An ambitious new ethanol plant in the southwestern Brazilian state of Mato Grosso do Sul is at risk after protests by indigenous people revealed the industrial unit intended to use sugarcane feedstock grown on land reported seized illegally from the local tribes.

The risk to the plant's viability isn't serious, industry sources said, but the business must find alternatives to sugarcane tainted with controversy.

The row over raw materials pledged for the Raizen plant, a joint venture between Shell and Brazilian ethanol giant Cosan, is the latest embarrassment for Brazil, which is battling to brush up its image after allegations of widespread discrimination against indigenous communities, inadequate poverty reduction programs and ineffective measures against drug-related crime.

It isn't clear if Raizen has secured a substitute for the controversial sugarcane feedstock.

Mato Grosso do Sul is a major tourist destination, famed for its natural beauty and a vast range of flora and fauna, pristine forests, rivers and waterfalls.

The plant was controversial from the start but local authorities and Raizen management ignored the protests and suppressed voices against the business arrangement that included sugarcane from disputed lands used as feedstock for ethanol production.

The Guarani Indian community's claim that illegally acquired indigenous land was used to grow sugarcane for the feedstock was taken up by Survival International campaign group and other lobbyists.

Survival said the Guarani are "one of the most persecuted and impoverished" people in South America.

"Their leaders are regularly killed by gunmen acting for the sugarcane growers and cattle ranchers who have taken over almost all their land," Survival said.

Raizen was established in 2010 but has faced the indigenous community's campaign from the start. The company has promised the government it will avoid further investment or expansion in areas designated as indigenous land.

Guarani communities are also facing pollution of their water resources by pesticides and other chemicals used in plantations.

Raizen says it wants to start a "social investment program focused on the indigenous population" in Brazil.

"We want to use our withdrawal as a good example for other companies to follow. We are committed to respecting indigenous land declared by the Ministry of Justice," Raizen told Survival.

Campaigners said the landmark decision could set a precedent in Brazil. However, while substitute supplies are arranged, Raizen is likely to continue buying sugarcane from land declared as indigenous until November.

Survival said Raizen's decision was "excellent news for the Guarani, who have been left to die on the roadside, and squeezed off their land by sugarcane production."

Other companies must follow Raizen's example, Survival Director Stephen Corry said.