With cocoa powder and refined sugar prices both at or near 30-year highs, confectioners, as well as any other users of either product, will face cost and supply challenges in 2010.

The price for basic 10% to 12% natural cocoa powder topped $2 a lb in mid-January, more than double year-ago prices and the highest in Food Business News and Milling & Baking News data files going back to 1980. Bulk refined sugar prices, offered at 53c a lb f.o.b. last week, were 50% above year-ago values and the highest in records going back to 1982.

Soaring prices obviously will hit food manufacturers and products hardest that utilize large amounts of both products — cocoa and sugar — especially chocolate. The Food Business News “milk chocolate bar” ingredient index last week was 186.5% of the 2005 base of 100, up about 60% from a year earlier. The “vanilla ice cream” index, of which sugar also is a major component, was up 37%. While most of the grain-based bakery indexes were down from a year ago because of lower flour prices, the “devil’s food cake” index, the only one that includes cocoa powder, was up 26%.

The price and supply situations for cocoa and sugar did not develop overnight, but the severity and longevity of historically high prices and tight supplies of each may have caught some off guard, and at a minimum have been wearing on profit margins if not on nerves.

While few are forecasting actual shortages of either cocoa or sugar, supplies of both certainly are tight and some buyers have found supplies hard to find at desired prices, but also in desired volumes, especially in the case of cocoa.

Cocoa powder situation is severe

It would appear from a pricing and supply view the cocoa situation is the most severe at this point. But it’s also more confusing because of greater impact from outside influences, especially the value of the dollar and economic conditions that affect demand.

North American cocoa grind, an indication of demand, was down 1.5% from a year earlier in the fourth quarter and was down 5.4% for all of 2009 compared to 2008, according to data from the National Confectioners Association.

Since both cocoa butter and cake, which is ground into powder, are created when cocoa beans are ground, processors must be able to sell both. But demand for butter, which is used in higher quality chocolate, has been weak since the global economy entered recession, and supplies are ample. Demand for powder, for which uses include bakery mixes, chocolate milk and lower quality chocolate when mixed with vegetable oil, has been strong. But since butter stocks are heavy, processors have cut back, which also has reduced powder supplies. Several plants in Asia have been shuttered for months due to slow butter sales, and other plants only process cocoa beans as they make new sales of butter.

An executive at a major international cocoa processor said much of his company’s production was sold out for 2010, although most of their customers were well covered. He noted that powder output may increase if butter sales improved.

“It doesn’t matter how much you’re willing to pay,” he said, concerning the tight powder supply situation, which he expects will continue for the next six to nine months with still higher prices likely.

At a major chocolate manufacturer, an executive agreed most users had good powder coverage for the year, but many chocolate users had only about three months coverage due to uncertainty about demand. Those needing to buy chocolate also will pay higher prices,

he said.

“Powder demand is greater because it’s cheaper than (cocoa) butter,” he said, but added, “Powder is not there.”

While world cocoa bean supplies are seen as adequate for demand in 2010, despite the butter-powder imbalance, some concerns remain, especially in the Ivory Coast, which accounts for 40% of world supply. Cocoa bean deliveries to ports were up 11% from a year ago for the Oct. 1 through Jan. 24 period. Last year’s deliveries started slowly and built momentum. This year strong prices encouraged early sales, but deliveries already are

tapering off significantly.

Tightening the supply situation last week was a fire at a cocoa warehouse in the Ivory Coast that destroyed at least 5,000 tonnes of semi-processed cocoa, equal to about 2% of annual exports of the product, according to press reports.

There appears to be some “light at the end of the tunnel” for cocoa, however. Recent reports indicated Ivory Coast farmers doubled their purchases of fertilizer, which may significantly increase cocoa bean output within two years. Production in the top-producing country has been in decline for approximately five years, due in part to weak prices and the lack of sound farming practices, including fertilization.

Production in Indonesia is forecast to increase 8% already this year, the result of a government-funded effort to replant trees and improve low-yielding areas.

Sugar high spurred by demand

New York world sugar futures (No. 11) prices, as reflected on the ICE electronic market, touched 30c a lb last week for the first time since January 1981, setting a 29-year high. Prices were below 10c a lb as recently as June 2008. White sugar futures in London set record highs in late January.

With the exceptions of 1974, when prices spiked above 60c a lb, 1980-81, when prices peaked just over 45c, and late in 2005 after Hurricane Katrina, world futures prices have been below 15c a lb at least since the early 1960s. Much of that time they were below 10c, even with multi-year periods below 5c.

For years, usually decades, world sugar prices, as well as world sugar supply and demand, had minimal effect on domestic sugar prices because of an oversupply of world sugar most years and because of the U.S. Sugar Program, which set floors for U.S. sugar prices and limited imports.

But the lack of foreign influence on U.S. sugar supply and price began to change with the North American Free Trade Agreement, which allowed sugar to flow freely, for the most part, between Mexico and the United States as of Jan. 1, 2008.

Then nature dealt a blow as the seasonal monsoon delivered inadequate rain to India’s sugar cane areas, resulting in an estimated 40% drop in sugar output in 2008-09. As the world’s largest sugar user, and usually an exporter, India became an importer last year and will be again this year with production seen up only slightly. As a result, world sugar futures prices broke above 15c a lb in April 2009 and marched steadily upward to 30c a lb.

Traders don’t foresee a shortage of sugar in the United States, although they also don’t rule out still higher prices in some sectors. The majority of industrial users (confectioners and bakers) are thought to have 85% to 95% of their needs covered for calendar 2010 (which includes the first quarter of marketing year 2010-11), with lighter coverage skewed toward the end of the year. But sources indicated retail and food service sectors have much lighter coverage than do industrial users.

Buyers are hoping sugar prices will decline after midyear, as indicated by the futures markets, with third-quarter domestic raw futures under 38c and fourth quarter below 34c. There have been reports of sugar selling for the October-December quarter well below current levels and for 2011 at around 35c.

But traders are cautious, noting that unlike last year when Mexico exported about 1.3 million tonnes of sugar to the United States, shipments have been miniscule so far in 2009-10, with the U.S. Department of Agriculture projecting only 690,000 tonnes for the year. Last year large exports of Mexican sugar created shortages in that country after their crop came in smaller than expected, forcing Mexico to turn to the world market and driving prices up sharply. Again this year it appears Mexican production may miss early expectations with the latest forecast from the National Cane Workers Union at only 4.6 million tonnes, well below the most recent U.S.D.A. projection of 5.3 million tonnes and recent forecasts from Mexico.

“Mexico is not coming through,” one broker said. Instead, Mexico appears to be focusing on rebuilding stocks and bringing domestic sugar prices down.

Cocoa futures prices fell last week, in part due to strength in the U.S. dollar, and sugar futures prices came off their highs. But cash prices for both held firm.