Optimistic market for Lankan tea in first half 2007

Bigger demand from the CIS and the Middle East owing to higher oil prices is seen this year for Sri Lankan tea while a further depreciation of the rupee would influence tea prices, broker Forbes & Walker Ltd says in its tea overview for 2007.

In its review which also covers the whole of 2006, Forbes said that last year commenced on a hesitant note with the total weekly auction averages remaining below the previous year but took an upward turn commencing the last auction in January. The contributory factors would have been the restricted volumes from Kenya during the latter part of 2005, and the early out-burst of the Western Quality Season. Consequently, tea prices of High and Mid growns appreciated sharply during February recording a positive variance in the high elevation average by Rs.30 – Rs.40 per kg compared to the previous year. Low grown prices however, continued to be below that of the previous year.

In the second quarter with the western quality season coming to an end, the usual downward pattern in prices commenced but did not however decline in the usual manner mainly due to the global shortfall in tea production. Prices for High growns continued to be above that of the previous year. Medium growns too followed a similar trend but appreciated to a lesser extent whilst Low growns showed no significant change recording average prices below previous years levels up until June.

At the beginning of the third quarter the global shortfall of tea year-on-year (YOY) amounted to approximately 60 million kg. The majority of the shortfall was from Kenya and consequently both Sri Lanka and India benefited by way of improved tea prices. From a Sri Lankan perspective, the demand was centered around liquoring small leaf varieties which resulted in a positive impact on prices of mainly the High grown teas and to a lesser extent, of the Mid growns. This trend continued throughout the third quarter.

Forbes said at the beginning of the fourth quarter the global deficit in tea production had narrowed to approximately 30 m/kgs. The improved supplies coupled with an overall decline in product quality resulted in auction prices taking correction particularly in respect of the High growns, whilst the Low growns and the leafy Mid growns appreciated marginally quarter on quarter. Disaster struck the tea industry during the latter part of November as plantation workers initiated a “Go-slow” demanding for higher wages. The “Go-slow” turned into a total stoppage of work by early December which continued up until mid December resulting in a tremendous loss to the industry in particular and the country in general.

The combination of a “Go-slow and Strike” of almost three weeks and more resulted in a dramatic decline in auction quantities throughout December sales. Prices for the small volume rose sharply with buyers compelled to pay up as offerings in the foreseeable future dwindled. On the other hand the high prices realized did not compensate the sellers whose cost of production had increased substantially due to the significant decline in crop in-takes.
Exporters too would have lost out as many of them would have been compelled to fulfill shipments purchasing teas at exceptionally high levels and hence the concluding weeks in 2006 were a “No-Win” situation.

Economy
Looking back at the Sri Lankan economy in 2006 the promise shown in the first quarter has now evaporated and is now on a gradual decline. Inflation measured by the point to point change on the Colombo Consumer Price Index (CCPI) which was at 8.0% in January, declined to 6.4% in March. Thereafter, it rose to over 15% by September and has now escalated to over 19%. Interest rates as measured by the Average Weighted Prime Lending Rates (AWPLR) which began the year at 12.42% and declined to 11.93% by March thereafter began its upward trend closing at 14.55% last week. The currency value as measured against the US Dollar too showed a similar trend despite the US currency showing a marked decline against all other major currencies in the world. The country’s trade deficit increased from US$ 2.1 billion to US$ 2.9 billion showing a decline of 38% from the previous year. The total reserves were down 11% from last year and total debt increased from Rs. 2,184 billion to Rs. 2,484 billion.

One of the few positive indicators was the share market where the All Share Price Index increased from 1,953 in January to 2,344 by March and continued to move up to 2,701 by December. Another positive indicator was export earnings which grew 6.5% YOY.

Overall the negative indicators far outweigh the positives. However, amidst the dark clouds surrounding the economy the silver lining is the GDP growth of 7%.

Production – Jan/Oct 2006
All sectors have shown a negative growth year on year.
High growns: - 3.1 m/kgs (4.6%)
Medium growns:- 2 m/kgs (4%)
Low growns:- 3.5 m/kgs (-2%)
It is now clearly evident that Sri Lanka would not achieve its record tea crop of 317 m/kgs achieved in 2005.

Average prices
The total sale average for the period January – December 2006 of Rs.199.58 per kg records a growth of Rs.13.74 per kg when compared to the Rs.185.84 per kg recorded during the same period last year.

Exports - Jan/Nov
Tea exports during the 11 months totalled 300 m/kgs vis-à-vis 280 m/kgs in 2005, an increase of approx. 20 m/kgs or 7% when compared to the same period in 2005. Export earnings moved up substantially from Rs.73.6 billion to Rs.83.6 billion in 2006. It would be relevant to note that the export earnings of Rs.83.6 billion for the 11 months this year surpasses the annual export earnings of Rs.81.4 billion during calendar 2005.

Global supply and demand
The available statistics on global tea production indicates the current year’s production to be approximately 20 m/kgs or 1.5% below that of the corresponding period last year. With the exception of India and Malawi which have recorded crop increases, all other major producer countries reflect a decline in production. It is evident that Kenya’s tea production has recovered from the setback due to the drought that prevailed in the early part of 2006 which as at end October reduced to 24 m/kgs vis-à-vis the corresponding period in 2005. Sri Lanka, up to end October, records a crop deficit of approximately 5 m/kgs.

Forbes said in comparing tea prices at the various tea auction centres it would be relevant to note that only the Colombo and Mombasa Auction Centres have recorded prices above the global average price, which could be attributed to the overall better product quality at these centres and the substantial shortfall in the Kenya production.

The steady carry-over in global tea production would be halted with the drop in volumes this year thus reducing excess/surplus of tea in the world market. Taking this into consideration it would also be reasonable to conclude that inventory levels of most importers would be low particularly in respect of quality teas.

Outlook for 2007
In closely analyzing the data relevant to 2006, there appears to be a shortage of tea and definitely a shortage of “Good Quality Tea”. This scenario is unlikely to change in the immediate future as it is customary in almost all producer countries where production levels are generally low in the 1st quarter. Concurrently, quality too reflects improvement during this period attracting greater demand. From a Sri Lankan perspective the aftermath of the plantation strike during the latter part of 2006 would certainly take its toll on quantity/quality of teas in the immediate future. In addition, owing to the short supply situation from Kenya during the early part of 2006 and the decline in volumes from Sri Lanka during the latter part of 2006 it would be reasonable to conclude that inventories in most importing countries will be lower than the corresponding levels in the previous year which would augur well for the “Demand for Tea”.

These factors would enable brokers to project an optimistic market scenario for the first half of 2007. The market demand for teas thereafter would greatly depend on how the global tea industry would progress during the first half. “As we have periodically highlighted, we are confident that market demand for the good quality teas would certainly command a significant premium consistently throughout the year,” the Forbes report said.

Whilst tea prices are projected to be buoyant in the year 2007, for the long term sustainability, the industry needs re-engineering to achieve global competitiveness. Sri Lanka’s cost in producing a kilo of tea is amongst the highest in the world.
Rising input costs, declining productivity, uneconomic age profile in tea bushes and high social costs have led to declining profits.

“Perhaps, higher productivity and cost reduction will have to be achieved for enhancing competitiveness of “Ceylon Teas” in the world market in the medium to long term. Therefore, global competitiveness of “Ceylon Teas” will largely depend on how quickly the industry addresses these vital issues,” it said.