02/03/2011 (Financial Times) - Blackguarded by the green movement and devoid of pricing power, the palm oil business has one thing going for it: the sparkling prospects of the liquid gold it extracts from millions of squat green trees.

With demand soaring, the listed Asian plantation groups that dominate the sector are running out of land. And that is pushing them back to the industry’s roots – literally – in a risky competition for space in equatorial Africa. If the gamble pays off, the rewards will be huge. If it doesn’t, the planters could lose their shirts.

For the moment, they are in a sweet spot. With crude palm oil trading this week in Kuala Lumpur at about M$3,500 ($1,150) a tonne, the plantation groups are making at least M$2,000 a tonne more than their costs of production.

That is translating into a big surge in profits. Singapore listed Golden Agri-Resources, Indonesia’s biggest palm oil producer, has just announced a 147 per cent rise in net profit to $1.4bn for 2010, despite being blacklisted last year by Unilever, Nestlé and Kraft Foods, the consumer products groups, following Greenpeace claims that it destroyed rainforest areas to plant oil palm trees. Golden Agri denies the claims.

Sime Darby, a Malaysian conglomerate that is the world’s biggest listed producer, last week disclosed a 104 per cent increase in second quarter net profit to M$877m, driven mainly by its palm oil operations.

The price of crude palm oil is currently more than double the long term average of about $500 a tonne, and it looks like staying high, for two reasons. The first is strong demand for edible oils, driven by rising exports to India and China, where prosperity is triggering dietary changes that are raising demand for processed foods. Many of these contain palm oil, including pastries, chocolate and ice-cream. No one sees that trend reversing.

The second driver is palm oil’s use as an energy source. This accounts for less than 10 per cent of production, but the link to crude oil helps to put a floor under palm prices, as does its role as a replacement for other vegetable oils, such as rapeseed, which are in greater demand as fuels.

Ken Arieff Wong, who researches the industry for Nomura in Kuala Lumpur, estimates that consumption rose by 5.2 per cent last year, while production was up 1 per cent. Consumption growth may fall a little this year, says Mr Wong, but all the experience of development points to a sustained long term increase in demand.

Supply, though, is sharply constrained. Malaysia, responsible for about 40 per cent of production, has very little plantable land left, for a mixture of reasons including infrastructure problems and restrictions on land use. Indonesia, which produces more than 45 per cent of global supplies, has plenty of land, but most of it is virgin forest which it has belatedly promised to maintain. A two-year moratorium on development implemented in January will not put an instant stop to planting, but is a clear sign that land is going to be harder to acquire in future.

Most of the big companies have land banks that will keep them going for a few years. Production can also be increased by raising yields: lifting the average annual yield of 4 tonnes of oil per hectare to the 6 tonnes produced by the best trees would make a big difference. Research is being conducted into genetic modifications that enthusiasts say could eventually raise yields to as much as 8 tonnes. But all that is far in the future, and plantations work on 25-year cycles – the lifetime of the trees. So if the planters want to expand later, they have to start the process now.

Hence the focus on equatorial Africa, one of the few places in the world outside south-east Asia where the oil palm tree will grow. This is not surprising, since the Asian industry got its start by importing plants from Africa in the 1960s. Now the planters want to go back. Sime Darby, which has a total of about 525,000 hectares in production, this week disclosed talks on acquiring 300,000ha in Cameroon, in addition to a lease signed last year on 220,000ha in Liberia. Golden Agri has identified a similar amount in Liberia; Singapore’s Olam International has a 300,000ha joint venture in Gabon, and Wilmar International, also Singapore based, recently acquired a Unilever plantation in Ghana. Other producers are looking for land in Ivory Coast, Sierra Leone, Nigeria and even Uganda.

The planters say they are getting an enthusiastic response from governments, eager for export revenues and jobs for unemployed workers. But both the costs and the risks are enormous. Developing a 300,000ha plantation costs around $2.5bn including mills to crush the fruit, while Liberia, Sierra Leone, Ivory Coast, Uganda and Nigeria have all suffered civil war or serious dislocation in recent decades.

No wonder nerves are fraying. Asked what he stood to lose, one plantation company chief executive said the potential gains were enormous. Then he answered the question. “The lot,” he said ruefully