Summary
The ethanol industry profitability continues to be plagued by many factors beyond its control. Volatile feedstock costs, infrastructure limitations and the threat of imports just as prices rise hamper margins. This calculation by Reuters on the date of this articel, March 6, 2008 may indicate better times ahead, but the fact of the matter is that Pacific Ethanol, Aventine, Verasun and US BioEnergy did not have a very good 2007.
Analysis
Although the Energy Independence and Security Act of 2007 increased the Renewable Fuel Standard in 2008 from 5.4 billion gallons per year (BG/yr) to 9.0 BG/yr, all is not well in the ethanol industry. The Reuters article indicates at least in March, the ethanol margin is improving, it is unclear whether how this calculation is made.
Of course, the main ingredient in ethanol prodcution is corn, and one looks at the CBOT to get a futures price. However as more ethanol production comes on line, the location differential or basis spread to the CBOT futures price has narrowed as demand has increased. For example, ethanol producers in Nebraska used to receive a 40 cent per bushel discount off the CBOT for local corn. That discount has narrowed to 18 to 28 cents off the CBOT depending on location. This cuts into margin.
On the transportation front, more unit train capability is being installed at various locations around the country, however we are seeing tightness in railcar turnaround times that is impacting the ability of the system to deliver from the midwest producing plants to the coastal consuming areas. Incremental ethanol production is seeking markets farther away from the production areas so that incremental freight costs are high: 12 to 15 cents per gallon. Ethanol prices have been relatively strong in recent weeks in Houston, New York and Los Angeles, but producers are more than willing to discount ethanol truck loadings FOB the midwest plant.
the Reuters article makes no specific mention of debt service or capital charges, but many highly leveraged plants that have been recently constructed are at a disadvantage as construction costs have escalated. Case in point is Central Illinois Energy
Terminal infrastructure is increasing at a faster pace than one might suspect from this article. Many of the terminals in Florida will be ready for ethanol by May and June which is coincident with the new state fuel quality regulations making it easier to blend ethanol without creating a new boutique gasoline blendstock.
Although much has been made to the EPA vapor pressure waiver, that is the least of the refiners problems. The significant chemical difference between an alcohol and hydrocarbon from a blending perspective requires changes in other volatility characterstics such as distillation for fuel performance and vapor/liquid ratio which is a tendency of a fuel to vapor lock.
As many other southeastern states have changed or are in the process of changing their motor fuel quality regulations, terminals have been getting ready for ethanol distribution. In fact, the majority of terminals will have ethanol facilities in place by the end of the year.
Thoughout many other states, sunch as Oklahoma, Idaho, Wahington, Oregon and North Dakota, facilities are being installed which is being driven by the need of refiners to meet the requirements of the Renewable Fuel Standard. Oregon has a 10% ethanol mandate which will be fully implemented later this year.
On the ethanol production side, capacity continues to come on line. Our estimate is that domestice production capacity is in excess of 8.5 BG/yr, by the end of the year this will be in excess of 12 BG/yr.
The big question for 2008 is: Will the ethanol production capacity come on line before the distribution system is ready or vice versa?
