Investors have been ramping up pressure on Brazilian beef producers and the Brazilian government to improve on their poor environmental track record. Momentum seems to be building, as evidenced by recent commitments to more rigorous tracking and reporting standards by these companies and by targeted laws and investments by the Brazilian government to prevent deforestation. If these measures result in real improvements on ESG measures, we see an opportunity for better credit metrics and de-risking in this sector, which may ultimately lead to better returns.
Brazil is the world’s largest beef exporter and the second-biggest producer after the US.1 The three largest players account for around 70% of total beef exports from Brazil,2 and these companies are active US dollar corporate debt issuers. Beef production is environmentally intensive given the demands of feed sourcing, which requires large amounts of land for grazing and manure processing, along with methane emissions from the animals themselves. These factors can exacerbate climate change if not managed in a sustainable way.
In Brazil, grass cattle ranching has been cited as the main cause for the increasing destruction of the Amazon forest.3 In recent years, the big Brazilian producers have been accused of buying cattle from ranchers operating on illegally deforested Amazon land.4 Although the industry has committed to a deforestation-free beef supply chain, the challenge for Brazilian beef producers is that they are not vertically integrated, and therefore they have not had complete visibility through the cycle and over the farmland from which they source cattle, which could include deforested rainforest.
In addition to the negative environmental impact, deforestation creates significant financial risks for Brazilian beef companies and their investors. These risks are operational, reputational, regulatory, and market-driven. As responsible investors, understanding these risks and using our ESG process has been crucial in making investment decisions and applying our risk management framework. We evaluate ESG risk using a weighted scoring matrix, which we continually reassess, and seek to invest not only in companies with strong ESG standards and scores, but also those that demonstrate an improving trajectory on ESG measures.
Maintaining a deforestation-free supply chain can potentially contribute to a company’s competitive advantage in a number of ways. Doing so can strengthen long-term financial stability and provide cost savings by reducing supply chain disruptions. It can also improve relationships with stakeholders and helps mitigate reputational risks while delivering products that better meet the demands of environmentally conscious consumers.5
In our engagement with senior leadership of the big Brazilian beef producers through one-on-one and group meetings over the past several years, we have pushed these companies to commit to setting specific goals. These include 1) time-bound greenhouse gas reduction targets; 2) a no-deforestation policy with strong supply chain implementation; and 3) transparent disclosure of their progress. To the second point, we have encouraged these companies to engage with suppliers suspected of raising cattle on deforested land and to work to enforce deforestation policies. These recommendations are based on guidance from Ceres, a sustainability-focused nonprofit that partnered with the UN PRI to launch the Investor Initiative for Sustainable Forests in late 2017, focusing initially on sustainable cattle farming.6
Due to increasing public outcry from investors, the international press, and Brazilian society, pressure has been mounting on the government and companies to take faster and bolder actions to meet these goals. While we are still in the early days of what may be a transformation of this sector to a more sustainable future, recent events show us that ESG engagement, combined with market and societal forces, is resulting in changes that should help improve environmental outcomes, lower the risk of investing in this sector, and improve the long-term financial stability of these companies.
Companies in Brazil’s beef sector have adopted tighter standards in recent years, though follow-through has often lagged. In 2009, the top four producers publicly committed to excluding ranchers involved in Amazon deforestation from their supplier lists. The commitment – called the Minimum Criteria for Industrial-Scale Cattle Operations in the Brazilian Amazon Biome, also known as the Brazilian Cattle Agreement (BCA) – was drawn up by international environmental organization Greenpeace and Amigos da Terra Brasil.7 The BCA successfully functioned for eight years, and in 2016, for example, the signatory companies reported 99%-100% compliance with the agreement.8 On their face, these statistics were encouraging and suggested that improvements in cattle-linked deforestation. However, most of the BCA’s efforts were directed toward cattle finishing ranches that sell directly to meat processors, with limited influence on indirect suppliers such as breeding and fattening operations, which are more difficult to trace.
The agreement and the industry took a hit in 2017 when the largest beef producer had two of its plants closed due to illegal purchasing.9 The company’s supply chain was found to include ranchers that engaged in illegal deforestation and that had cattle sale embargoes for other legal infractions – both violations of the BCA. Greenpeace pulled out of the agreement following the scandal, although the BCA continued to operate.
These events were a major reputational hit to the company involved and to the sector, leading to calls for greater transparency and traceability in supply chains to enable data verification and to better monitor compliance. Since then, the big three producers have developed individual strategies to address traceability concerns and improve transparency.
The largest producer, according to its 2019 Sustainability report, has made substantial investments over the past 10 years to create one of the largest private supplier monitoring systems in the world.10 This company monitors an area of 450,000 square km in the Amazon, equal to the size of Germany, to guarantee the origin of raw materials sourced from cattle suppliers. It assesses 50,000 farms daily to avoid purchasing animals from properties involved with deforestation of old growth forests, invasion of indigenous lands, and in environmental preservation areas or areas listed as under embargo by the Brazilian Institute of the Environment and Renewable Natural Resources (IBAMA). 10
A 2019 audit confirmed that 100% of cattle acquisitions made by this company throughout 2018 in the Amazonian biome were socially and environmentally compliant. Yet despite these efforts, the company has continued to face criticism that these audits do not adequately monitor indirect suppliers.11 In response to the heightened criticism in recent months, in September 2020 the company announced a program that will leverage blockchain technology to extend monitoring to indirect livestock suppliers.12 The initiative will require suppliers to provide full tracing information by the end of 2025, and the company has also stated that the information will be publicly available. In addition, the company established a fund that it will use to invest in social and economic development and conservation of the Amazon biome, with an initial contribution of R$250 million (US$44 million). The fund will be open to third-party contributions, with a target to reach R$1 billion (US$179 million) by 2030.12
Another of the big three Brazilian beef producers introduced a new plan in July 2020 with a mission to ensure that 100% of the company's production chain is sustainable and free of deforestation over the next 10 years.13 The goals are based on three pillars – cattle origin traceability, engagement of suppliers, and transparency – and are aiming to unfold as follows:
The last of the three big companies systematically monitors suppliers that operate in deforested areas in the Amazon biome or that are on IBAMA’s embargo list.14 Throughout the years, the company has privately monitored more than 8 million hectares of the Amazon biome, blocking more than 2,000 direct suppliers for noncompliance with the adopted sustainability criteria.15 Through this initiative, the company guarantees the integrity of its operations with the sustainable management of its supply chain.
The government has also taken notice. Shifting from a defiant tone to international criticism about widespread fires and deforestation in the Amazon just a year ago, in January 2020 President Jair Bolsonaro revived the National Council of the Amazon, which coordinates and integrates government actions related to the Amazon.15 Bolsonaro also signed a decree to combat illegal deforestation, giving autonomy for the military to implement preventive and repressive actions against environmental crimes.16
In June 2020, investor activism intensified, with a group of 29 foreign investment funds (with AUM of US$3.75 trillion) sending a letter to the government stating that future investment in the country could be jeopardized if better policies to prevent deforestation were not adopted.17 The government responded with a decree that prohibits fires in the Amazon and the Pantanal biome for 120 days, with the goal of reducing deforestation during the drought period, which started in June.18 And in July 2020, a Nordic asset manager decided to divest from one of the big three producers “over ties to farms involved in Amazon deforestation.”19
Following the announcement by the aforementioned asset manager, leaders from 38 large Brazilian companies, including one of the big three beef producers, also sent a letter to the government requiring effective measures to fight deforestation.20 In addition, former central bank presidents, finance ministers, and former President Fernando Henrique Cardoso sent a letter to the government expressing concerns about the increasing deforestation rate.
Concrete actions have followed. In late July 2020, the country’s three largest private banks announced a joint effort to press for and fund sustainable development projects in the Amazon.21 And in August 2020, Brazilian Minister of the Environment Ricardo Salles announced a series of plans that would give critics an opportunity to contribute to a solution. The plans include the creation of investment funds, which should provide about US$250 million in environmental financing, and setting aside 15% of the rainforest for preservation, as well as an “Adopt a Park” program that will allow investment funds and private entities to sponsor the preservation of plots of land for the price of 10 euros per hectare.22 The 15% of the rainforest to be sponsored, equivalent to some 155 million acres, is already split into 132 conservation areas where commercial exploitation is prohibited, but the government has lacked the funds to properly monitor it.23
Finally, in September 2020, a coalition of 230 environmental groups and Brazilian agribusiness companies, including two of the largest Brazilian beef producers, sent a list of proposals to President Bolsonaro to slow the destruction of the world's biggest rainforest, urging him to establish clear policies to "immediately and permanently" address the problem.24
Although Brazilian beef producers have plenty of work to do in terms of improving their environmental track record, the changes these companies are implementing, as well as those by the Brazilian government and Brazilian corporate sector, reveal a shift that could be a powerful force in transforming this sector and improving environmental outcomes in the Amazon.
As these companies evolve and grow, they may have even greater incentives to accelerate this process. Several producers have said they seek to list all or part of their businesses in US equity markets or to attain investment grade ratings – goals that would place the companies in direct comparison with global peers and in an investor universe with a more rigorous ESG focus and criteria. The deeper level of investor and public scrutiny will require concrete actions and greater transparency to address these concerns. If successful, the largest beef producers could be uniquely positioned to exercise their leverage, influence, and control to prevent the entry of illegally grazed cattle into their supply chains.
We have reassessed our ESG scores on some of these companies in light of the recent developments, and have seen improvements in terms of the management teams’ goals and commitment to reducing their environmental impact and in investments directed toward this goal.
We believe ESG risk will decline in this sector if the biggest players make significant progress in deforestation prevention and improving traceability throughout the supply chain, investors enhance their accountability practices, and government policies do more to support environmental protection. The result could be better financing terms, potential credit rating upgrades, and a supportive long-term credit outlook on companies in the sector, all of which can potentially enhance returns for bondholders.
1 Source: www.beef2live.com as of August 2020. Accessed at: https://beef2live.com/story-world-beef-production-ranking-countries-0-106885#:~:text=United%20States%20%26%20Brazil%20remain%20world's,20%25%20of%20the%20world's%20beef.
2 Source: Trase as of December 2017. Accessed at: https://trase.earth/flows/data-view?toolLayout=1&countries=27&commodities=46&selectedColumnsIds=0_22-1_28-2_37-3_33
3 Source: Oeco.org.br as of 17 July 2017. Accessed at: https://www.oeco.org.br/reportagens/os-portoes-do-desmatamento/
4 Source: Amnesty International as of July 2020. Accessed at: https://www.amnesty.org/en/latest/news/2020/07/brazil-cattle-illegally-grazed-in-the-amazon-found-in-supply-chain-of-leading-meat-packer-jbs/
5 Source: PRI as of September 2020: https://www.unpri.org/download?ac=10609
6 Source: Ceres as of September 2020: https://engagethechain.org/investor-guide-deforestation-and-climate-change
7 Source: Greenpeace as of October 2009, accessed at https://www.greenpeace.org/usa/research/minimum-criteria-for-i/ and World Bank LEAVES Program as of December 2018, accessed at https://www.profor.info/sites/profor.info/files/Beef_Case%20study_LEAVES_2018.pdf
8 Greenpeace as of October 2009, accessed at https://www.greenpeace.org/usa/research/minimum-criteria-for-i/ and World Bank LEAVES Program as of December 2018, accessed at https://www.profor.info/sites/profor.info/files/Beef_Case%20study_LEAVES_2018.pdf
9 Source: World Bank LEAVES Program as of December 2018: https://www.profor.info/sites/profor.info/files/Beef_Case%20study_LEAVES_2018.pdf
10 Source: JBS as of July 2020. Accessed at: https://jbs.com.br/en/press/releases-en/jbs-publishes-its-2019-annual-and-sustainability-report/
11 Source: Amnesty International as of July 2020. Accessed at: https://www.amnesty.org/en/latest/news/2020/07/brazil-auditor-calls-out-meat-packer-jbss-use-of-its-audits-to-claim-compliant-supply-chain-in-the-amazon/
12 Source: JBS as of September 2020. Accessed at: https://api.mziq.com/mzfilemanager/v2/d/043a77e1-0127-4502-bc5b-21427b991b22/c316160b-b79a-b2f7-eb7a-a68ce3867100?origin=1
13 Source: Marfrig as of July 2020. Accessed at: https://www.marfrig.com.br/en/sustainability/marfrig-verde-plan
14 Source: Minerva Foods 2018 Sustainability Report. Accessed at: https://www.minervafoodsrs.com/2018/en/environmental-performance/
15 Source: Reuters as of January 2020. Accessed at: https://www.reuters.com/article/us-brazil-environment/brazil-to-create-amazon-council-to-protect-and-develop-the-rainforest-idUSKBN1ZK237
16 Source: BBC as of May 2020. Accessed at: https://www.bbc.com/news/world-latin-america-52595030
17 Source: Reuters as of June 2020. Accessed at: https://www.reuters.com/article/us-brazil-environment-investors/global-investors-demand-to-meet-brazil-diplomats-over-deforestation-idUSKBN23U0L8
18 Source: Reuters as of July 2020. Accessed at: https://www.reuters.com/article/us-brazil-environment/brazil-bans-fires-in-amazon-rainforest-as-investors-demand-results-idUSKBN24A2DV
19 Source: Reuters as of August 2020. Accessed at: https://www.reuters.com/article/us-brazil-jbs-nordea/nordea-drops-jbs-shares-over-environment-covid-19-response-idUSKBN24X3VD
20Source: Reuters as of July 2020. Accessed at: https://uk.reuters.com/article/us-brazil-environment/brazilian-companies-join-call-for-action-on-amazon-deforestation-idUKKBN2482FK
21 Source: Santander as of July 2020. Accessed at: https://www.santander.com/en/press-room/press-releases/2020/07/bradesco-itau-unibanco-and-santander-announces-joint-plan-to-promote-sustainable-development-of-the-amazon
22 Source: BNN Bloomberg as of August 2020. Accessed at: https://www.bnnbloomberg.ca/brazil-wants-amazon-critics-to-put-money-where-their-mouth-is-1.1481242
23 Source: BNN Bloomberg as of August 2020. Accessed at: https://www.bnnbloomberg.ca/brazil-wants-amazon-critics-to-put-money-where-their-mouth-is-1.1481242
24 Source: Coalizao Brasil as of September 2020. Accessed at: http://coalizaobr.com.br/boletins/pdf/Actions_for_prompt_deforestation_halt-BrazilianCoalition.pdf
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