A $350-million campaign to boost cocoa yields in Indonesia, the world's third largest producer of the commodity, is turning sour as farmers send streams of poor-quality beans plucked from the defective trees to a collecting center Nurhaedah runs.

"Farmers are complaining the beans are so small they look like roasted peanuts," said Nurhaedah, as her deft fingers sought out the bigger beans whose size indicated better quality.

"I don't think anyone has told us what went wrong. Many trees have fallen down and when you pull them up, it's obvious they don't have taproots."

Farmers' disappointment at the outcome of the three-year campaign that aimed at increasing cocoa output to offset tight supplies and satisfy rising demand is ironically driving some to cultivate palm oil, which brings in more money for less work.

The main growing island of Sulawesi, where Nurhaedah works for a trading firm based in Singapore, is the center of a three-year-old effort to boost cocoa output to 600,000 metric tons (661,387 tons) by 2013, to meet demand from grinders in Indonesia and elsewhere in Asia.

As top cocoa grower Ivory Coast struggles to stamp out an outbreak of fungal disease in the face of bad weather, problems in Indonesia and the likelihood of a disruptive El Nino weather pattern could leave the global market with a deficit of around 40,000 metric tons (44,092 tons) in the current crop year, driving prices higher.

Ratios, an indicator of demand, have rallied more than 40 percent since January in Asia, boosted by year-end festive demand and a drop in grindings in Europe that curbed supply of cocoa butter, which makes chocolate melt in the mouth.

GROWING ASIAN APPETITE

To meet the growing appetite for chocolate in Asia, fed by rising incomes and growing populations, multinational firms such as Cargill and Barry Callebaut, the world's top chocolate maker, have built grinding projects in Indonesia.

In the last five years, the country's grinding capacity has doubled to reach around 400,000 metric tons (440,925 tons) this year, making it Asia's largest after Malaysia.

"Everybody realizes we need more supply because the demand is growing," said Ruud Engbers, president director of Mars Symbioscience Indonesia, a unit of privately owned Mars Inc, one of the world's leading food manufacturers, which turns out Snickers and Twix candy bars.

The world will need an additional 1 million metric tons (1.1023 million tons) of cocoa beans annually by 2020, Engbers estimates.

But a smaller than expected share of that increase will come from Indonesia, battered by bad weather and a cloning technique gone awry, yielding the outsize, misshapen trees that traders and farm researchers have dubbed "Frankentrees".

Despite the battle to boost output, dry weather is expected to keep Indonesia's output this year at between 435,000 and 450,000 metric tons, or a drop of almost a third since 2006.

Moreover, farmers say output from cocoa trees in much of Sulawesi appears to have been hurt by the cloning technique, originally intended to hasten seed production, but which has led instead to sickly trees that yield small, discolored beans.

The technique called somatic embryogenesis, or SE, was invented to produce high-yielding, disease-resistant seeds. A success in Ecuador in the early 2000s, it had never been used on a large scale until Indonesia adopted it in 2009.

Seedlings from the new clone take only three years to produce cocoa pods, versus four years for non-cloned varieties.

But in Indonesia, farmers say, it has produced trees that are a meter taller than usual with extra branches, which need support from stakes tied to their trunks to keep upright, yet are still prone to disease.

The trees have been producing elongated cocoa pods in strange orange-red hues, compared to the usual reddish-purple.

Cocoa trees planted in 2009 have matured this year to yield poor quality pods, with up to 160 beans in every 100 grams, far more than the national standard of 110. Plantations normally yield up to 450 kg of cocoa per hectare a year, but small beans cut that output in half.

"Many trees are dead, the beans are small and I don't think the whole thing is a success," said Siti, a 73-year old widow who looks after plantations owned by her son-in-law in the lush, hilly region of Pinrang, about 170 km north of Makassar, the capital of South Sulawesi.

"My own plantation didn't get the SE seedlings but my son-in-law's did. The result is bad," said Siti, speaking outside a stilt hut at the plantation, and pointing to the elongated, cocoa pods infested by bean-eating pests.

Almost 1 million Indonesian families, most of them in Sulawesi, rely on cocoa for their livelihood, but its stubbornly low output is a pointer to low overall rates of productivity.

"If the farmers are unhappy and they cannot make a proper living, there will never be a sustainable supply chain," Engbers told Reuters at Mars' sprawling 17,000-tonne annual capacity grinding plant in Makassar, the capital of South Sulawesi.

A survey by the nearby Hasanuddin University showed that most trees grown from the new seeds died or fell over, or were likely to do so, prompting cocoa farmers to switch to crops such as palm that are easier to care for.

In Southeast Sulawesi, desperate farmers are cutting down cocoa trees to make way for oil palm plantations that bring better returns. Indonesia is the world's biggest producer of the edible oil used in products from biscuits to biofuel.

"I've been taking care of my palm oil plantations in the last three years, while getting rid of cocoa trees," said 50-year old Mustafa, adding that 1,200 palm oil trees now grow on a plantation where he once had 12,000 cocoa trees.

A cocoa farmer can earn 8 million rupiah a year from one hectare of land, or about half the 15 million earned by cultivating palm instead.

Yet these signs did not prove the national cocoa campaign had failed, Indonesian Agriculture Minister Suswono said.

"It is true that some cocoa farmers in Sulawesi have replaced cocoa trees with palm oil, but acreage is still very limited," Suswono told Reuters. "There must be a scientific answer on the real cause of declining output."

WHAT WENT WRONG?

The Indonesian Coffee and Cocoa Research Institute (ICCRI), which distributed about 74 million specially developed seedlings to farmers across a tenth of the nationwide growing area of 1 million hectares by 2011, has done its own plantation survey.

It has offered advice ranging from proper of use of fertilizer to better handling of seedlings on their way to plantations from nurseries, as well as how to fight Vascular-Streak Dieback, a virus that decimated Sulawesi's trees in 2008.

"There were cases when nursery workers didn't properly treat the roots. I don't want to blame anyone, but it may also be due to our fault for not providing clear instruction to farmers," said ICCRI research head Soetanto Abdoellah.

Although the government-sponsored rejuvenation program has kept output from falling further, the quality of Indonesian beans will be a headache for grinders in the next few years.

"The program should be extended but the strategy should be changed," said Zulhefi Sikumbang, chairman of exporter body the Indonesian Cocoa Association. "We need more field facilitators to help farmers and help transfer the technology."

With domestic grindings set to rise to 650,000 metric tons next year, imports of about 180,000 metric tons of cocoa beans will be needed from Ghana, Ivory Coast or Papua New Guinea, he said.

Back in Pinrang, Nurhaedah sorted beans in her combined home and office, amid a faint whiff of chocolate given off by sacks of dried cocoa stacked in a corner of her living room.

"Had farmers known from the beginning the trees would eventually fall over, they wouldn't have planted them," she said.

($1=9,580 rupiah)

(Additional reporting by Yayat Supriatna in Jakarta and Yusuf Ahmad in Southeast Sulawesi, Editing by Clarence Fernandez)

• A Permanent Economic Emergency