Ethanol Market

| November 30, 2007 | 0 Comments

In 2005 Congress decided to jump on the “green” bandwagon and start
pushing for the use of alternative fuels.  They didn’t install wind
turbines or solar cells on their own houses.  Nor did they buy their own
alternative fuel vehicles.  Congress did the next best thing.  They passed
a law requiring others to go green.

This law requires major oil companies to utilize 7.5 billion gallons of renewable fuels in their networks by 2012.  This anticipated demand created an instant craze in the once sleepy alternative fuel industry.  The most developed alternative fuel technology involved converting corn to ethanol for use as an automotive fuel additive.

MTBE or Methyl tertiary-butyl ether, was traditionally added to our gasoline supplies during the winter months to reduce pollution.  This additive was used for years until a funny thing happened.  It started appearing in places that we didn’t want it… like our drinking water.
The additive was banned banned state by state in 1999.  Its replacement?   Ethanol.

The boom in ethanol lead to a bust just a few short years later.  An industry you couldn’t get enough of in 2005 and 2006 suddenly became untouchable in 2007.  Ethanol prices dropped precipitously as every farmer with a plow announced plans to start a new plant.  Corn prices skyrocketed, and the fat margins new plant owners were counting on quickly disappeared.  The ethanol craze was over.

Until now.

Verasun (VSE) and US BioEnergy (USBE), two of the largest ethanol firms in the US, announced their intent to merge in a $700 million transaction.  This business acquisition is very interesting.  I think this is a sign of good things to come for the fledgling ethanol industry.

First, low margins in the industry are keeping new competition away.
In addition, weaker players are starting to either collapse or be
bought.

Additionally, renewable fuels legislation is not going anywhere.  The
industry is still going to need to produce 7.5 billion gallons of
ethanol and other renewable fuels in 2012.  Looking at today’s production, that may be a bit difficult.

The top 6 ethanol producers, which account for a majority of industry production, produce less than half of the mandated demand in 2012.

This is not necessarily a problem now, but remember, ethanol plants
take several years to build and key components can be difficult to find.
I believe that as we get closer to 2012, ethanol prices will rise and
production margins will improve.  No doubt large scale delivery
agreements will be announced as early as 2010 as the major oil companies work to lock in long term supply.

Between now and then I see massive consolidation. The smaller and weaker players who can’t use size to their advantage will be snapped up.  I would expect companies like Aventine Renewable Energy (AVR), the fifth largest producer of ethanol, to become active in buying other producers.  They might even become a potential target themselves.  Last year the company produced and shipped just under 700 million gallons of ethanol.

We may have reached the bottom of the ethanol decline. The consolidation in the industry will act as a stabilizing force.  By selectively
picking the right stocks at the right time, savvy investors have the
opportunity to make some serious money.

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Category: Commodities

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The Dynamic Wealth Report works with a number of staff writers and guest experts who specialize in everything from penny stocks to ETFs to options trading. These guest analysts post under the 'staff writer' moniker for ease of use.

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