Contract farming for commercializing Nepalese agriculture

Transcription

1 Abstract Contract farming for commercializing Nepalese agriculture Paper presented in a seminar on Innovative Development Finance for Sustainability, Kathmandu, Nepal August 21 st 2015 Manbar S. Khadka 1 While contract farming may be a fairly new concept in Nepal, the system has been widely practiced in many parts of the world. In order to gain wider acceptance across the country, Nepal needs a legal framework on contract farming. This paper argues that a mass-scale production of niche agro-products can be initiated via contract farming. Such practice will not only help promote export of quality produce but also address growing food insecurity within the country. In essence, contract farming will provide an impetus for commercializing Nepalese agriculture. I. Introduction Contract farming is a forward agreement between firms and farms regarding the production and marketing of farm produce. The purchaser/firm agrees to provide farm inputs along with technical assistance and commits to purchase produce at stated market prices. Farmers, on the other hand, agree to produce the said quantities as per the buyer s requirements and standards within the given timeframe. Development practitioners believe that such mechanism supports small farmers in an economy like ours, where public sector agencies have a limited capacity of addressing farm input-output supply bottlenecks. In essence, this paper sheds light on the importance of contract farming in select agro-products in which Nepal has a comparative advantage. While contract farming may be a fairly new concept in Nepal, the system has been widely practiced in many parts of the world. For example, Japan utilized contract farming in Taiwan in the last decades of the nineteenth century and the US in Central America in the early decades of the twentieth century (Prowse, 2012). Of late, China has supported contract farming. Many African economies have emphasized contract farming as a means of increasing agricultural productivity and reducing rural poverty. Consequently, 12 percent of the rural population in Mozambique is involved in contract farming (Swinnen and Maertens, 2007). More than 50 percent of tea and sugar in Kenya is produced under contract farming (Prowse, 2012). Even in South Asia, contract farming has gained prominence in recent decades. For example, India has practiced contract farming in seed production since 1960s. Not only seed but also 1 Author is a post-graduate from the University of Maryland, US in Agricultural & Resource Economics. Corresponding skmanbar@gmail.com 1

2 poultry, dairy products, potato, rice and others are currently produced under contract farming (Rehber, 2007). Pakistan utilizes contract farming in milk production, whereby Nestle collects milk from more than 140,000 farmers covering 100,000 square kilometers (UNCTAD, 2009). But despite prioritizing contract farming in various national policies and programs, the system has not gained momentum in Nepal. For instance, Trade Policy 2009 states: contract farming and cooperative farming system shall be encouraged by attracting investments in exportable agricultural product to promote large scale production and market through commercial farming (MoCS/GoN, 2010). It further states: Contract farming and establishment of tea estates shall be encouraged for the enhancement of economies of scale and bringing continuity and reliability in the production in consideration of the international demand (MoCS/GoN, 2010). This vision has been reiterated in national policies and programs of the Government of Nepal for fiscal year The government intends to prioritize collective, cooperative and contract farming to ensure food and nutrition security by raising the output and productivity of the agricultural sector. 2 Besides the government, the private sector: Agro-Enterprise Centre (AEC) of the Federation of Nepalese Chamber of Commerce and Industries (FNCCI) and Seed Entrepreneurs Association of Nepal (SEAN) have been prioritizing contract farming for commercializing Nepalese agriculture. In sum, the Government of Nepal has yet to enact its legal framework for wider acceptance of contract farming across the country. Contract Farming ACT is essential to shift from subsistence farming to commercial farming. II. Benefits of contract farming There are a number of direct benefits emanating from contract farming to both the parties: firms and farmers. They are: Benefits to firms 1. Decreased transaction costs and increased reliability in consistent supply 2. Greater control over production process thereby ensuring quality and quantity Benefits to farmers 1. Increased income generation 2. Access to reliable and new markets thereby reducing transaction costs involved in search of markets 3. Economies of scale in procurement 3. Guarantees stable and even higher prices 4. Meeting the buyers demand of greater standards 4. Access to Credit, input and production facilities 2 2

3 5. Overcome land constraints where land accessibility remains a big challenge 6. Solidify firm s image through corporate social responsibilities 5. Technical assistance and managerial skills 6. Product diversification from traditional crops Source: Benchmarking the Business of Agriculture, the World Bank Group III. Contract farming for commercializing agriculture in Nepal Despite being an agriculture-based economy, Nepalese agriculture has suffered from low production and productivity for years. And there is a stress on growing traditional crops such as rice, wheat, etc. in which Nepal does not have a competitive edge. Nepal therefore needs to diversify its agricultural production. The hills of Nepal are suitable for cultivation of high value/low volume agro-products such as vegetable seeds, coffee, tea and others. In fact, Nepal has a comparative advantage in the production of these agro-products. But with limited land-size, resources and skill, majority of small farmers rely on subsistence farming. Though favorable climatic environment persists for growing niche agro-products, a uniform and large scale production has not been feasible mainly due to fragmented land size. A case of ginger Among various agro-products identified by Nepal Trade Integration Strategy (NTIS), ginger is one in which Nepal has a comparative advantage. The advantage is more due to low-labor cost, well-adapted local varieties and established marketing network (PACT, 2012). In fact, Nepal is the third largest exporter of ginger in terms of total export volume. Nonetheless, ginger production suffers from a number of issues such as traditional cultivation practices, market insecurity, limited know-how, low quality and low prices among others. Though ginger cultivation is a profitable enterprise, farmers have suffered due to market volatility. Majority of ginger produced in Nepal is exported to India and farmers are at risk with market uncertainty in India. Moreover, buyers and sellers fix the local price of ginger in Indian markets (PACT, 2012). Contract farming can help overcome many of such constraints. Majority of small farmers currently engaged in ginger production can be organized for contract farming. With contract farming, farmers will receive technical assistance, credit facility, quality inputs and market assurance with better prices. Contracting firms, on the other hand, will have a consistent supply of produce, increased quality control and lower transaction costs among others. 3

4 Contract farming will help achieve increased quality control and consistent supply of ginger essential to penetrate international markets beyond India. Presently, Nepal exports fresh ginger off the market that fetches lower prices in the international market. But with the formalization of contract farming mechanism, agro-processing industries that make ginger powder, ginger oil, ginger pickle and others will significantly flourish within the country. Currently, Nepal imports these high-value processed products, and the trend can be reversed. Given the promising export potentiality of ginger, contract farming can help propagate its production scale. Almost all the mid-hill districts of Nepal are suitable for ginger production. So the current practice of disaggregated level of ginger production can be minimized and mass scale production of quality ginger can be initiated via organization of small farmers. This will help enhance rural livelihoods of Nepal as contract farming will not only fetch better prices but also provide market security to farmers. Presently, subsistence farmers, small commercial farmers and large scale commercial producers are engaged in ginger production. It is the production of large scale commercial producers that hit international markets. Table 1 below shows the production, area and yield of ginger in Nepal over the years. Table 1: Production, area and yield of ginger in Nepal Fiscal Year Production (MT) Area (ha) Yield (MT/ha) 2000/01 84,366 8, /02 87,909 9, /03 140,056 11, /04 150,593 11, /05 152,704 11, /06 232,992 18, /07 160,576 13, /08 161,171 14, /09 211,251 17, /10 210,790 18, Source: ABPSD, 2010 A case of vegetable seeds A varied topography of Nepal is suitable for the production of various vegetable seeds (low volume/high value cash crop). Low labor cost and favorable agro-climatic zones of Nepal provide a competitive and comparative advantage in the production of various vegetable seeds. 4

5 In fact, Nepal holds great potentiality not only in meeting its internal deficit but also some unmet demand of South Asian countries, thereby earning foreign exchange reserves. Commercial production of vegetable seeds in Nepal began in 1974/75 in Bhaktapur with radish seed. Some of the major vegetable seeds produced in Nepal are: radish, onion, mustard, carrot, cauliflower and beans among others. Table 2 depicts various areas suitable for producing different types of vegetable seeds in Nepal. Table 2: Major Vegetable Seed Production Areas and their Production Potentials Area Major Seed Produced Production Potential (MT) Koshi Hills: Dhankuta, Tehrathum, Bhojpur and Sankhuwasabha Sarlahi, Mahottari, Rautahat and Bara West (Lumle) Kaski, Parbat, Baglung and Myagdi Rapti: Dang, Rukum, Salyan, Palpa, Pyuthan Far West Area: Baitadi, Dadeldhura, Achham and Doti Other Areas: Mustang, Dolpa, Kavre, Dolakha, Sindhupalchwok, Lamjung and Gorkha Radish, Rayo, Peas, Broccoli, Cauliflower, Cress, Turnip and Beans Okra, Chilli, Tomato, Brinjal, Gourd, Peas, Cauliflower and Beans Tomato, Radish, Rayo, Peas, Beans, Cress and Cucumber Radish, Onion, Rayo, Okra, Cauliflower, Squash, Cabbage and Carrot Radish, Rayo, Peas, Beans and Carrot 75 Radish, Cauliflower, Cabbage Carrot, Onion, Beans, Tomato, Cucumber and Rayo Source: Ministry of Agriculture and Cooperatives and IFAD, (2011) SEAN has led small scale contract farming on vegetable seeds, the outcomes of which have been beneficial to both farmers and traders. But the country needs a legal framework that will ensure propagation of contract farming on vegetable seeds to a greater extent. In the absence of contract farming, small farmers have to engage in plantation of multiple crops and other farm activities that jeopardize the quality and genetic purity of produce. But with contract farming, large landholdings are needed that make it easier to control both genetic purity as well as quality (MoAC and IFAD, 2011). Table 3 depicts production and unmet domestic demand of vegetable seeds over the years

6 MT Table 3: Vegetable seed production in Nepal Government Sector (MT) Private Sector (MT) Domestic Demand* (MT) 0 years Source: Ministry of Agriculture and Cooperatives and IFAD, (2011) * includes demand for source also A case of off-season vegetables Given the favorable agro-climatic conditions, Nepal is best suited for growing all types of vegetables known in the world. Some of the major off-season vegetables grown in Nepal are cauliflower, cabbage, tomato, peas and beans among others. And the production of these vegetables is increasing over the years. With appropriate technology, market infrastructure, legal and policy environment, Nepal can opt for export promotion of off-season vegetables. Especially, the off-season vegetables can be exported to Northern India and Bangladesh (MoAD and IFAD, 2011). Table 4 depicts production of major off-season vegetables, and table 5 depicts production and productivity levels of vegetables in the mid-western hills of Nepal. Table 4: Area, production, sales and yield of vegetables across Nepal Vegetable Area (ha) Production (MT) Sale (MT) Yield (Kg/ha) Cauliflower 33, , ,273 12,196 Cabbage 14, , ,294 21,115 Tomato 19, , ,999 16,105 Pea 3,911 14,170 6,759 3,623 Bean 10,594 81,781 40,977 7,720 Source: CBS,

7 Table 5: Area, production and productivity of vegetables in 2010/11 7 District Area (ha) Production (MT) Productivity (kg/ha) Surkhet Dailekh Salyan Jajarkot Kalikot Jumla Source: VDD, 2011 The production and marketing of off-season vegetables in Nepal suffer from a plethora of issues. For instance, off-season vegetables are produced in a small scale and at a disaggregated level. Farmers do not have adequate market information and often use traditional practices such as local baskets and jute bags for transporting to distant markets, resulting in post harvest losses (MoAD and IFAD, 2011). And farmers do not have quality inputs such as seeds, fertilizers and technological knowhow essential in enhancing the quality of produce. While not all bottlenecks can be addressed via contract farming, market insecurity, post-harvest losses, and quality assurance are some of the challenges that can be addressed through this mechanism. For instance, vegetables are of perishable nature. They suffer from post-harvest losses due to improper harvesting, handling, packaging and poor storage facilities at the collection centers. This eventually results in lower market value. Hence, maintaining quality is of high importance to curb post-harvest losses. As contract farming ensures better harvesting practices, proper handling and good storage facilities as well as improved transportation facilities, post-harvest losses will be significantly reduced. Presently, post-harvest loss of some major vegetables grown in Nepal is about percent (MoAD and IFAD, 2011). Table 6 depicts post harvest losses for some of the major vegetables grown in Nepal. Table 6: Post-harvest losses at different levels Total losses (%) Total cost of losses (Rs/Kg) Vegetables Post harvest losses at different levels Collection Farmers centre Wholesale Retail Tomato Cabbage Cauliflower Green pea Bean Source: MoAD and IFAD, 2011

8 Tomatoes suffer 33 percent post-harvest losses resulting in a total cost of losses of NPR 8.51 per kg (Table 6). Similarly, green peas suffer 10 percent post-harvest losses resulting in a total cost of losses of NPR 3.05 per kg (Table 6). With contract farming, such post-harvest losses can be minimized to a great extent. The mid-hills of Nepal have huge potentiality for growing off-season vegetables. If current level of initiation is up-scaled and production/marketing challenges are addressed then this will not only enhance rural livelihoods but also provide an important avenue for earning foreign exchange reserves. IV. Risks and remedies Despite the successes of contract farming, there have been cases of contract farming failures in many parts of the world. Contract farming has failed in the absence of enforcement, regulatory and legal settings (Prowse, 2012). And success is not dependent on a country s stability or the development of market institutions. In fact, studies show that contract farming can operate successfully in a wide range of socio-economic conditions (Prowse, 2012). There are potential risks involved in contract farming to both the parties. They are: Risks to farms 1. Farm enterprises tend to lose autonomy and will have to depend on contracting firms 2. Firm s exclusive purchase rights can depress producer prices or lead to late and/or partial payments 3. Farms may suffer from production risks if the company s technology or forecast fail Risks to firms 1. Smallholder farmers may be involved in side marketing of both inputs and produce 2. A widely-dispersed smallholder farmers will increase transaction costs to firms 3. Limited literacy and education of some small farmers will definitely increase risks to firms 4. The practice of mono-cropping will have a detrimental effect on environment 5. Farmers may be manipulated in the name of complex procedures for ascertaining a product s quality Source: Prowse,

9 The following elements need to be considered for ensuring a successful contract: 1. The content of the contract must be simple, understandable and agreeable to both the parties so as to avoid any future misunderstandings and confusion; 2. The specification as to how the contract will be implemented must be detailed in the contract. For example, payment procedures; 3. Contracts must take a formal course, i.e., a simple registration with a legal firm and signed by both the parties; 4. Contracts must adhere to legal framework on contract farming prevalent at the national or regional level; 5. Contracts should also have clause for arbitration in case of a dispute or procedures for penalizing the party that fails to meet its obligations; and 6. Contracts should also have clause for settlement mechanism in case of crop failure due to natural catastrophes. Source: Prowse, 2012 V. Discussion Contract farming was first introduced by AEC/FNCCI in eastern region of Nepal in tomato, mandarin orange and banana. Currently, SEAN has been implementing contract farming in vegetable seed production. Contract farming can be implemented in honey, non-timber forest products, off-season vegetables, tea, coffee, jute, sugarcane and citrus fruits among others. For instance, sugarcane is widely produced in plain areas/terai of Nepal. But sugarcane farmers have suffered mainly from market insecurity at large. Sugar mill operators fix the market price of sugarcane arbitrarily and even delay payment to farmers. These issues have negatively affected farmers livelihoods. Nonetheless with contract farming in sugarcane, farmers will receive appropriate price of sugarcane determined as per the market forces. And farmers will supply the said quantities as per the buyer s requirements within the given timeframe. Moreover, a majority of small farmers engaged in subsistence farming can be organized for contract farming. The current practice of disaggregated level of production can be minimized and mass-scale production of quality produce can be initiated via organization of small farmers. This, in turn, will help promote export of quality produce. Essentially, contract farming provides an impetus for commercializing Nepalese agriculture. But Nepal needs a legislative approach on contract farming. The government of Nepal has been mulling over it for quite some time. There are examples of successful contract farming practices in India and other African economies. Lessons can be learned from these countries. The 9

10 government, in consultation with relevant stakeholders, can enact Contract Farming ACT so that the mechanism will gain a wider acceptance across the country. Finally, resource provision and price incentives motivate farms to adhere to contract farming. On the other hand, a guarantee of specific produce of said quantity and quality within the given timeframe motivate firms to adhere to contract farming. Annex Types of contract farming A. Centralized model: The contracting company/firm takes care of entire business. The firm not only provides necessary support to smallholder farmers for production but also purchases produce from them. The contracting company does product processing, packaging and marketing. This type of contract farming is used in the cultivation of crops such as tobacco, cotton, sugarcane, banana, coffee, tea, cocoa and rubber among others. B. Nucleus estate model: The promoter or the contracting company also operates an estate plantation and the contract is for a small number of emergent or semi-commercial satellite growers. This type of contract farming is mainly practiced for tree plantation, as well as fresh vegetables and fruits for exports. C. Multipartite model: This involves a joint participation of both the government statutory bodies and the private companies with the contracting farmers. D. Informal model: Small companies or individual entrepreneurs engage in informal production contracts with farmers on a seasonal basis. This form of contract farming is practiced mainly in the production of vegetables, watermelons, fruits and others. This model suffers from breach of contract by either of the parties. E. Intermediary model: This involves a formal subcontracting by companies to intermediaries such as farmer groups, collectors, NGOs. These intermediaries then enter into an informal arrangement with the farmers regarding production. This model has a number of flaks. Obviously there is a disconnection between the company and farmers. Also, it becomes difficult to control quality of produce as well as price paid to farmers. Source: Dawes et al,

11 References ABPSD (Agri-business Promotion & Statistic Division) (2010). Statistical Information on Nepalese Agriculture 2009/10. APSD, MOAC, Kathmandu Benchmarking the Business of Agriculture, the World Bank Group. Available online at: CBS (2010). Nepal Vegetable Crop Survey 2009/10 A Statistical Report. Central Bureau of Statistics (CBS)/National Planning Commission Secretariat/Government of Nepal DoA/VDD (Department of Agriculture/Vegetable Development Directorate) (2009). Annual progress report. Government of Nepal/ Ministry of Agriculture and Cooperatives (MoAC)/ Department of Agriculture/Vegetable Development Directorate, Khumaltar, Lalitpur M. Dawes, R. Murota, R. Jera, C. Masara and P. Sola (2009). Inventory of Smallholder Contract Farming Practices in Zimbabwe. SNV MoAC and IFAD (2011). High Value Agriculture Project in Hill and Mountain Areas (HVAP): A report on Value chain analysis of vegetable seeds in Nepal and Mountain Areas (HVAP) MoAD and IFAD (2011). A report on value chain analysis of off-season vegetables MoCS/GoN (2010). Trade Policy Available online at: PACT (2012). Value chain status of Ginger. Government of Nepal/ Ministry of Agriculture Development/Project for Agriculture Commercialization and Trade (PACT) VALD - WESTERN DEVELOPMENT REGION Prowse, M. (2012). Contract farming in developing countries: a review. Agence Française de Développement (AFD) Rehber, E. (2007). Contract Farming: Theory and Practice. ICFAI University Press, Hyderabad, India Swinnen, J. and M. Maertens (2007). Globalization, privatization, and vertical Coordination in food value chains in developing and transition countries. Agricultural Economics 37(1), pp UNCTAD (2009). World Investment Report 2009 on Transnational Corporations, Agricultural Production and Development. UNCTAD/DIAE/2009, Geneva VDD (Vegetable Development Directorate) (2011). Department of Agriculture/Vegetable Development Directorate, Khumaltar, Lalitpur 11