Between the fall of 2006 and the spring of 2010, cof­fee futures traded in a rel­a­tively nar­row price range between $1.10 to $1.30. This pro­vided sta­bil­ity to the roaster, the retailer and the con­sumer for some time.

Suddenly in the late spring of 2010, a steady rise began in the “c” mar­ket, cul­mi­nat­ing in early January 2011 with a inter­day price of $2.445, amount­ing to a nearly 80% rise in the mar­ket in lit­tle more than six months. In addi­tion, cof­fee dif­fer­en­tials, or the “pre­mi­ums” paid for finer qual­ity cof­fees, have increased sig­nif­i­cantly as well. After shrink­age (cof­fee shrinks when you roast it any­where between 15–20%), the net result is a roasted cost increase of well over a dol­lar for most ara­bica cof­fees, over $1.50 for Colombian cof­fees, and sev­eral dol­lars or more for the high­est qual­ity vari­etals.
Why has this occurred? And more impor­tantly, what will be the con­se­quences of this rapid rise? And what is the likely future trend for prices?

Why has this occurred? Speculative inter­ests now use com­mod­ity con­tracts in gen­eral, and cof­fee futures con­tracts in par­tic­u­lar, as a type of invest­ment with­out any inter­est in con­vert­ing the con­tract into phys­i­cal cof­fee. This “spec­u­la­tive bub­ble” has raised many com­mod­ity prices (cocoa, sugar, wheat) in the last year to all-time or gen­er­a­tional highs.

In addi­tion, other fac­tors to a lesser degree have also con­tributed to this price spike, includ­ing: increased con­sump­tion in such nations as China, India and Brazil; mul­ti­ple years of smaller crops in sev­eral Central and South American coun­tries (par­tic­u­larly Colombia, for­merly the world’s #2 pro­ducer of total cof­fee and #1 pro­ducer of fine qual­ity ara­bi­cas); smaller prior year stocks to off­set cur­rent year needs; and cur­rency fluc­tu­a­tions in both the dol­lar and the euro. For the first time in many years, weather con­di­tions in and of them­selves have not played the dom­i­nant role in the price rise.

There are sev­eral poten­tial issues/consequences result­ing from this increase. What hap­pens to the price charged by roast­ers and whole­salers, and in turn to con­sumers? On the one hand, the log­i­cal expec­ta­tion is that prices will have to increase dra­mat­i­cally to off­set raw mate­r­ial increases. And there have been increases in the indus­try by a num­ber of small and large roast­ers. And yet at the same time prices have clearly not increased by the cor­re­spond­ing cost increases that should have occurred. Perhaps some roasters/wholesalers were for­tu­nate to fore­see this price increase and secured sig­nif­i­cant lower priced inven­tory. At the same time, the cur­rent eco­nomic cli­mate may give cof­fee sell­ers at all points in the prod­uct chain great pause to raise their prices any more than absolutely nec­es­sary. At a recent show in San Francisco, I spoke with mul­ti­ple retail­ers who have sold sig­nif­i­cant cof­fee vol­umes in recent years. They acknowl­edged that the com­mod­ity prices had increased and that sup­plier increases were inevitable. In the face of higher prices, they had decided to “de-emphasize” cof­fee in their mar­ket­ing pro­grams, as their abil­ity to aggres­sively pro­mote (so crit­i­cal in today’s eco­nomic envi­ron­ment) would be compromised.

At some point, every great inven­tory posi­tion comes to an end. And, if cof­fee sell­ers are unable or unwill­ing to ade­quately raise their prices, roasters/wholesalers will be faced with two less-than-optimal choices. The first choice is to absorb the sig­nif­i­cant mar­gin hit for some period of time. Companies who sac­ri­fice such sig­nif­i­cant mar­gin jeop­ar­dize their long-term via­bil­ity. Some com­pa­nies may attempt to “wait out” the mar­ket and hope for a future price decline. This strat­egy could poten­tially claim some mar­ket play­ers in the com­ing months in the event that prices remain high (as mar­ket play­ers will need sig­nif­i­cant addi­tional dol­lars in order to pur­chase their cof­fees mov­ing for­ward). Many com­pa­nies have attempted this strat­egy for sev­eral months in the face of ever-increasing prices, only to see prices con­tinue to rise.

And the other poten­tial option to address these cost increases in the ara­bica cof­fee mar­ket is an attempt to com­pro­mise the qual­ity of their prod­uct with the increased use of robusta cof­fees. The robusta mar­ket, while it has increased some­what over the last year, has not increased any­where as dra­mat­i­cally as the ara­bica mar­ket. Currently, robusta cof­fee typ­i­cally sells at less than one-half the price level of the ara­bica con­tract. While robusta cof­fees have a dis­tinct taste pro­file in its pure form, many roast­ers may attempt to “blend” these cof­fees into other blends to limit their actual cost increase and ”stretch” their higher price arabicas.

As one dis­cusses this dilemma with many indus­try vet­er­ans, it appears that this lat­ter course is already occur­ring en masse. Multiple green cof­fee exporters/brokers have relayed to me that “the com­pa­nies that will do well are those that can blend the best “and main­tain qual­ity taste pro­files while keep­ing cost increases to a minimum.”

Is there some­thing inher­ently wrong with this lat­ter course? Because price is such a crit­i­cal fac­tor in the pur­chas­ing equa­tion for so many con­sumers, this course is likely to become preva­lent or inevitable. And at the same time, I have great con­cern that what will occur will be far more than the minor inclu­sion of a small per­cent­age of robusta cof­fees, but rather the whole­sale down­grad­ing of cof­fee qual­i­ties. At our com­pany, we often “cup” other indus­try sam­ples in our lab, and have already noticed a sig­nif­i­cant dete­ri­o­ra­tion in the qual­ity to date. The use of infe­rior cof­fees in the 1960s and 1970s led to the sig­nif­i­cant decline in cof­fee con­sump­tion that occurred (at one point, a nearly 50% decline in per capita con­sump­tion from the 1962 highs of more than 3 cups daily). While the recent spe­cialty cof­fee craze has helped to sta­bi­lize and slightly increase con­sump­tion, cur­rent lev­els remain sig­nif­i­cantly below those of pre­vi­ous gen­er­a­tions. Current demo­graphic trends (the largest cat­e­gory of tra­di­tional cof­fee con­sumers are over 60 years old) and the preva­lence of other alter­na­tive bev­er­ages for other con­sumers (ready to drink teas, waters, etc) limit poten­tial gains as well. Lower qual­ity prod­uct in the long-term can’t be a good thing for the industry.

The indus­try should take all of these issues into account in sev­eral ways: (1) every­one must accept some unfor­tu­nate increase in pric­ing in order to pre­serve the qual­ity that is so cru­cial to our indus­try. (2) Retailers and con­sumers need to be vig­i­lant to insure that their favorite cof­fee bev­er­age still offers the pre­mium tastes that they have become accus­tomed to. (3) Coffee needs to con­tinue to be pro­moted wher­ever pos­si­ble (even with chal­leng­ing mar­gins) so that cof­fee remains front and cen­ter among the essen­tial pri­or­i­ties for every cur­rent cof­fee consumer.

Where are prices headed? As I fre­quently tell cus­tomers, “I left my crys­tal ball in the car.” But based upon the afore­men­tioned long-term issues, it is unlikely that prices will return to early 2010 lev­els any­time soon. Even if pro­duc­ers wish to take advan­tage of these higher prices and plant more cof­fee trees, it will take sev­eral years for the har­vests to be sig­nif­i­cantly impacted. The fun­da­men­tal issues pre­vi­ously dis­cussed are not likely to change. As con­sumers have adjusted to gaso­line prices that are unlikely to approach $2.50 or less for the fore­see­able future, every­one in the mar­ket­place should come to expect, and get used to, sig­nif­i­cantly higher cof­fee prices that those that existed for many years. But if we want our favorite bev­er­age to con­tinue to taste as good as the one that has existed for so many years, this could truly be the best long-term future with today’s futures market.

Jonathan White, Executive VP,
jwhite@whitecoffee.com