability, net income), and cash flow. This often has direct implications for the value of the company’s debt or equity, with pass-through to investors. Businesses can measure risks for their expected outcome and the probability that they will occur, and they can also mitigate or minimize them.
This case studies series examines the potential business risks for companies that source commodities from areas with deforestation. The series spotlights three companies (IOI Corporation, JBS, and United Cacao) and summarizes the business risks and negative financial consequences that the three companies faced.
- IOI Corporation was suspended from the Roundtable on Sustainable Palm Oil (RSPO) because of 11,750 hectares of land cleared illegally by its Indonesian subsidiaries. With the suspension, RSPO prohibited IOI from selling crude sustainable palm oil (CSPO). This prompted 27 of IOI’s largest corporate buyers to suspend procurement contracts with IOI, leading to a drop in its net income.
- United Cacao’s illegal deforestation was a leading indicator of the broader corporate governance issues, culminating in its winding-up in July 2017. Its expansion plans conflicted directly with government regulations against deforestation – a risk the company itself identified in its bond issuance. On January 4, 2017, United Cacao’s nominated adviser resigned its role, leading to the suspension of trading of its equity on AIM and its bond on the NEX Exchange, and the delisting of United Cacao from the AIM on February 6, 2017.
- The case of JBS demonstrates the cascading effect of uncovering actions that generate reputational risk. Investigations by Brazilian authorities into JBS have produced accusations of bribery, financial and accounting violations, labor standards and illegal deforestation. The accusations of deforestation provided additional reasons for investors and trading partners to be suspicious of JBS’ reputation. The cascade of scandals forced JBS to delay its initial public offering (IPO) for its foreign operations through JBS Foods International.