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Investors sour on food and drink companies' growing exposure to sugar risk

In 2016, Coca-Cola FEMSA SAV de CV, the world's largest franchise bottler of Coca-Cola drinks, said it would invest $800 million over four years to expand its operations in the Philippines. Two years later, the plan came undone.

The direct cause was a sugar tax introduced by the Filipino government in January 2018 that triggered sugar shortages, restrictions of sweetener imports and a 50% jump in local sugar prices. Soon after, Coca-Cola FEMSA pulled out of the Philippine market. "This was a particularly difficult decision," said CEO John Santa Maria Otazua in an Aug. 17, 2018, call with analysts. "I think there is a recognition in the Coca-Cola company and all the bottling community that sugar is a headwind ... and this is something that we know is going to be a continuous headwind for the foreseeable future."

Those winds are picking up speed. The soaring incidence of health ailments such as obesity and diabetes is persuading more consumers to eschew sugary food products. Meanwhile, increased healthcare costs associated with high sugar intake has led governments to introduce sugar taxes and force companies to change the way they formulate, label and market food items containing sugar. In 2015, the World Health Organization set out new guidelines recommending that adults and children reduce their intake of free sugars to less than 12 teaspoons a day and ideally to less than six.

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Since then, 28 new sugar taxes have been introduced worldwide, taking the global total to 42 sugar taxes, including in the U.K., France, Mexico and South Africa. A total of 35 countries now have mandatory restrictions on sugar-sweetened drinks in schools, according to investment manager Schroders. More of the world's population is now covered by a sugar tax than by a carbon tax.

"We believe these regulations will continue to be rolled out globally," said Jessica Grant, associate research analyst at Sustainalytics, a research firm focused on environmental, social and governance issues, in an interview. "Companies that have sugary product portfolios are exposed."

Higher taxes mean higher prices and often lead to lower corporate revenue. Sales of sugary children's breakfast cereals fell 12% globally between 2012 and 2017, and juice sales in the U.S. dropped 13% over the same period, according to Euromonitor. Soft drink volumes globally fell an average of 6% between 2015 and 2018, according to Statista. While the new taxes and regulations have often been aimed at soft-drink makers, large food producers such as Nestlé SA, Unilever PLC and The Kraft Heinz Co. that sell high volumes of sugary, processed food and drinks are increasingly vulnerable.

"We don't think [sugar-related] risks are reflected in a food and beverage sector that continues to enjoy valuations 35%-40% higher than companies in the tobacco sector or the global equity market as a whole," said Elly Irving, sustainable investment analyst at Schroders, in a 2019 report. For food companies already grappling with anemic growth, "sugar could compound that challenge and contribute to further declines in sector volume and price growth," Irving added.

For consumers, the scourge of "added sugar" is everywhere, even in products where its presence is hard to discern, such as low-fat yogurt, pasta sauce, salad dressings and white bread. Food manufacturers use sugar not just to sweeten or preserve but also to provide color, texture, structure and flavor. Reducing its presence in the daily diet is no easy task, but some companies are trying.

Unilever, the world's biggest ice cream maker, has lowered the sugar content of packaged ice cream items including Ben & Jerry's and Magnum and aims to lower the sugar in sweetened tea drinks such as Lipton by 25% between 2010 and 2020. Kellogg Co. has promised that 90% of its cereals will have 10 grams or fewer of sugar per 30-gram serving by 2020. Danone's goal is to cut the added sugar content in sugared dairy products by 12% between 2015 and 2020. After two years of research, Mondelez International Inc. says it is ready to launch a version of its famous Cadbury Dairy Milk bar with 30% less sugar.

In 2017, Japan's Suntory Beverage & Food Ltd. said it was reformulating its Lucozade, Orangina and Ribena drinks with half the sugar content. That same year, Nestlé said it would cut sugar by 10% across its confectionery portfolio, including Kit Kat. One secret ingredient: a lab-designed spherical sugar crystal that can reduce sugar intake by up to 40% while maintaining taste and texture.

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Given the continuing rise in obesity, diabetes, health costs and work absenteeism, some investors say these measures are not enough. In 2016, frustrated by the lack of clear and consistent disclosure on this subject, Schroders and Rathbone Greenbank Investments produced a set of guidelines to help investors figure out whether food and drink manufacturers were adapting to changing global attitudes to sugar. Investors use the guidelines to quiz companies on a range of issues: Is nutrition and sugar content of products discussed at the board level? Are lower sugar targets in place? Is there evidence of implementation? Is more of the R&D budget going toward developing healthier foods?

Investors with about £1 trillion in assets endorsed those principles, but backers say more needs to be done. "There isn't a wholesale awareness of sugar being a material risk to investors but it is rising up through the agenda," said Karen Elliot, senior ethical researcher at Rathbone Greenbank, in an interview. The firm is part of Rathbones, a 277-year-old British investor with £44 billion under management.

More investors are speaking up. In 2018, Australian asset manager Pendal Group Ltd., with US$76 billion under management, said its fixed-income funds would continue to retain an "underweight" position in Coca-Cola Amatil Ltd., or CCL, a major bottler and distributor of alcoholic and non-alcoholic drinks in Asia-Pacific. "The social risks around high sugar and its links to diabetes and obesity have not been priced into the issuer's credit spread and hence Pendal [expects] CCL's credit spreads to underperform over time," the company said.

In April, Harrington Investments of Napa, Calif., introduced a shareholder proposal asking Coca-Cola Co. to report on "an assessment of risks to Coke's finances and reputation associated with changing scientific understanding of the role of sugar in disease causation." A separate shareholder proposal filed by U.S. hospital operator Trinity Health sought similar sugar-related disclosures backed by "aggressive quantitative metrics" from Keurig Dr Pepper Inc.

Fund managers at AMP Capital, one of Australia's biggest investors with US$131 billion under management, recently sat down with executives at Australia's largest food and drinks companies and pressed them to reduce sugar use in products and to change advertising aimed at children. AMP argued that healthier eating trends were crimping growth for companies selling high-sugar products and that it was worried that some might respond by lobbying and advertising more aggressively, or even funding research to counter public health messages.

A potentially large threat is litigation linking excessive sugar intake to disease. In the case of tobacco, for example, independent scientific evidence showed direct harm to consumers and led to sizable legal settlements. There is now growing evidence suggesting that sugar is a main cause of metabolic syndrome, which includes a range of ailments including type 2 diabetes, hypertension and coronary heart disease. So far, this legal peril has yet to materialize for food and drink producers.

"Sugar is different from tobacco," said Karin Halliday, senior manager of corporate governance at AMP, in an interview. "There is no safe level of tobacco use but there is a safe level for sugar." Even so, said Halliday, "companies need to be aware of the risk."