Textile and clothing firms around the world are bracing themselves for more disruption to cotton supplies and a possible rise in garment prices after the worst floods in decades hit Pakistan’s cotton industry, squeezing companies just as they head into the important summer buying season.
Of course there’s a humanitarian aspect to the disaster too, with up to 1,600 people killed, an estimated 2m homeless, and a global relief effort underway. But for the clothing industry the timing of the flood comes as companies are already grappling forecasts that rising cotton demand will outpace supply this year.
“This is a very volatile situation,” agrees John Flanagan, who heads Flanagan Trading Corp, a North Carolina-based business that specialises in cotton futures and options and prepared hedge strategies for the industry.
The latest estimates suggest the floods in Pakistan – the world’s fourth largest cotton producer after China, India and the US – have destroyed up to 30% of the country’s cotton crop, with around 700,000 acres of growing land under water.
They have also decimated about 20% of the crop in the province of Sindh and 5% in Punjab, which is also home to nearly 12,000 textile mills and more than 6,500 ginning operations.
A first figure on the damage
Putting a first figure on the damage, the August crop production and supply/demand reports published last week by the US Department of Agriculture cut Pakistan’s output by 700,000 bales to 9.5m bales for 2010-11. This falls significantly short of the country’s expected consumption, which is pegged at 11.50m bales.
However, Flanagan told just-style he expects further cuts in the coming months as the extent of the damage becomes known.
“The floods started at about the time the USDA was assembling its August report. We believe the USDA made the initial reduction of 700,000 bales to Pakistan production just to show that they are aware of a developing problem in Pakistan,” he said.
“They will refine their estimate in subsequent reports and will most likely increase their estimate of losses substantially.”
With most estimates putting Pakistan losses in the 25% to 30% range, this suggests total losses could reach 2.5m to 3m bales of cotton, based on 480 pound bales.
Flanagan also believes the effect of the floods was muted in the USDA report for August because of increases in production in the US (up by 230,000 bales), India (1m bales), Australia (100,000 bales), and Turkey (100,000) bales.
But crops sitting underwater is not the only problem. “Infrastructure losses will be just as important as the direct loss of cotton fibre,” Flanagan points out.
The loss of roads, bridges, trucks, ginneries and communications will make it difficult to get the surviving cotton to market – and much of it “will not be available to world markets for quite a long time.”
He adds that if Pakistan’s crop falls from the current USDA estimate of 9.5m bales to 7.5m bales, the world stocks to use ratio will fall from an already-tight 37.7%, to just 36%.
“If one half of Pakistan’s crop is not available to the market in a timely manner, the world stocks to use ratio could fall to 33%…a level that will force demand rationing and could drive cotton prices well above the $1.17 per pound record set in 1995.
“In any case, with just the information we currently have regarding world supply and world demand, it is likely that cotton prices will reach the mid-90 cent range on NY futures by the end of December.”
Part of a larger story
Another industry source, who did not wish to be named, told just-style the knock-on impact of the Pakistan flood “is one part of a larger story which should see cotton staying quite firm in price – with all the downstream implications at textile and retail levels.”
He also noted reports that Pakistani mills have been buying substantial volumes of Indian cotton to ensure that they can keep running despite their own raw material problems.
There are also rumours that China could be contemplating the purchase of up to 3m tons of cotton from international markets – on top of the 2-3m tons usually buys – just to replace stocks it has shed over the past two years.
“The Chinese are pretty good at taking raw material positions and these rumours suggest that they feel we are in for some medium-term higher cotton prices,” the source said.
Bad news for the apparel industry
With cotton prices already up 33% in the past 12 months to near 15-year highs, this all adds up to bad news for the apparel industry.
Not only is it facing tighter global cotton supplies on the back of rising demand from world economies as they recover from the recession, including those in Asia, but other sourcing costs are on the rise too, including transportation and labour.
There have also been export restrictions on Indian cotton as well. And many spinners who kept yarn stocks down during last year’s weak demand are now struggling to source raw material.
According to the latest USDA data, world cotton consumption is predicted to rise by 1.2m bales in 2010-11 to 120.9m bales, up from earlier forecasts of 119.7m bales. But this still leaves a shortfall of 4m bales between production and consumption.
It’s likely that higher costs will translate into higher prices for T-shirts and jeans. “Current prices for cotton are likely to result in modest increases in garment costs,” according to Flanagan.
“Suppliers have had to keep prices low for two years because of the economic slowdown in the western world. Now, with the cost of inputs rising, they will have to pass some of this along. Garment supply, however, will likely meet demand.”
Another challenge is that cotton is not easily replaced by other fabrics. Summer clothes in particular are predominantly made from cotton, while warmer fabrics such as wool and cashmere are also increasingly blended with cotton.
Vulnerable to the whims of nature
Indeed, the effects of the Pakistan floods, which are likely to play out over the next couple of years, “shows just how vulnerable world cotton supply is to the whims of nature,” Flanagan says, and is likely to see cotton prices establish a new, higher price range.
Land suitable for growing cotton is relatively scarce in the world, and it is difficult to get new land quickly, he points out. Meanwhile, China and India are growing cotton consumers faster than the world can increase the production of cotton. This is likely to be the case for years to come.
“We expect the world will have to adjust to cotton prices above $1 in the future. Cotton prices are sensitive to the prices for competing crops such as corn, soybeans, wheat etc, as well as for competing fibres, especially manmade fibres.
“None of these competing crops or products is likely to be cheaper in the future. It will be up to the textile industry to find technological innovations and production efficiencies to offset greater input costs.
“Fortunately, the textile industry has always been an innovator and will likely continue to be in the future.”