Friday, February 03, 2012

Solazyme's Algae Work in the Dark

The oil production potential in algae is beguiling….at least I thought so until data on actual yields disclosed laid bare a discomforting fact.   Algae tend to become slackers and stop working at peak efficiency when crowded in the large-scale production containers used by biofuel producers.

Solazyme, Inc. (SZYM:  Nasdaq) has been mum about the yields of its proprietary microalgae.  The company is under the gun to bring production up to scale.  In November 2011, Solazyme enter into an agreement with United Continental Holdings, owner of United and Continental Airlines, to provide 20 million gals of jet fuel per year beginning in 2014.  Solazyme will provide oil produced by its algae to Honeywell International’s (HON:  NYSE) UOP division, which will in turn turn that oil into jet fuel. 

Just last month Solazyme announced the completion of a one-month trial by ocean shipping giant Maersk Line.  Solazyme’s renewable diesel was used a Kalmar container vessel in a 6,500 nautical mile trip from Northern Europe to India.  The trip took one month and 30 tons of Soladiesel.  The U.S. Navy weighed in on the Maersk test through its fuel testing and certification program.  The Navy has ambitious renewable fuels aspirations.  Barring an outright failure of the test (and we already know the ship made the destination), I would expect some maritime order to arise.

With Solazyme’s algae oil headed for transportation fuels, the company is under more pressure than ever to increase production.  Fortified by $200 million in proceeds from a June 2011 initial public offering, Solazyme pledged to launch a commercial fuels and chemicals facility in 2013 and add capacity in 2014 and 2015. The rate limiting step appears to be pinning down feedstock sources.  Solazyme’s algae work in the dark confines of fermenters, processing the sugars found in plants.   

One of the Solazyme’s partners, Brazil-based sugar cane processor Bunge Global Innovation Ltd. has plenty of sugar.  Bunge has been incentivized with SZYM warrants ($13.50 exercise price), to reach development milestones including the construction of a facility to house Solazyme’s fermenters.  The company also has an agreement with Ecopetrol, S.A. in Columbia to explore production options around Columbia-producer sugar care.

In the meantime, the Company own facility in Peoria, Illinois that is capable of producing as much as 2.0 million liters of algae-oil per year.  A joint venture with Roquette Freres in France also gives Solazyme access to 5,000 metric tons of production capacity.

Compared to the $18.00 IPO price, shares of Solazyme appear to be a bargain at $11 bucks and change.  The income statement remains a sea of red.  However, in my view, the company is near an inflection point at which it will have commercial customers in each of its targeted markets  -  nutraceuticals, pharmaceuticals, chemicals and transportation fuel.  This eventuality signals revenue ramp and profits potentially around the corner.

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.  SZYM is included in Crystal Equity Research’s Beach Boys Index in the Algae Group.

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