Cellulosic ethanol - always the bridesmaid?

Predictions on the cellulosic ethanol market

I have a new set of predictions for ethanol technology, and so far my predictions on ethanol have been dead on. Cellulosic ethanol has been the thin film of the ethanol industry, always the bridesmaid. But perhaps, like with the breakthrough by First Solar (NASDAQ:FSLR), it's time is coming.

I have written extensively on the topic of ethanol and biofuels, including an early 2006 analysis of the VeraSun (NASDAQ:VSE) IPO right before its pricing that predicted an appropriate price at the time in the range of $2.77 to $8.82 share. The business has grown since then, but EBITDA margins have slipped even farther than I predicted they would, but the forward PE has come right into line with my predictions way back then. After listing well above my range, the stock hit a high north of $30 before pulling back until it is finally in my original lrange, trading in the $7-8 per share range.

Nearly two years ago in mid 2006 I did another article on predictions for cellulosic ethanol:

"My Predictions on the Ethanol Market:

The corn market will likely be able to handle significantly more corn based ethanol production through substituting corn from the animal feed market than is currently anticipated.

Cellulosic ethanol will come on line to replace a lot slower than anticipated - even when the technology arrives.

The early cellulosic plants will likely be residual based, perhaps corn stover from fields already producing for corn ethanol - NOT purpose planted fuel crops. Cellulosic technologies that allow fuel switching and co-firing will have an advantage.

Because of the transport issues - cellulosic ethanol will be relegated primarily to vertically integrated plants like the biomass power industry for the near future (where the operator owns its own fuel supply). They will struggle to compete on price with corn based ethanol.

And if ethanol succeeds like DOE expects, our beef prices are headed up."

And then I wrote an article in late 2006 entitled "Are Ethanol Companies Risky Investments?". The conclusion - yes, of course.

"In the short run ethanol stocks are in a land grab phase ramping to meet demand, and some of these stocks may do well while demand still outstrips supply and the industry is still small, but when this dynamic changes - watch out as the margin pressure will be brutal, and could turn already aggressively valued stocks into a dot bomb style free fall as per gallon profits get crushed. So, make your profits while you can!"

So here are my new cellulosic ethanol predictions:

Prediction #1 - Both market entry and market share for the next several years in ethanol will roughly be governed by this ranking on preferred processes (with some allowance for process that involve more than one), and given feedstock, scalability, yield, and transport issues, sugar cane and corn fermentation will remain the market and cost leaders for some time.






Roughly the farther down we go on this ranking the higher the risk of failure, the higher the current cost, the more difficult the scalability (if you swap #1 and #2), the higher the reliance on future technological advances, and the higher the requirements for vertical integration to make the economics work.

Prediction #2 - As ethanol and biofuels scale into significant portions of our fuel supply chain, most of the profits will be made by energy, refining companies, and Ag companies, who are more likely to build rather than to buy when it comes to expansion.

Prediction #3 - Despite all protestations to the contrary, ethanol and biofuels will continue to be our highest cost liquid fuel for at least a decade, though at $100 crude oil prices, even a high cost fuel can be competitive. Note: As I have said many times before, on a fully integrated direct cost basis, gasoline from oil can be profitably found, manufactured and distributed down well into the sub $0.50/gallon range, depending on the nature of the resource base in question, where as even the lowest cost forms of ethanol today are well over double that. Just because crude oil prices are north of $100 per barrel, does not mean that the COST of gasoline is higher than that of ethanol, it means that the PRICE of gasoline is high enough that the higher cost ethanol can be economically produced and sold. The implication is obviously that he who owns the reserves (either oil in the ground or corn in the field) will continue to do well.

Neal Dikeman is a founding partner at Jane Capital Partners LLC, a boutique merchant bank advising strategic investors and startups in cleantech. He is founding contributor of Cleantech Blog, Chairman of Cleantech.org, and a blogger for CNET's Cleantech blog.

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