Saturday, Jul. 19, 2008

Boom Going Bust?

Food prices, lower profits squeezing ethanol makers

CHAMPAIGN, Ill. -- Not long ago, the fledgling ethanol industry was the darling of investors, farmers, the federal government and a lot of Americans who liked the idea of turning corn into fuel.

But suddenly, it doesn't have nearly as many friends.

Rising worldwide food prices and shortages have spurred calls in Congress to roll back the federal requirement that increases the amount of ethanol and other biofuels blended with the nation's gasoline supply.

Critics say so much corn is being used for ethanol that there's less available for people and animals to eat, raising prices of everything from tortillas to meat.

What's more, investors who bought into the industry in good times aren't seeing the returns they'd hoped for as once-record profits began to fall.

"Consumers are starting to get restless and Washington is starting to listen," said Morningstar analyst Ann Gilpin, who follows Decatur, Ill.-based Archer Daniels Midland, the country's second-largest ethanol producer.

Stanislaus County's first plant, under construction by Cilion Inc. along Highway 99 in Keyes, will be completed sometime in the fourth quarter of this year, spokeswoman Karri Hammerstrom said.

The ethanol market would be severely limited if Congress rolled back the federal mandate that calls for annual increases in the amount of biofuels added to the fuel supply -- 9 billion gallons by the end of this year, increasing to 36 billion gallons by 2022.

That would most hurt companies that rely exclusively or primarily on ethanol, which include a mix of small, often locally owned distillers, already under pressure since ethanol prices fell and corn prices rose sharply, as well as larger publicly traded firms such as VeraSun Energy Corp., the country's top ethanol producer.

"If you sell one product and the only reason there's a market for it is because the government makes a law requiring consumption -- if that law goes away, obviously you're in trouble," Gilpin said.

The odds of Congress changing that mandate this year are slim because the 10 states, mostly in the Midwest, that produce more than 80 percent of all American ethanol have between them almost half the 270 electoral votes needed to win a presidential election, said analyst Kevin Book of Friedman, Billings, Ramsey & Co.

After the election, though, sentiment could change.

"I think we're still a long ways from anything actually being done on it, but at the same time there is a lot more serious support than there was at this time two or three years ago," said Rick Kment, an ethanol industry analyst for agricultural data company DTN.

Congress already was willing to take a modest swipe at ethanol when it approved a farm bill with a provision that would shave a tax credit for refiners that blend ethanol into their gasoline from 51 cents to 45 cents.

Investor disappointment also is weighing on ethanol-only companies, particularly those that are smaller and privately held, Kment said.

He said much of the public and private investment was made when profits were at record levels -- $2 a gallon in some cases, meaning even a very small plant that distilled half a million gallons a year would clear $1 million.

"It is very unlikely we will see that kind of profit again," Kment said.

Shares of Brookings, S.D.-based VeraSun have fallen more than 15 percent since April 1. Pacific Ethanol, another major biofuels maker, has seen its stock drop by about 30 percent in the same period.

After VeraSun announced a first-quarter profit that fell short of investor expectations, some analysts raised worries about the pressures facing the industry.