Ethanol industry is not too big to fail

Phonetically speaking we know the two things that are guaranteed are death and taxes. However debt can be the precursor to death for not just companies, but industries. The ethanol industry, reading through the last 2 years of SEC filings by ADM, indicate that Ethanol has had a negative effect on their profits. In 2014 their bio-products profit decreased $69 million to a $120 million loss and interestingly in 2015 this segment operating profit was down a further 16%, due primarily to weaker ethanol margins and lower volumes. They also noted that processed volumes of corn were decreased in response to high ethanol industry production which outpaced demand throughout the year. This was on top of loss provisions of $45 million related to sugar ethanol facilities in Brazil. So easy to swallow up debt and allow for loss provisions when part of a corporation with the risk spread across multiple commodities.

Interestingly enough, the U.S. Energy Information Administration has released the April 2016 edition of its Short-Term Energy Outlook, predicting ethanol production this year will increase when compared to 2015 levels.

Weekly-Ethanol-2016

The ethanol market in the US is made up of 195 production facilities most of which are not part of large corporations. The 16-17 months in 2013-14 were bumper months for margins in the ethanol industry and those plants who paid down their debt are more likely to be able to manage a route through the current down turn in profit margins. However, in the middle size companies it can be more important to watch the debt to equity ratios far more than the stock prices. Margins are in the single digit percentages and are unlikely to increase at all this year. Subject to oil price continuing to remain low and volume remaining high this has a likelihood of continuing into 2017.

In contrast to the last 10 years there is an expected reduction in the export program where Europe are expected to maintain their tariff duties and balance their demand with adequate supplies. China too bears no favors to the industry where they are piling on the pain with anti-dumping tariffs for US DDG’s.

Turning over billions of dollars mean nothing more than being a large hamster going nowhere in a very big wheel if your profits are not there to service the debt. Nothing is guaranteed other than death and taxes, not even if it is a natural resource. Look at the coal industry. St. Louis-based coal producer Peabody Energy is the latest coal producer recently to file for bankruptcy. This follows Arch Coal, Alpha Natural Resources, Patriot Coal, and Walter Energy. Peabody’s used to have a market cap in excess of $20 billion just a few years ago. Debt in the oil industry also being a burden saw Energy XXI from a stock price of $32 to close recently at $0.12c.

The ethanol industry may not wish to acknowledge it but the RFS is only a mid-term support. Low oil prices, increased energy efficiencies in the car industry and heavy lobbying from the oil industry are unlikely to assist forcing any blend increase beyond the 10% wall. Over the last 10 years the industry has survived two dramatic drops in energy prices, though none as sustained as the current one. There is still some weeding out of the older generation plants and E85 is purely aspirational, no matter how many open letters from Governors and Senators are written. Diversification beyond ethanol and DDG’s is paramount to the survival and indeed longevity of the industry. Just squeezing 1-2% ethanol and DDG’s or corn oil is merely polishing the edges.

 

 

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