Tuesday, October 16, 2007

Sell High and Buy(back) Low

Investors should take a lesson from BioFuel Energy Corp. (BIOF: Nasdaq). The Denver-based ethanol producer just announced a $7.5 million stock buyback. At the current stock price of Five Dollars and Change that is about 1.4 million shares and approximately 10% of the company’s market capitalization.

BioFuel is flush with cash. The company took in $60 million in its June public offering. (More about that in a moment.) There is also about $20 million in credit available through construction loans now that BioFuel is scrapping plans for its third ethanol plant.

It makes sense to buy back shares in light of the decision to stop at two production facilities. Ethanol prices are down even as input prices have risen. Investors should get their money back, right?

What a bargain for BioFuel! The company sold 5.3 million shares at $10.50 per share in June 2007. That is a substantial gain for BioFuel in just four months! The problem is the IPO participants were expecting that kind of gain themselves.

The buyback will not solve BioFuel’s problems. This ethanol producer and many others will need to confront the reality of the industry's economics. A period of consolidation in the ethanol industry may be looming or a migration to alternative processes that are compatible with the ethanol facilities. A fat bank account is a must under these conditions. BioFuel may regret spending the $7.5 million on buying its own shares.

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.

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