Institutional Investment Into Agricultural Activities: Potential Benefits and Pitfalls Angus Selby – Vice President Mo

1. Morgan Stanley Institutional Investment Into Agricultural Activities:Potential Benefits and Pitfalls Angus Selby – Vice President Morgan Stanley Commodities LAND GOVERNANCE IN SUPPORT OF THE MDGS: RESPONDING TO NEW CHALLENGES Washington, DC March 9 and 10, 2009 Please contact author for permission to cite any elements of this presentation : angus.selby@ms.com

2. Morgan Stanley Presentation Themes • Fundamentals of Agri Product Supply and Demand • Categories and Motives of Different Institutional Investors • Investment Strategies • Impacts and Results to Date • Revisiting the Farm Size Efficiency Debate • Conclusion: Potential Benefits and Pitfalls

3. Morgan Stanley Supply Fundamentals • Key Concerns: • Soil • Water • Climate Change • Volatile Weather Patterns • Politics and Security (protectionism) • Crop Quality • Technological Advance (genetics) • Storage and Logistics/Infrastructure

4. Morgan Stanley Arable Land Pressure Rate of top-soil destruction exceeding that of soil rehabilitation or improved structure on existing arable. There are limits on new land too. Source: FAO

5. Morgan Stanley Demand Fundamentals • Key Drivers: • Population Growth • Dietary Shifts in Emerging Markets - Feed conversion ratios • Increasing Urbanisation in LDCs • Biofuel Policies • Historically Low Stock-Consumption Ratios • Quality Differentiation • Key Destruction Factors: • Credit shortages • Speculative Premiums • Ethical Issues (eg: GMO)

6. Morgan Stanley Key Investor Categories • Investment Banks • Hedge Funds and Private Equity Groups • Pension Funds • Sovereign Wealth Funds • Sovereign Strategic Funds • Established Agri-business

7. Morgan Stanley Investment Strategies • Public Listings - undervaluation of established Public entities allowing quick exposure, lower risk and good upside • Private sector - pre IPO investment through controlling stakes captures more potential upside but risks are higher • Sovereign strategies to guarantee food security off-takes, and/or raw material • Processing, Logistics and Trade Sector – suppliers, research, storage, transport and processing – existing agribusiness has concentrate in this area • Speculators (land play) ; based on precedents in Eastern Europe • Longer term equity and operational strategies to complement existing agri-related business interests – eg trading desks , processing industry etc

8. Morgan Stanley Historical Risk-Return Patterns in the Ags Chain R and D Financiers Machinery Suppliers Input Suppliers Producers Increasing Returns Increasing Risk Storage Insurance Contractors Marketers/Traders/logistics Processors Retailers

9. Morgan Stanley Recent Risk-Return Patterns in the Ags Chain R and D Financiers Machinery Suppliers Input Suppliers Producers Increasing Returns Increasing Risk Storage Insurance Contractors Marketers/Traders/logistics Processors Retailers

10. Morgan Stanley Key Investment Destinations by Geography Industrialised Nations • USA; Canada; Western Europe: Australia Emerging Markets • Eastern Europe; Russia; Ukraine; Brazil; Argentina; South Africa; Indonesia Frontier Markets • Sudan; Angola; Madagascar; DRC PUBLIC CAPITAL FLOWS INTO DOMESTIC CHINESE & INDIAN AGRIC SECTORS

11. Morgan Stanley Patterns of Investment into Publicly Listed Companies Source: UBS Estimates

12. Morgan Stanley Impact on Land Markets in Ukraine Source: A.Selby; Corporate Sources

13. Morgan Stanley Impact on Land Prices in Emerging Markets Source: A.Selby; Corporate Sources

14. Morgan Stanley Recent Sovereign Land Deals Source: GAIA Capital and www.grain.com

15. Morgan Stanley Revisiting the Farm Size: Efficiency Debate Considerable Negative Press on Global Land Grabs; need for a differentiated assessment and to raise some questions about what are progressive investments and what are likely to be regressive investments Perspective in the development sector that production scalability at the farm level is a myth, and that small farms are more efficient across the spectrum. Selective literature on selective geographies and systems, which incorrectly isolates the production function from the integrated operating environment and its core interrelated elements: finance, inputs, management, storage, processing, logistics and marketing Direct experience at the Production level suggests that Optimal farm size patterns vary between sectors, and systems. Not enough attention to the interrelated operational realities and complexities of the agri-chain and the benefits of aligned objectives, activities and scale.

16. Morgan Stanley What does ‘efficiency’ actually mean in this context?How does it relate to the following: • Productivity/Output ? • Profitability ? • Food Security ? • Environmental Sustainability ? • Optimality ? • Linkages ? • Vertical Integration ? • Employment ? • Skills transfer? • Capital use efficiency? • Management adaptability/flexibility ? • Ability to manage risk ? • Ability to access and influence policy (lobbying power?) • Or should it be a Holistic integrated oganisational concept of ‘all the above’ and how they relate to the local context?

17. Morgan Stanley Variations in Farm Size and Efficiency Best Corporate farms enjoy economies of scale and optimality, plus competitive advantages in innovation, marketing and other core factors. Capital access generally much better Small scale producers can be relatively efficient given optimal use of low cost family labour 4 3 7 Best commercial farms enjoy economies of scale, mechanisation and optimality, plus competitive advantages in innovation, marketing and other core factors through the operating matrix Occasionally an exceptional business model will scale high efficiencies over huge areas but this is unusual in the agric sector which is part art part science 1 2 Efficiency Medium scale producers less efficient as forced to enter labor market but too small to enjoy economies of scales or management Range of efficiencies significant: Top 10 percent of most farming sectors make 90 % of profit 6 More often than not huge farms are based on extensive or speculative bases which are usually the least productive and inefficient per unit area due to stretched management 5 Unproductive small farms typically characterised by deteriorating soil and water resources, poor practices and/or families with health (eg: HIV) difficulties Inefficient or badly run large scale operations are usually less productive per unit area than poorly operated small or medium scale outfits such as those at position 6 8 Farm Size (Different Scale for Different Farm Types)

18. Morgan Stanley Yield and Cost Comparisons between traditional small scale production systems and Large scale professional producers Sources: Selby (2006); Conservation Farming Zambia and A. Selby personal analysis

19. Morgan Stanley Farm Types and Farm Sizes • Optimal farm sizes vary between crop types and systems. Dependent on: • Production system • Propensity for labour/machinery trade off • Product Value Ratios – also food v cash • Capital requirements • Perishability • Logistics • Markets Contrasts Illustrated: Eg 1: Staple commodity grains - 10,000ha mechanised farm in Ukraine Eg 2: Mixed local food security – 2 ha Casava, vegetable and fruit tree farm in northern Zambia

20. Morgan Stanley Complexities of the Integrated Operating Environment PRODUCTION FACTORS MANAGEMENT FACTORS MARKETING FACTORS SERVICE PROVIDERS &RnD LAND PRODUCTION OPERATIONS WATER STORAGE & LOGISTICS Infrastructure & equipment MARKET LABOUR INPUTS FINANCE SKILLS DEVELOPMENT FOOD SECURITY EMPLOYMENT INCOME

21. Morgan Stanley Institutional Investment: Potential Benefits • Bridge the Capital Gap • Introduce a Sustainable Business Model • Facilitate Enabling Environment • Improve Local and General Food Security • Create Employment • Catalyse Economic Linkages • Local Processing and Value Add • Technology Transfers • Skills Development and Management Training • Market Access • Risk Management Systems and Strategies • Improved Lobbying Power • Environmental Awareness and Sustainability • Facilitate Broader Development Partnerships

22. Morgan Stanley Institutional Investment: Potential Pitfalls • Monopoly/Cartels • Market Manipulation • Undermine Local Business Development • Land Grabs • Displacement of Local Farmers • Exploitation of Local Communities • Domination of Local Resources • Expatriate Enclaves • Social Instability • Local Food Insecurity • Environmental damage

23. Morgan Stanley Investor Checklist: How do we define between Good Investors and Bad Investors • What are the Core Objectives – to build a business? or capture arbitrage? • Short or Long Term perspective ? • What Business Model ? • Past Experience and Track Record in the sector ? • Location of Investment in the Ags chain ? • Operating Standards ? • Impact on Local Communities, and Markets ?

24. Morgan Stanley Conclusions • Land and Agriculture will be increasingly strategic issues in the next decade, requiring considerable allocations of attention, resources and capital • Within this forecast are exceptional opportunities but also exceptional risks • It will take a concerted effort of dialogue and collaboration and partnership between the key interest groups to navigate these stormy waters successfully • Institutions such as the World Bank; FAO and IFPRI have a significant role to play in facilitating these partnerships between governments, rural communities and the private sector agribusiness chain. THANKYOU !