1 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports Indonesia’s boom Production & consumption go-go, but plantations weather earnings crunch Malaysia biogas, India refinery woes, Liberia investor hiccup Green performance chemicals Sustainability: after haze, RSPO+, labour worries Supplement: EU withdraws GSP privileges, Malaysia mulls TPP standard, Indonesia’s farmer protection law, Pakistan FTA NEW price expectations survey for 2H2013 Issue #4 Sep / Oct 2013 Khor reports’ Palm Oil 

editorial ______________________________________________________________________________________________ 2 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports Khor Reports’ Palm Oil Sep / Oct 2013 ISSUE 4 Founder & editor: Yu Leng, Khor Associates & contributors: V Mavroeidi & H Varkkey. ____________________ Enquiries Email: [email protected] Telephone: +6593830428 Khor Reports’ Palm Oil is published by Segi Enam Advisors Pte Ltd 1 Claymore Drive #08-14 Singapore 229594 Khor Reports’ Palm Oil and Khor Reports are owned by Segi Enam Advisors Pte Ltd © Khor Reports 2013 Khor Reports’ Palm Oil newsletter is an unregulated product. Information in the newsletter is for general information only and is not intended to be relied upon by individual readers in making or not making specific business and/or investment decisions. You should seek appropriate independent advice before making any such decision. Khor Reports has prepared this newsletter based on primary and secondary sources of information. Although every effort has been made to ensure that the information is accurate, Segi Enam Advisors Pte Ltd and its staff assume no liability for any actions taken based on the information contained herein. Should you wish to cite, reproduce, or adapt our content in any manner, please seek our prior written permission. This is a subscription-free publication. Certain sections or pages of Khor Reports’ Palm Oil may be supported by sponsors. We maintain our editorial independence and the views expressed in this newsletter are purely our own. ____________________ Khor Reports is a provider of market intelligence. We specialise in customized industry research and strategic analysis on agribusiness in Southeast Asia and frontier markets. We also focus on supply-chains, sustainability and reputational risks. Record crops & biodiesel The USDA forecasts 2013/14 palm oil production in Indonesia at a record 31.0 million tonnes, up 2.5 million or 9 percent from last year… “Total area estimated to have grown an average 630,000 hectares per annum between 2011 and 2013. This compares to a growth rate of approximately 500,000 hectares per annum over the previous 10 years” (26 Jun 2013, usda.gov). At the same time, the USDA forecasts record crops in other oilseeds. Thus, 2H2013 prospects for CPO price is range bound. According to Malaysian Palm Oil Board (MPOB) data, CPO prices in 1H2013 was RM 2,317 versus RM 3,199 per tonne in 1H2012; a 28% decline. The sector is now concerned with demand as it heads into peak production. In recent years, faster growth in supply has been taken up by biodiesel users. With stricter European rules biofuels, growers say that it should not be a surprise that CPO prices drifted lower. However, the output gap might correct, driven by Indonesia regulations, lower prices and stricter sustainability compliance (Indonesia Sustainable Palm Oil or ISPO is ramping up and Malaysia Sustainable Palm Oil launches soon). More immediately, prices may also be supported by the pick up in oil price and weaker SE Asian currencies. Given the price dampening bumper soybean crop outlook earlier, it remains to be seen if more updates temper this muted price view. Several large plantation companies have also reported output below estimations, and if this is widespread, this might dent the USDA’s bumper outlook for palm oil. Malaysian biodiesel hopes are pinned on (1) taking over the EU imports market share from Indonesia and (2) domestic biodiesel support, with 500,000 tonnes of feedstock used under eventual B10 production. Expectations of Malaysia’s exports of biodiesel to hit 300,000 tonnes this year (interview with CEO of Felda Global, 10 June 2013, Bloomberg.com) may be affected by the EU’s surprise removal of anti-dumping duties on Indonesia exports. In a limiting long term move for palm bio-diesel, the European Parliament voted for a 5.5% cap on conventional feedstocks (versus current usage of 4.5%) and indirect land use change (ILUC) factors for bio-fuels. The next step in this legislative change is in September. There is continuing contestation over bio-fuels policies. A report argues that EU policy is arbitrary as it lacks scientific consensus on its model and that it is WTO non-compliant as it wrongly uses Article XX as a “free pass for any environmental policy that has implication for trade” (ecipe.org). Is a trade complaint in the offing? If big markets pull back, producer countries may step in. There are varied opinions over the use of biodiesel to restore supply/demand balance in producer countries. As regional economies are pushed into more fiscal conservatism by global market pressures, subsidies may be tougher to be had. However, there may be a political-economic reason to be price supportive given the large number of oil palm smallholders in both Malaysia and Indonesia. In our feature story, Indonesia’s palm oil boom has seen a big expansion in hectarage and domestic consumption. Indonesia’s consumer sector is important and we touch on three consumer companies. Amidst the boom, plantation group are facing an earnings crunch in 2013, as prices fall and costs rise. We review green performance chemicals and an interesting price signal in the certified palm kernel oil segment. Sustainability issues and campaigning are in the limelight, triggered by the bad haze smog and labour cocnerns. In our supplement, we provide a briefing on EU GSP status withdrawal for Malaysia and key Indonesia products; and we speculate about US demands on Malaysia via the TPP, an unusual new set of trade and investment standards. In a new move, Indonesia seeks to protect its agriculture sector. Yu Leng, Khor In this issue 3 briefing Malaysia biogas directive. India refinery angst. Liberia investor hiccup. 4 end uses Green performance chemicals. CSPKO premium jumps. 5 sustainability After haze. RSPO & RSPO+. More unionized? 6-7 feature Indonesia’s boom. Plantations earnings crunch. 8 prices & data Key vegetable oils. Weather outlook. CPO technical view. Price charts. 9-10 supplement – trade briefing EU withdraws GSP benefits. TPP new stds for Malaysia? Indonesia farmer protection law. 

feature _______________________________________________________________________________________________ 3 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports Biogas directive The biogas directive, set for implementation in 2014, requires every palm oil mill to set up a biogas facility for methane capture. This should improve the greenhouse gas (GHG) measure for Malaysia palm oil. This could help maintain access to markets which are sensitive about this measure i.e. the EU. The directive might cost each mill RM 5- 10 (USD 1.5-3.1) million, unless there is sufficient value for the energy output for cost recovery. This could come via connection to the grid or supplying energy to a neighbouring refinery to displace medium fuel oil. A small number of mills are in a position to take advantage of the latter and the former is disadvantaged in terms of the feed-in tariff. The only other current option, carbon credits have no foreseeable value. This is another disappointing voluntary sustainable market. Some mill owners (Khor Reports interviews, August 2013) point out there is technological uncertainty e.g. the cheaper covered lagoon technology has yet to be fully stabilised. They warn that a mandated rush for implementation could stretch the resources of builders and raise the risk of poorly installed facilities and technological failures. A reform of Malaysia’s feed-in tariff for biogas power would aid this program. This would make it feasible for more mills to consider methane capture for grid connection. Malaysia’s renewable energy tariffs are not high by international standards. Furthermore, they are also at a discount to what the state monopoly power distribution company Tenaga Nasional (TNB) is paying to big independent power producers (IPP)1. For these big power plants, TNB also needs to invest in transmission infrastructure. For feed-in- 1 In 2012, the winning bid for the Prai 1,071 MW gas-powered plant was 34.7 sen (10.6 cents) /kWh, while several IPPs received contract extensuins for five to ten years at 35.3 to 37.4 sen (10.8-11.4 cents) /kWh (9 Oct 2012, pimagazine-asia.com). tafiff projects such as biogas, the renewable energy developer pays for connection while earning 33.6 sen/kWh (which reduces slightly every year). No doubt the above issues are being discussed by mill owners and policy makers. Many palm oil players also ask whether mandated methane capture will promote market acess, since new measures such as indirect landuse change are added. The validity of greenhouse gas studies that compare and contrast the edible oils is a hot topic. Refinery pleas set aside India’s government rejects industry proposals to increase the tariff on processed palm oil imports. Indian refineries complain that inverse duty structures in Indonesia and Malaysia make the import of refined palm oil cheaper, idling domestic refineries, while promoting trading businesses. Indeed, the Indian sector has faced significant financial pressure, including downgrades by credit rating agencies. “Eight edible oil refinery projects, including four large ones, scheduled to commence commercial production in FY2014, have either deferred their plans or reduced operating capacity. Reason: unfavourable duty structures, which make the business unviable. Precisely because of this reason, investments worth Rs 147 crore (USD 23.8 million) are stuck in various refinery projects across India… the Indian government narrowed the differential tax between CPO and RBD palmolein to 5% from the earlier 7.5% through a levy of 2.5% import duty on CPO. For a sustainable refining business, the differential duty should be at least 12.5% by taxing RBD palm olein more” (27 July 2013, business-standard.com). India imports around 60% of its 16.5 million tonnes of annual edible oil needs from Malaysia and Indonesia. Domestic production of oilseeds has been relatively stagnant. The Solvent Extractors Association reports that palm oil consumption is 7 million tonnes, nearly 45% of total India edible oil used. Liberia investor hiccup On 8 July 2013, Equatorial Palm Oil (EPO) issued a default notice to Biopalm Energy Limited, part of the Siva Group of India. The company warned that “Biopalm's failure to honour its (investment) Commitment” should result in dilution of Biopalm’s share in Liberian Palm Developments Limited, (held 50/50 by EPO and Biopalm) and damages. Alternative financing was apparently secured. Subsequently, EPO is reported to seek arbitration in its JV dispute (14 Aug 2013, StockMarketWire.com). A social land dispute problem in EPO’s Grand Bassa concession is also in the news. A required GPS resurvey of the area has resulted in protests by local residents. Over 250 employees, including expatriates have been sacked, and the company is said to contemplate a pull out from the 34,500 acres. The district youth council ordered EPO to halt its extension program (14 Aug 2013, New Dawn). These are setbacks for EPO’s Liberia plantation. Its total concession area is some 170,000 ha. Liberia is the centre of large scale oil palm FDI projects in Africa. Projects have been frequently held up by land disputes. The other key players in Liberia are Sime Darby and Golden Veroleum / Golden Agri. Siva Group’s 1 million hectare target Siva Group is run by an ambitious serial technopreneur based in Chennai. It says it targets 1 million hectares of palm oil. Beginning as recently as 2010, it is reported to have committed USD 200 million in the sector in West Africa, Indonesia and Papua New Guinea. By mid-2012, Siva has acquired a mix of investments, including two listed companies, Feronia Inc (8.6%) and Equatorial Palm Oil (26.7%); and it had minority interest in companies with 200,000 hectares of concessions. Siva reported a directly held 200,000 hectare green field project in Cameroon, and advanced negotiations on 200,000 hectare in Cote d’Ivoire. The investment hiccup over the Liberia project is a noteworthy development. Frontier India Malaysia 

end uses _______________________________________________________________________________________________ 4 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports Bread & oilfields Green specialty chemicals are derived from either vegetable oils or sugars. Its usages are mainly as surfactants and lubricants. Of late, its oil field applications, especially in shale gas, has been getting a lot of attention. Surfactant is the scientific word for soap, at its most basic. They are used in formulated products to provide performance. They are made from oleochemical (natural) and/or petrochemical (synthetic) raw materials. US surfactant production is based on 60% oleochemical and 40% petrochemical feedstocks. The basic oleochemical feedstocks are seed oils - palm and coconut – as well as tallow. The largest end use market for surfactants is household cleaning detergents. These are comprised of large volume, lower priced laundry and dishwashing detergent commodity products2. “Specialty surfactants” are higher-priced, low-volume products used in a broad range of industrial and personal care market applications. Key uses of specialty surfactants (1) Food processing: bakery products, dairy products (ice cream, whipped cream, margarine), shortenings, salad dressings, peanut butter, cake mixes, bread. (2) Oilfield chemicals: In combinations with other ingredients in formulated oilfield chemical additive products. Source: Rust & Wildes, 2008. The US food processing industry is the largest market for specialty surfactants. About 60% of surfactant use is in bakery goods, the largest food processing use; as emulsifiers, dough strengtheners, crumb softeners and texturizers to improve mouth-feel. Dairy products 2 The household detergent market uses nearly half of total surfactants. The personal care market includes bubble baths, hand soaps, shampoos and toothpaste. Here, wipes are a faster growing and higher margin niche area, with surfactants growth at 5-10% per year. The personal care area requires significant effort at innovation, particularly in skin and hair care. Interest in more environmentally friendly and natural products drives new surfactant product development. such as ice cream, whipped cream and margarine use surfactants to form stable emulsions. Other key uses include shortenings, salad dressings, peanut butter, cake mixes, toppings and breads. This segment is mature, with food and beverage demand set to grow 1.5% per year alongside population growth. Surfactant use in these applications may grow at about 3% per year, due to increased demand for processed and pre-prepared foods that often contain specialty surfactants. “The use of surfactant combinations with other ingredients in formulated oilfield chemical additive products is also a growing trend. Tighter environmental regulation is forcing the use of less invasive products that have lower volatile organic compounds (VOCs; said to have compounding long-term health effects), are less flammable, are biodegradable and reduce the large volumes of water required to recover and refine crude oil and natural gas.The use of oleochemical feedstocks has historically been significant - usually based on tallow, tall oil and lignin, a paper process by-product. To a lesser degree, vegetable oil feedstocks have also been used in drilling fluids and corrosion inhibitors.” “One thing that is common in the surfactant industry is concern for the environment…. This concern ranges all the way from the impact of crude oil supply and demand to the environmental impact of chemicals, energy usage and conservation of resources. The high cost of petroleum feedstocks, demanding environmental pressures and a growing demand pull for renewable-based feedstocks to reduce oil imports have all become drivers for the surfactant producers to develop more natural products.” Excerpts from: “Surfactants, A Market Opportunity Study Update,” (December 2008, Rust and Wildes). CSPKO premium jumps Certificate prices for RSPO’s Certified Sustainable Palm Oil (CSPO) traded on Green Palm’s online system (for book and claim) have been sub-USD 3 per MT equivalent for many months. In contrast, the price for RSPO certified sustainable palm kernel oil (CSPKO) has been rising smartly since around September 2012. In recent weeks, it has climbed back above its early 2010 trading price of about USD 15, and it has exceeded USD 20. Khor Reports interviewed supply-chain specialists to understand these trends. Buyers of PKO certificates, are primarily home and personal care manufacturers. The volume of PKO trading has picked up significantly since around September 2011. Price started to rise subsequently, notably from September 2012. Based on simple supply and demand dynamics, the demand for CSPKO is rising (some estimate +7% for 2013) but supply appears stable at about 0.9 million; resulting in demand/ supply ratio at 1.07 (assuming EU and US demand is fully converted to sustainability, generally due 2015). The availability of physical supply-chain for RSPO certified sustainable PKO (as an alternative to online trading) is lacking. This adds to the supply-demand balance in the favour of producers for GreenPalm trades. Most palm oil mills do not crush theirs kernels onsite. The kernels are sent to 3rd party crushing plants where the product will inevitably be co-mingled with non-certified palm kernels. Thus, the supply of segregated and mass-balance CSPKO is compromised from the start. Combine this with the complex nature of PKO end uses: in home care products, cosmetics or confectionary. The physical supply chains are struggling to get going. GreenPalm is the only option for many buyers 3 . In contrast, the demand/supply ratio for CSPO looks to be about 0.75 i.e. excess CSPO on conversion of EU and US demand. 3 Unilever will be investing EUR 69 (USD 52) million in a new palm kernel oil processing plant in Indonesia. This will help in its effort to have fully traceable certified sources by 2020. Unilever reports that it is “also actively considering similar joint venture investments in processing crude palm oil derivatives in South East Asia, India and West Africa” (company Annual Report 2012) Certification Specialty chemicals 

sustainability _______________________________________________________________________________________________ 5 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports After Haze A bad start to the 2013 season for the Sumatran peat smog hazard (“The Haze”) for Southeast Asia has once again raised negative attention on the palm oil sector. A recent study by CIFOR used a remote sensing landuse mapping approach (looking at actual field configurations instead of concession boundaries). It concludes that an overwhelming 79% of all fires occurred on small and medium holdings. Thus, several reports find that burning on larger plantations is the lesser of the problems (11%, according to CIFOR), suggesting significant improvements on new land openings by major estates over the years. Indonesia laid early suspicion on foreign plantations, but several companies which are members of the Roundtable on Sustainable Palm Oil (RSPO; led by WWF and Unilever whose grower sector is dominated by large plantations) acquitted themselves by providing their relevant concession map and accounted for any fire hot spots in their areas (mostly due to local or farmer activity). The segment of concern is the small and medium landholders, who sell their raw palm oil fruit to refiners. To environment-sensitive buyers, the supply chains of some of the largest palm oil companies are likely still exposed, as they buy in crop from other growers, including farmers. Wilmar has come out to say that it will exclude from its supply-chain any suppliers linked to peat fires. This will likely be an interesting challenge for a large supply- chain company to execute and all eyes will be on their effort to do so. At the meeting of the Sub-Regional Ministerial Steering Committee on the haze, 15-17 July in Kuala Lumpur, Singapore’s Environment and Water Resources Minister, Dr Vivian Balakrishnan advocated making digitized land-use and concession maps publicly available. However, Indonesia and Malaysia had their reservations on this. One reason for Indonesia’s reluctance may be due to the discrepancies between maps. The Indonesian Environment Minister Balthazar Kambuaya set a tentative target for Indonesian ratification of the ASEAN Agreement on Transboundary Haze Pollution by early 2014, dependent on Parliamentary agreement. Indonesia is the only remaining ASEAN member country yet to sign the agreement. The last time it went up for ratification, in 2008, it was strongly rejected by MPs. “The meeting thus settled for sharing of the maps at a government-to- government level upon request, but this remains subject to approval from the leadership...” (interview with Dr H Varkkey, July 2013). RSPO and RSPO+ What next for palm oil sustainability? While the RSPO has been a useful tool for some large plantations, who have used it to maintain market access to the large global brands, Khor Reports thinks that the “exclusive” (opposite to being “inclusive”) strategy of the RSPO may have reached some sort of limit. While a handful of RSPO growers have been cleared on illegal burning accusations, there have been limited efforts to address the small and mid-sized estates and smallholders (and poor trickle-down of sustainability practices). Is the RSPO core strategy and that of other “RSPO plus” efforts too exclusive in nature? The latter is exemplified by the Golden Agri-Nestle-TFT-Greenpeace deal and its formalization in the Palm Oil Innovation Group; joined by a few niche palm oil producers competing on sustainability, as well as the WWF (in an apparent thumbs-down to its own RSPO effort?). Smallholders are only starting to get more attention. RSPO’s Roundtable 11 will be held in November 2013 in Medan, Indonesia. The Roundtable will focus on the revised Principles & Criteria (RSPO Standard 2013). Its format shifts back to facilitated sessions, but the growing size of the RSPO membership (over 1,300) makes it more unwieldy. However, attendance remains relevant, especially since electronic voting is unavailable. In the meantime, the RSPO secretariat will see some new faces on recent job shifts. More worker power? One of the added criterion that have been receiving much scrutiny from stakeholders is Principle 6, which aims to ensure that RSPO-certified palm oil has not be produced through land grabs or with human rights violations, including forced labour. Companies are required to conduct a Social Impact Assessment every two years, in consultation with the community and workers. A mutually agreed and documented system for dealing with grievances and complaints must be implemented. Growers and millers must adhere to minimum wage rules and provide acceptable living standards for their workers. Companies are not allowed to be involved in forced or child labour. Workers are also free to form unions, and companies must engage with these associations. This will be driven by a new Working Group on Human Rights. Business practices in labour rights may have to evolve for this. Migrant labour is a key concern. We look at what Apple had to do - reimburse contract workers for any unfair brokerage fees. "Companies need to provide remedies. Apple (came) to grips with the vulnerability of migrants in its Asian assembly, by demanding their suppliers reimburse a total of USD 13.1m... paid (to) unscrupulous labour brokers to get a job... Companies are required under the UN guiding principles to remedy human rights abuses to which they contribute..." (30 May 2013, guardian.co.uk). Human rights Certification Peat fires 

feature _______________________________________________________________________________________________ 6 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports USDA forecasted +9% output & stock build up 2013/2014 The USDA forecasts 2013/14 palm oil production in Indonesia at a record 31.0 million tons, up 2.5 million or 9 percent from last year. It says that the “total area devoted to oil palm plantings is estimated at a record 10.8 million hectares, with mature “harvested” area at 8.1 million hectares. Mature area is forecast to increase roughly 6% compared to last year, or 430,000 hectares…. The rapid expansion of oil palm plantations in Indonesia has apparently been unhindered … by the 2011 “forest moratorium,” which restricted the issuance of new permits for land development in protected primary forest and on peat lands for a period of two years… Total area estimated to have grown an average 630,000 hectares per annum between 2011 and 2013… (compared to about) 500,000 hectares per annum over the previous 10 years” (26 Jun 2013, usda.gov). The USDA expects “a slowdown in exports by about 1.25 million tonnes in MY 2012/20134, resulting in 19.7 million tonnes of exports overall. In MY 2013/2014, exports are expected to rebound to 1.3 million tonnes with overall export levels approaching roughly 21.0 million tonnes… (Thus,) ending stocks of palm oil are expected to significantly increase from 2.5 million tonnes in MY 2012/2013 to 4 million tonnes in MY 2013/2014” (28 Mar 2013, usda.gov). But key growers report weak output Company-specific data suggests that 2013 palm oil production in Indonesia may not be as strong as expected. In recent results announcement, Golden Agri Resources said that its fresh fruit bunch (FFB) production dipped by 2% YoY in 4 The USDA says that palm oil exporters face a number of demand driven and regulatory challenges… a) More stringent quality and sustainability criteria; b) The enforcement of tariff and non-tariff trade barriers in major export markets, and c) Indonesia high palm oil export taxes, which make Indonesian palm oil products more expensive when compared to equivalent Malaysian products in traditional market such as India, China, Pakistan, and Europe. 1H2013, mainly due to an 11% fall in plasma smallholder output; output in Sumatra, Papua and Jambi were weak due to dry conditions in June. IndoAgri’s FFB production fell 11% in the same period, due to soft output in South Sumatra, and more stringent quality controls pushing down external purchases. Wilmar International reported FFB production +1% YoY. Lacklustre growth was attributed to the dry weather in Kalimantan and Sumatra and a low crop trend in Sarawak. In contrast, BW Plantation reported a 20.1% increase in FFB production. Its landbank is in Kalimantan. Palm oil watchers watching for more crop production indicators. The country lacks a central, transparent and timely reporting system, akin to the Malaysian Palm Oil Board (MPOB), so developments in Indonesia are more difficult to track. Domestic palm oil use grows 8.8% per year Indonesian domestic consumption of palm oil has risen by an annual average 8.8% over the last six marketing years (MY). USDA forecasts a continuation of this growth, “resulting in an estimated 8.5 million tonne domestic consumption level in MY 2013/14,” or 27.4% of its forecast output. “Crude and RBD Olein are mainly used to produce cooking oil. Food manufacturers largely use stearin, both crude and RBD to produce other palm oil-based food products such as margarine and shortening. While food uses continue to account for the majority of palm oil consumed in Indonesia (62% in MY 2011/2012), the percentage of food use has dropped in recent years… the percentage of industrial consumption (to include livestock feed) has reached roughly 38% of total local consumption. The local biodiesel industry accounts for the majority of the growth… followed by feed uses… the current trends in Indonesia’s local consumption of palm oil will remain fairly static over the next two MY. Food and industrial uses of palm oil, therefore, is expected to reach 5.27 and 2.98 million tonnes respectively in MY 2013/2014” (28 Mar 2013, usda.gov). Indonesia’s large consumer sector fuels its growth Many reports talk about domestic consumption as the main engine of Indonesia's recent economic growth; with this sector accounting for about 65% of current growth. Indonesia has a big population of over 240 million that is becoming richer, boosted by buoyant commodity sectors since the early 2000s. “Some 90 million Indonesians will join the consumer class by 2030—more than in any emerging nation save China and India. For consumer companies, that will mean an additional USD 1 trillion in annual spending. Already, Indonesia’s consumer spending (at over 60% of GDP), is closer to levels in developed economies than to the corresponding figures for neighboring, largely export-driven nations such as Malaysia and Thailand… The food and beverage sector is forecast to grow at 5.2% cagr 2010-2030 and hit USD 194 billion of sales by 2030… While sixty percent say they prefer local brands (quite strong across the food and beverage categories)… Indonesian consumers do not seem well aware of brand ownership, so multinationals are not disadvantaged” (April 2013, McKinsey). Indonesia consumes Hectarage rises but output stutters. Robust domestic consumption. Key consumer companies. 

feature _______________________________________________________________________________________________ 7 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports Key consumer companies Indonesia’s has a large youthful population. Together with rising per capita GDP, the food and drinks sector is fast expanding. The major player in this sector is the Salim Group, Indonesia's biggest conglomerate. Indofood Sukses Makmur is a key company in its stable. It produces all sorts of food products including seasonings and snack foods. It is the biggest maker of instant noodles in the world. In addition to enjoying robust growth serving Indonesia's consumer force has, it has looked to foreign markets including China to sustain growth to achieve its targets. Another major Indonesian player in this sector is Mayora Indah. It makes biscuits, candy, chocolate, coffees and it has a healthy foods segment. The third major public-listed company is Unilever Indonesia; the global giant has been operating in Indonesia for some 80 years (since 1933). Unilever Indonesia’s rapid growth throughout the years, set it up for a record turnover of Rp 27.3 trillion (USD 2.73 billion) in 2012, +16.3% YoY; with net profit +16.3% to Rp 4.8 trillion (USD 0.48 billion). 73% of its net sales were in home and personal care (53% for Unilever’s global revenue) and the rest in food & refreshments. Unilever Indonesia stands apart from the two Indonesian food makers and its peers in Pakistan and Nigeria, with its higher profit margins, in large part due to its large non-food segments. “Analysts assume that this year's revenues in the consumer goods industries (including tobacco and pharma) will climb between 10 and 15 percent, while net profit should increase 20 to 22 percent. It means that its performance is expected to be a little bit less compared to last year. Issues that should have an impact on this year's results are the country's higher minimum wages and increased energy prices” (10 May 2013, Indonesia-investments.com). Note: It is hard to compare the two Indonesian food & drinks companies with Unilever Indonesia – more a cosmetics & household products company. For the latter, we present key data and ratios for Unilever plc and its Nigeria and Pakistan units for comparison. These two units and Unilever Indonesia account for almost 10% of Unilever global sales). It is worth noting that in the retail sector, Indonesian government regulations impact sector evolution. “The evidence suggests that Indonesians are moving toward modern global purchasing and consumption patterns, but more slowly than in some comparable countries. Barriers to foreign and domestic commerce, affecting the development of modern food retail supply chains, are important constraints on food market change in Indonesia…(and) growth in imports” (June 2012, usda.gov). Earnings results announced in early August for three Singapore-listed large plantations groups has set the tone for poor earnings expectations for the sector. In 2013, plantations face lower prices and cost increases, including minimum wage hikes. Wilmar International’s plantation and palm oil mills segment saw pre-tax profit dropping 34% YoY to USD 52.7 million on lower CPO prices during the quarter. However, other businesses reported improved performances to offset this. Its downstream palm and laurics business, the largest earnings contributor, reported 40% increase in pre-tax profit to USD 224.5 million, boosted by higher volumes and lower feedstock costs. Elsewhere, the oilseed and grains business turned a profit this year, a reversal from losses reported in 1H2012, while the sugar arm also reported lower losses. Overall, net profit was up 87% YoY to USD 218.5 million while earnings excluding non-operating items were up 42% YoY to USD 245.4 million – though still below market expectations. Weak CPO selling prices will hit harder companies with greater dependence on upstream plantation business such as Golden Agri. The latter is the world’s second largest oil palm plantation company in terms of planted area, which totaled 464,580 hectares at end-June, after Sime Darby. It reported a steep decline in its 2Q2013 earnings. Revenue was up 25.4% YoY to USD 1.68 billion, boosted by new refinery capacity. But the downstream operations were insufficient to offset sharply lower earnings from the plantation business. Net profit fell 58% to USD 45.3 million, down from USD 108.1 million QoQ. IndoAgri’s FFB production declined 11% YoY in 1H2013. Demand for products from IndoAgri’s edible oils and fats division (mainly cooking oil, margarine and coconut oil) was unexciting. Sales volume fell 6.1% YoY to 397,000 tonnes in 1H2013 but there was a 13.3% YoY increase in EBITDA with better margins, as feedstock costs declined. Thus, EBITDA margin improved from 5.3% in 1H2012 to 7.4% in 1H2013. “We expect to see quite a bit more downward revisions to earnings forecasts for (Malaysian) plantation companies. Share prices for Bursa-listed plantation stocks have, by and large, outperformed their Singaporean peers, so far this year. As such, valuations have remained at a significant premium, estimated at around 40-50%,” says InsiderAsia. “Investors will be looking to clues on price direction going into 2014. Most market analysts are still expecting a price recovery next year – and higher CPO prices have been baked into earnings forecasts”5. In an otherwise rising cost environment, the recent breakup of one of the world’s two potash cartels is expected to lower fertilizer prices by 25%. Fertilizer accounts for roughly one-third of production costs for plantations, and savings here could partially offset weaker CPO selling prices. Note: With excerpts from InsiderAsia Report, 12 August 2013. 5 Most analysts expect CPO prices to step up YoY. For instance, with CPO price estimate of RM 2,500 for 2013, RM 2,700 may be expected for 2013. Plantations earnings crunch? 

prices & outlook _______________________________________________________________________________________________ 8 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports - 200 400 600 800 1,000 1,200 1,400 1,600 1,800 2,000 Malaysia PO futures (1st contract) + adjt Khor Reports' Price Expect. Survey (n=15)+adjt @21 Aug Dorab Mistry @22 Mar James Fry @6 Mar Oil World @21 June Chicago soybean oil futures (1st contract) + adjt Rapeseed Oil; Crude, fob Rotterdam Brent crude, light blend, fob UK Palm, soy & rapeseed oils and Brent crude with key price outlook views Indicative monthly prices for NW Europe (USD/mt) USDA trims US soy, raises outlook for others The US Department of Agriculture (USDA) released its demand and supply projections for vegetable oils mid- August. Due to excess rainfall hurting yields, USDA trimmed its forecast for US soybean production for 2013F/2014F by 4.7% from 3.42 to 3.26 billion bushels. US soybean stock estimate was reduced by 25.4% from 295 to 220 million bushels. The USDA notes that “global soybean stocks remain record high”. Global oilseed production for 2013/14 is now projected at 493.1 million tons, up 0.2 million tons from last month’s estimate. Increased output for rapeseed, sunflowerseed, peanuts, and palm kernel production is expected to offset reductions for soybeans and cottonseed. Lower projected US soybean production is partly offset by increases for India with higher harvested areas trumping reduced yields. Rapeseed production is raised for Canada and the EU (good moisture and temperatures in July boosts yield hopes), as well as China and Ukraine. Sunflowerseed production is also raised for the EU and Ukraine (12 Aug 2013, usda.gov). ENSO neutral, Malaysia drier spells, Indon avg? On 13 August 2013, the Australia Bureau of Meteorology reports that the El-Niño Southern Oscillation (ENSO) “clearly remains in the neutral phase despite some indicators (e.g. eastern Pacific sea surface temperatures, Southern Oscillation Index (SOI), and cloudiness near the Date Line) approaching La Niña thresholds at times in recent months.” The Australian checks on climate models “indicate further cooling of waters in the tropical Pacific is unlikely. Hence, the current ENSO-neutral conditions are expected to continue through the austral spring and into the southern summer.” Jabatan Meteorologi Malaysia (JMM) reports for the June-July period, average to drier rainfall in the southern peninsular zone, Sabah’s east coast having average to wetter conditions and western Sarawak having average precipitation for the season. JMM expects normal rainfall conditions during September and October 2013 for Peninsular Malaysia, with drier weather in the central region and southern states; in southern Pahang to Johor with rainfall between 20-40% below normal levels. In western Sarawak, similar dry conditions will affect Sibu, Sri Aman, and the interior areas. JMM says this could result in fire incidents in forest peat areas. Eastern Sabah is also expected to face relatively dry conditions for this period (access 16 Aug 2013, met.gov.my). After relatively normal weather in 2012, Indonesia is experiencing a wet dry season in 2013. However, companies have noted dryness as affected current output. The Indonesian Meteorology Agency (BMKG) forecasts mostly average rainfall conditions with wetter areas (116-150% above normal) in the main oil palm growing zones in Sumatra and the southern-central Kalimantan for September and October 2013. Bearish short & midterm, longterm neutral The technical view by 4-Traders.com points to a neutral longerterm with price range USD 671-904 (RM 2,199- 2,963). In the short and mid-term, the expected range is USD 701 to USD 728- 738 (RM 2,297 to RM 2,386-2,419). Technical analyst, Benny Lee sees BMD CPO futures (FCPO) with support at RM 2,220 and resisitance RM 2,550 (USD 677-778). This is in a price consolidation since 2011 after a bullish rally to RM 4,000 (USD 1,220)). He points to a cycle pattern that suggests we may now be in a 7-8 months correction. Price will be pressured. This may end in Jan-Feb 2014, with a price climb toward RM 2,900 (USD 885) by year end, to give an average price of RM 2,600 (USD 793) for 2013. Lee points out that the above view holds if price stays above RM 2,250 (USD686; July 2013 at MPOC Pointers). Note: The recent forex rate is USD 1 = Ringgit 3.2775; a range of about 2.98 to 3.20 had held mid 2010 to mid 2013. Very recent developments including the USDA trimming US soy estimates helped raise CPO prices from late July lows (FCPO dipped to RM 2,184 / USD 666 on 30 July 2013). Based on current price of RM 2,349 / USD 717, the price discount between soybean oil and CPO widened to 27.5%, versus the average of 17.4% for June. The price discrepancy widening is also partly due to the depreciation of the Ringgit against the USD. The Indonesian Rupiah has also been weakening. Bloomberg reported palm oil inventories at China’s major ports were 1.14 mill tonnes at 12 August 2013; up 140,000 tonnes from the previous week. In the prior two weeks, stockpiles dipped below one million. Khor Reports’ CPO Price Expectations Survey* found the average at RM 2,298 / USD 701. * Our mini-survey asks “What Malaysia CPO price do you base your expectations on for 2H2013?” Next survey: Feb 2014. Key vegetable oils Chart: Prices & CPO price expectations Weather outlook CPO technical view 

supplement: trade _______________________________________________________________________________________________ 9 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports Loss of GSP status It was announced in 2012 that Malaysia would lose its Generalised Scheme of Preferences (GSP) status in trading with the EU, come 1 January 2014. It has enjoyed a lower tariff when exporting key palm oil products to the EU market. In a range of oleochemical products, Malaysia products entering the EU will be taxed higher (without the GSP); resulting in price disadvantage of about 3 to 7% (interview with specialist, August 2013). Will this boost Indonesia’s prospects in trading with the EU, since it has yet to reach middle-income status? Indonesia will also face higher EU import tariffs on a range of products, because it has achieved EU import market share exceeding 17.5% in a range of products. This triggers the suspension of GSP preferences for two years. Indonesian product areas affected are oils, fats & waxes and chemicals. Overall, Indonesia will lose its GSP on basic oleochemicals. This change leave Malaysia broadly disadvantaged vs Indonesia on specialized oleochemicals, when exporting to the EU. Thailand and the Philippines could gain some advantage in selling In a good market, the margins on basic oleocemicals may range 3-6% and 6-9% on specialty oleochemicals. The loss of GSP will erode margins. Thus, the strategy for downstream businesses is to push for other avenues for cost efficiency, seek geographical diversity in manufacturing centres (those without Europe presence will be more vulnerable; those operating in Europe can look for inward processing tax relief and opportunities to re-export from Europe). Industry players also suggest exploring the Malaysia-EU free trade agreement. TPP to set new standards for Malaysia? Signing on to the Trans Pacific Partnership (TPP) looks like it could be a big move for Malaysia. The US Brookings Institution, a right-leaning pro-TPP think tank, reckons that “U.S. trade negotiators have ramped up their negotiation objectives into a so-called platinum standard that could impose heavy preconditions on accession” (11 Dec 2012, brookings.edu). A new set of rules & standards What is the TPP? It is a plurilateral agreement led by the US to streamline trade and investment policies in 11 other countries, as a precondition for preferential trade agreements. US trade representatives are “seeking agreement on a range of new rules… in addition to (rules on) goods and services, non-tariff barriers, investment and intellectual property, the United States is seeking to include new rules on regulatory coherence to reduce trade barriers arising from unnecessary regulatory diversity among TPP member countries…. (and) rules on state-owned enterprises in order to discipline (their) trade distorting impact… A rules-based trading system backed by an effective dispute settlement mechanism, which increases market access and the certainty and predictability of international trade and investment, will reduce risk and facilitate… US and global growth.” (16 May 2012, brookings.edu). Motivations for the trade agreements are clearly stated. “The United States needs to establish a broader and deeper economic presence in Asia, the world’s most dynamic economic region. Achieving both a Trans-Pacific Partnership (TPP) and a Trans-Atlantic Free Trade Agreement (TAFTA) is the most realistic way to reclaim US economic leadership and make progress towards (Obama’s) promised goal of doubling US exports… (and) give American and European businesses an edge in setting industrial standards for tomorrow’s global economy” (17 January 2013, brookings.edu). Potential impact on costs International trade experts interviewed by Khor Reports (July 2013) inform us that downstream manufacturing is to be classed a "service sector," which attracts a set of liberalizing policies. Export taxes (which kick-in at higher prices, to calibrate the outflow of unprocessed product) may be banned. Preliminary research on upstream issues points to US policy on the usage of inputs (e.g. required use of patented agrochemicals with patent extensions for each new type of usage). US negotiators are expected to disallow seed storage and swapping (while not an issue for tree crops like palm oil, this is a big concern for others). Specialists point out that the Australian agricultural sector estimated a 14% increase in input costs from a set of US trade proposals. Khor Reports suspects that stronger worker-led unionization efforts could be sought together with improved rights for migrant workers. If signed and depending on terms negotiated and exceptions sought, the TPP could set a wide-ranging set of new standards for the Malaysia palm oil sector in entirety (large corporate planters, small estates and smallholders)? This is the second major voluntary trade standards deal for the Malaysian sector in recent years6. Such agreements tout improved trade access alongside new rules and oversight, with creeping change and inevitable impact on methods and cost of production. Using past US deals as a guide, trade analysts reckon that Malaysia could be in for some significant to “radical” new policies. Other key palm oil producers in the region, Indonesia and Thailand, are not taking part in the TPP negotiations. A mooted October 2013 target date for signing is not achievable according to Malaysia’s Ministry of International Trade and Industry. Apparently, there 6 The first major voluntary deal being the NGO- mediated business-to-business Roundtable on Sustainable Palm Oil (RSPO). This largely affects the trade between giant growers and the big buyers. Creeping change has led to the addition of new rules, including those on greenhouse gases and corruption, on top of core socio- environmental sustainability measures. Malaysia EU trade 

supplement: trade _______________________________________________________________________________________________ 10 | P a l m O i l , S e p / O c t 2 0 1 3 Khor Reports are too many disagreements between the negotiation countries. Farmer protection law In move opposing free marketism in the trade of agricultural products, Indonesia sets a new law with trade barriers, to protect its domestic agricultural and rural sector, by discouraging many agricultural product imports. No doubt food security pundits will find this an interesting move. The expansion of agriculture sector protection and subsidies (long a feature of the big developed markets, especially the EU and the US) has become established in the large developing economies, including China, India and Brazil. WWF commodity specialists note that “China's agricultural subsidies, estimated at USD 160 billion in 2012, now dwarf those in the US ( USD 19 billion) and EU (USD 67 billion) combined. Brazil's agricultural subsidies have doubled in just three years, and now total about USD 10 billion… in India, price supports for wheat and rice grew by 72% and 75%, respectively, between 2005-06 and 2010-11, significantly exceeding those in the US” (8 August 2013, guardian.co.uk). Most economists express concern over the use of subsidies, arguing that they need to be used with precision and with specific cut-off dates Key features of Indonesia’s new farmer protection law^: a) Import duty (Article 26-27): strategic products will be subject to import duty which will be based on local- international price difference and production-consumption gap. b) Selected port of entry for certain imported agriculture products (Article 28-30): Importers cannot use ports in major growing areas; and they are prohibited from importing products produced locally during harvest time or in when local production is in balance with domestic consumption. Violation is punishable with 2-6 years in prison or fines at IDR 2-6 billion. c) Administrative and quality requirement for imported agriculture products (Article 31): Import license, harvest and expiration date, certificate of origin, food safety requirement, quality standard and others. d) The Act mentions that the government is obligated to empower Indonesian farmers by developing agriculture market organized/managed by farmers, group of farmers, and cooperatives. e) Indonesia believes that modern retailers have become the major driver of growing consumption of imported agricultural commodities in Indonesia. Hence, government policy makers are of the view that the expansion of modern retailers must be limited particularly in major agricultural production area. ^Excerpts from: 23 July 2013, usda.gov. FTA with Indonesia Indonesia and Malaysia are set for more market competition over trade to Pakistan now that the Indonesia- Pakistan free trade agreement (FTA) started on 1 September. Indonesia expects the impact of the FTA to be seen by 4Q2013. “The immediate potential [trade] from the agreement in 2013 is around USD 100 million to USD 200 million… (and) an additional USD 1.5 billion to USD 2 billion next year… It’s not only about Indonesia and Pakistan. The idea is to go up, to Central Asia,” Deputy Trade Minister Bayu Khrisnamurthi said. The increased trade will come from the palm oil, garments, paper products, footwear and coal sectors (31 August 2013, jakartaglobe.com). “Pakistan has extended a 15% Margin of Preference over the standard tariff rate to Indonesian palm oil products, similar to what was extended to Malaysian palm oil products under the Pak- Malaysia Free Trade Agreement (FTA). This would help in decreasing prices of vegetable ghee and cooking oil in the country and have a positive impact on the overall economy of the country” (1 September 2013, tribune.com.pk). Pakistan Indonesia