India’s 2010-2011 tobacco crop faces some new and some old challenges. And tobacco farmers, who were more than satisfied with earnings in recent years, have been brought down to earth with a bump as disinterest at auctions spurred by a larger than usual Mysore crop and stiff competition from overseas saw opening prices at Andhra Pradesh (AP) failing to meet expectations or production costs.

Unseasonal rains affected production in AP this season, destroying an estimated 30 million kg of tobacco. The final harvest unusually came in very close to the authorized crop of 170 million kg, although the quality of the tobacco produced is much higher than it has been in recent years. 

Traders are in agreement that the grading of tobacco that has been brought to auction this year is superior to that of recent years, due to pressure from the Tobacco Board and the Central Tobacco Research Institute (CTRI) helping farmers to educate themselves and utilize scientific grading processes. 

“There is a need for scientific grading, and the farmer has learnt the art,” according to Tobacco Board chairman G. Kamalavardhana Rao, IAS. “Farmers are now aware of the importance of identifying moisture content, texture and blemishes in the leaf. Fortunately a lot of bright tobacco has been produced both in Southern Light Soils (SLS) and Northern Light Soils (NLS) this year, which has encouraged the farmers to follow good grading practices.” 

Another factor encouraging better grading practices is that “the arbitrage between higher and lower grades is more pronounced this season than in recent years when the prices of high and low grades were very similar,” according to an industry commentator.

Tobacco auctions in AP resumed in early April after being suspended for 10 days as farmers boycotted the auction floors in protest at lower opening prices being offered, thanks to the intervention of the Tobacco Board which initiated dialogue with all concerned parties and finally established higher opening prices in line with the farmer’s demands after securing the support of domestic buyers such as ITC and Godfrey Philips and representatives of local and international leaf dealers.

Farmers had been staging a hunger strike outside ITC, seen as a pivotal player in the market as it is largest buyer of Indian tobacco every year for its domestic use and for export, demanding higher opening prices before they would return to the auction floors with their tobacco.

“Farmers have been investing increasingly in fertilizer, labor and so on in every hectare in NLS and SLS, and they can see that they are not being compensated sufficiently at the prices earned early in the season,” according to Tobacco Board chairman  Rao. “Many lost money last year despite higher prices paid for tobacco due to high input costs. So we are reaching out to the domestic buyers and asking them to help support the production base this year. ‘Every year you have been buying from the farmers: this year, you buy for the farmer’ has become this year’s rallying call.”

It is clear that the rapid price rises seen in recent years appear to have tailed off, with opening prices for the best grades standing at around Rs112 (US$2.47).

Andhra Pradesh tobacco farmers, who were becoming used to upwardly spiraling income in 2008 and 2009, thanks in part to interest from overseas buyers responding to shortages in the international market, have seen their earnings eaten up by higher input, labor and lease costs, and had been demanding a higher minimum opening price of Rs121 for the higher grades.

Compounding the problem the farmers were facing was the fact that the Mysore crop was significantly larger than usual but attracted less demand. The ongoing tobacco auctions in Mysore actually overlapped the opening of auctions in Andhra Pradesh, contributing to the lower opening prices at AP auctions as there was still a backlog of unsold tobacco available in Mysore.

“Mysore produced a very big crop this season,” clarified an industry spokesperson. “Mysore was authorized to produce 100 million kg, but it actually grew 135 to 140 million kg. Unfortunately, demand was far lower than in 2009. In 2009 it was a smaller crop. Now we are seeing lesser demand for a larger crop.” Other than domestic manufacturers, observers noted that there has so far been a sluggish response to this year’s crop from overseas buyers. The issues with AP’s tobacco auctions have not helped boost confidence.

 “Closed auctions added to the concerns for traders and farmers,” complained one trader we spoke with. “So far this year, we have received few orders and the number of inquiries so far has been much lower than in previous years. He said, echoing the concerns of many other traders in Guntur, India’s “tobacco capital”. 

A bumper crop in Brazil this year, together with pressure from a resurgent Zimbabwean harvest and competition from other producing nations such as Argentina, have all put pressure on prices, despite an estimated domestic yield of higher than usual quality tobacco that is expected to come in very close to the authorized crop agreed on in 2010.

“Were it not for the untimely rains that affected much of the crop, it is likely that we would be experiencing around 30% over-production above the authorized crop,” a Guntur-based tobacco trader told Tobacco Asia.

But while the rains affected the volumes produced, the quality of India’s tobacco crop this season has improved considerably.

“The unseasonal rains caused a lessening of the crop, there is not a large unauthorized crop anticipated,” confirmed another trader. “Overall, the quality is very good, even though the yields are low. This season’s crop has higher levels of sugar – in a filler tobacco, this is a good thing, of course. The tobacco also has low nitrosamine levels, which positions it favorably against other exporting nations’ offerings.”

“This year, we have harvested a good quality crop, although it was smaller than last year’s which was abnormally high but produced a greater amount of lower quality tobacco,” according to an industry spokesman.

Another factor affecting this year’s crop production in Andhra Pradesh was the decrease in average prices paid for tobacco in 2010 compared to 2008 and 2009 which persuaded some farmers to migrate to other competitive crops.

While tobacco exports remain very much of concern to both the Tobacco Board and to traders, the focus of farmers is very much the domestic market (see related report on India’s white stick market on page 38), there are concerns being aired as to supply continuity going forward. If farmers are to continue planting tobacco, then they need to see a profit arising from their efforts. So, the thinking goes, the domestic buyers, meaning players such as ITC and Godfrey Philips, need to step up to the plate and support the agricultural sector by paying fair prices and ensuring the stability of production.

“The farmers are demanding better prices and more procurement by ITC,” clarified Rao. “India has its own filler market, cigarette companies require filler tobacco for the products they sell in the domestic market. So to ensure a consistency in supply and quality, there has to be a consistency in the price paid to the farmer to sustain the viability of India’s tobacco crop. So what was needed was an agreement on a better price paid by ITC going forward, and that is what we managed to achieve in our negotiations. The farmers are now happy with the promise of Rs124/kg for the high grades of tobacco, particularly as this season the ratio of high grades to lower grades has increased considerably over last year.”

Of course, the benchmark for opening prices for the AP auctions does not constitute an absolute requirement to purchase at that price and no lower; market forces are still going to be the deciding factor in what buyers will actually pay for the tobacco on offer, but there is a keen awareness that the industry must support the farmer by paying a reasonable price for the tobacco it needs if it expects to ensure adequate supplies going forward.

Noting the 10-year cyclic nature of India’s tobacco crop and pricing issues, some commentators have suggested that India may be heading for another crop holiday if sales remain sluggish and unsold inventories mount.

However, a repetition of the crop holiday experienced in the early part of the century is unlikely to occur, according to local industry commentators.

“The domestic market will not support a crop holiday,” said another Guntur-based tobacco trader we interviewed. “The domestic market demands a consistent supply of tobacco of a certain quality, and farmers are geared up to supplying this requirement. The issue of concern to farmers is the price paid for the tobacco needed by domestic manufacturers. I am sure the domestic market will respond favorably to the situation as it is as much in their interests to ensure adequate supplies of suitable tobacco to meet their manufacturing requirements going forward as it is in the farmer’s interest to ensure he is paid sufficiently for his tobacco to persuade him to continue planting. In short, the domestic manufacturing sector has to support the market.”

Exports are also a key factor that mitigate against a crop holiday.

“A crop holiday would seem an unlikely scenario,” we were told by an industry spokesman. “The industry is more integrated into global markets than we were before – everyone in the industry needs to synchronize crop and pricing into the global scenario. If one is just looking at one’s own crop then it may seem a possibility, but globally exports have been increasing. There is a threshold level for pricing that we cannot push, otherwise other filler markets become more competitive. If we keep within the price parameters, there is a good potential going forward.”

And according to our sources, prices for Indian tobacco this season will probably suffer from fewer fluctuations than in recent years as buyers appear to be adopting a more sober frame of mind. There is a prevailing belief amongst Indian suppliers that international buyers need to adopt a more pragmatic approach to sourcing tobacco from India. “Stability in prices is not just in the hands of the [domestic] industry, we have to look at supply side factors and demand size,” according to one trader. “Crop sizes elsewhere have massively increased, and this is beyond the ability of the domestic industry to control. International buyers will be looking at the most competitive supply. But they should also take a more pragmatic attitude and not give in to a knee jerk reaction on prices. India has proven to be a reliable and consistent supplier so it is important to consider the overall picture.” 

Price notwithstanding, Indian tobacco will be available for export in 2011 and beyond as exports are expected to remain a critical component of India’s tobacco production for the foreseeable future.

India has been developing other niche markets, in the RYO and chewing tobacco segments, for example - ITC-ILTD has been developing these markets over recent years, and the results are starting to become evident

“This year the higher quality of tobacco produced is of interest to Middle Eastern buyers and the RYO segment,” we were told. “Looking beyond cigarettes there are other areas that are showing promise. With the decline in traditional sourcing markets, such as Europe, we are identifying areas and styles most suitable for niche requirements such as snus, trying to identify styles of interest to shisha buyers and looking at other process that can supply a product that is competitive and offers an alternative supply from conventional sources.”

But it is primarily as a supplier of filler tobacco that India has carved a niche for itself among international manufacturers.

 “Last year, 60-70% of some farmers produce was of low grade, and they had trouble getting good prices,” according to an industry source. “This year we are seeing much higher quality. India is the world’s third largest FCV producer, and its second largest exporter. Everyone buys Indian tobacco today, and buyers need to give some sort of commitment in terms of volume and price – it’s a two-way street.” 

Looking forward, there is a great deal of dynamism in the India tobacco industry, as ever.

The Tobacco Board continues to work with the CTRI to develop and supply seed variants and promote good agricultural practices, and to offer support to farmers and their families with programs such as the Growers Welfare Fund which has received over US$6 million from the Tobacco Board and focuses on education programs for tobacco farmers’ children and medical allowances and pays out cash to the surviving family in the event a farmer dies of natural causes.

So clearly, the Tobacco Board, under its chairman G. Kamalavardhana Rao, remains committed to the welfare of tobacco farmers and the stability of the industry in general – exemplified by Rao’s deft handling of the auction walk out by AP farmers last April.

So far as the private sector is concerned, ITC-ILTD, which buys in excess of 50% of all the tobacco produced in India for domestic use and for export, has a clear picture of how the industry needs to develop going forward.

“Three things have to happen,” we were told. “Firstly, the farmer needs to improve productivity – ITC for example is supplying improved seed varieties, and this has a huge bearing on productivity, but we are also concentrating on reducing wastage, GAP, linking competitiveness to productivity of the crop – our levels are pretty low compared to big suppliers such as Brazil and China, for example. The only way to strengthen and sustain competitiveness is to increase productivity. The more the farmer reaps the better return, which helps all sides of the equation, the farmer, the customer and the trader.”

As labor costs soar and skilled workers become scarcer, mechanization is another option being pursued to ensure productivity increases.

“Farm mechanization is linked to this,” we were informed. “As labor becomes scarcer and costlier, so simple equipment that is easy to use in a smallholding environment is certainly the way forward. For example, a family with a few hired hands and some stitching machines could save labor costs and improve the quality of the work and sustain the competitiveness.”

Rationalizing the sales process is another step ITC-ILTD is eager to see taken by the industry.

“The second factor we need to address is how quickly we can sell the Indian crop,” it told us. “ For example, Mysore auctions will continue until probably the end of April, and this can certainly affect sales of AP tobacco, as we have seen this year. E-auctions, where bidding is conducted through handheld terminals, is a much more transparent system. There are no external interferences, it is good for everybody, particularly the farmer who ultimately gets paid exactly what he sells his crop for. This is something that will be absolutely open, and will benefit farmers and traders and speed up the auction process. Together with establishing an E-auction process, we also need to improve the physical auction infrastructure, which is currently designed to cope with a crop half the size of what it is today.”

The third part of the puzzle that ITC-ILTD sees as being imperative to ensure Indian tobacco’s future is to address product integrity issues.

“The final step, and one that we are already well underway with, is to address the non-tobacco related material (NTRM) issue,” according to our source. “We now have in place a whole new campaign launched with a new emphasis and vigor, working to erase this problem nce and for all. This is purely an ITC led initiative, funded, anchored and monitored by ITC, and a very essential program going forward. NTRM can sink your ship if not addressed effectively, regardless of the quality and competitiveness of the tobacco on offer. A lot of incremental work has been done already, but we believe that there is still work to be done going forward.”

Despite the very real issues of competitiveness, competition and costs, the prognosis for Indian tobacco in 2011 and for the future remains bullish.

“In 2011, overall global dynamics of course have a bearing on the Indian market, but going forward, with all the initiatives put in place by the Tobacco Board, the farmers and of course ITC, we will bounce back with renewed thrust,” said the spokesman. “As mentioned, NTRM is the major thrust at this stage for ITC, and looking ahead, customers will find increasing value, apart from the intrinsic value of the tobacco itself, in years to come.”