Private Eyes on Ethanol

Written by Brian Hicks
Posted March 1, 2006

Dear Wealth Daily Reader,

It's easy to talk about something when you have conviction. The truth is, sometimes you can have so much belief in your cause that expertise comes secondary to passion, and the information gets muddled.

Jeff Siegel is passionate about renewable energy, but his feet are firmly on the ground. That's why right now he's introducing a crowd of private investors to his Green Chip savvy down in Dallas, Texas.

While Jeff is breaking down the ins and outs of ethanol and other promising fuel breakthroughs in the land of big-rig big wigs, I'm going to give you an outsider's perspective on the industry that is making Green Chip subscribers a fortune as the global energy tide turns.

If you still thought alternative energy was a hippie's game, this AP headline from the other day should dissuade you from such an antiquated view:

"Private Investors Storm Ethanol Industry"

Fickle as Fiddles

Consumers are easy to read. They're even easier to write. This past year, we have seen a torrent of about-faces and advertising on the part of oil companies. Conoco Phillips now wants to "Elevate." Chevron asks, "Will you join us?" and Jeff Siegel came back from a recent ethanol industry conference with a spiffy t-shirt from GM's new and confusing "Live green, go yellow" campaign.

Toss President Bush's recent junkie's epiphany on top of this heap of industrial schizophrenia, and gasoline consumers are as confused as a two year old whose life has just become a "Cops" episode. Who's in charge? Who should we listen to? What the hell is E85?

The trick from an investor's standpoint is of course to predict the swings in consumer knowledge and sentiment, and the investor base for alternative fuels is fast evolving as the sea continues to change.

In the 1980s, ethanol experienced a boom and then bust, causing general reluctance to put money into the science of crop-based fuel. More importantly, gasoline was still cheap and $60 a barrel was more a punchline than a prediction until the end of the Clinton era, so speculation on alternative fuel bore no immediate portents of profit.

The wire story I mentioned above tells the story of Roger Young, an ethanol entrepreneur who traveled all over America's breadbasket gathering seed money $30,000 at a time from farmers and local residents with the means and the dream of revitalizing dormant rural communities like Young's home of Laddonia, Missouri.

When 2005's Energy Policy Act mandated the use of 7 billion gallons of renewable fuel in the US by 2012, the government nudge gave new and larger-scale investors a reason to dive back in to the ethanol game.

The progression from farmers to venture capitalists to institutional investors could culminate in the buyout of many homegrown operations by companies like Conoco Phillips, who see combinations of petrochemical and renewable fuels as their ticket to a healthy business future.

In the 1990s, over 1/2 of the ethanol plants built were farmer-owned. Now, of the 42 ethanol plants under construction, only 6 are farmer-owned. The appeal of this industry is broader, but that doesn't mean that investors are any more or less easily swayed than the average Joe who has no money to throw at new energy trends.

For example, much of the talk in the corn-producing states revolves around corn-based ethanol. But a study conducted by the Department of Energy and the Department of Agriculture in 2000 concluded that switchgrass yields a 343% net energy gain in ethanol processing, compared to a paltry 21% from corn.

Brazil, the world's number 1 ethanol producer and a country where public transportation has kick-started the national ethanol industry, gets its ethanol from sugar cane. As in the United States, the total arable land available in Brazil is nowhere close to being maximized for ethanol use. But there is another factor to US ethanol development.

The farm subsidy regime that has existed in the US for decades, contributing to the demise of Roger Young's Laddonia and countless other ghost towns across the plains, has led to fraud and deliberately failed harvests in order to milk federal crop insurance.

The establishment of ethanol, whether corn or switchgrass-based, could give the livelihoods back to many of the Midwest's farming families. I can tell you first hand that of my friends at the University of Kansas who had grown up in moribund agricultural towns, very few had plans to return home. Quite simply, the opportunities are gone.

Changes in the way fuels are synthesized and sold will have far-reaching effect not only on prices at the pump (where E85 is currently more expensive and thus less welcoming than regular unleaded) but on the way the country works. Agricultural disbursements and tax breaks to oil companies have not done any more for the American oil addiction than plain-old consumer demand has.

The real methadone to wean us off the black horse is a transitional stage, and ethanol blends pose a huge opportunity to investors at all levels as the market turns a corner and Peak Oil becomes an admitted reality even in West Texas and Kuwait.

- Sam Hopkins