Tuesday, January 16, 2007

Location, Location, Location

This real estate mantra is sung by a number of industries that require tough-to-transport production inputs or final products. It makes sense to locate near the raw material source if it is easier to transport the final product than the raw materials. This is certainly the case for biomass producers. It is something of a “no-brainer” to see that it is easier and cheaper to transport ethanol or methanol gases through pipelines or on trucks than it is to move the feed stocks of corn or – yikes! – cow manure to the respective distillery or digester.

Center for Agriculture and Rural Development at Iowa State University makes plant location maps available on its web site. (Map on the left above shows ethanol plants and map on the right shows biodiesel plants.) It is clear in looking at the maps that ethanol producers have primarily elected to locate near corn resources in the Midwest. Biodiesel producers have a bit more flexibility, particularly if they are using animal manure as a feed stock. Dairies and feedlots are more widely dispersed.

The Center also has several excellent presentations available on the themes running through this series of blogs. Although most of the presentations are Iowa-focused and therefore are a bit myopic in viewpoint, there are several points worth noting. For example, the item entitled “Ethanol and Livestock” indicates that a 5-million gallon ethanol plant requires about 18.5 bushels of corn for full production. The distiller grain by-product would be approximately 315 million pounds that could feed as many as 60,000 dairy cattle. Magically, or by fortune, manure from 60,000 dairy cattle would be sufficient to produce enough methane to meet 25% of the ethanol plant’s fuel requirement. The presentation illustrates the implication of location for ethanol producers in particular as by-product customers as well as fuel sources are often the same when corn is the chosen feed stock.

Since the long-term viability of corn as a feed stock has been proven so far only in the minds of corn producers, the verdict is still out on the implications of location choices for the ethanol producers with plants anchored in the Midwest. On January 16, 2006, the Wall Street Journal featured an article entitled “Ethanol Could Fuel Rise in Corn.” The crux of the article is that growing demand for corn driven by ethanol producers may limit supplies for poor countries as the price of corn will be driven to levels beyond their pocketbooks.

What about the pocketbooks of ethanol producers? The one-month futures price of corn is already near $4.00, which is well above the price built into some ethanol producers business models. What are the implications for plant location if alternative feed stocks must be found that are not readily available in the Corn Belt? Ultimately the value proposition presented by ethanol producers will reflect the risks associated with location choices. However, it appears that for the time being, the groups multiples reflect the expectation of little or no risk at all associated with location or feed stocks.

Biodiesel producers are faced with something of the same dilemma if the dairy or feedlot operation, upon which they have been counting for manure, is shut down. The portability of the plant, whether it is an ethanol “still” or a methanol “biodigester,” is a question that is typically not addressed in investor presentations and we believe producers are for the most part looking at locations as a permanent.

The next topic in our series is to look at subsidies, “green” credits and tax incentives and how these financial instruments impact the business propositions underpinning biomass producers.

Neither the author of the Small Cap Copy web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.

No comments: