US Ethanol Industry Eyes Valero's Bid for VeraSun
Just over a year ago, ethanol manufacturer VeraSun Energy Corp. was one of biofuels' fastest-rising stars. The Sioux Falls, South Dakota-based company had signed partnerships with General Motors Corp. and Enterprise Rent-A-Car Co., was rapidly expanding its production capacity and had announced mergers with ASAlliances Biofuels and US BioEnergy Corp. that would make it one of the largest ethanol companies in the country.
"I think oil companies are definitely going to be players in alternative energy. They bring a lot to the table — money, global reach and, most importantly, distribution."
-- Michael Butler, CEO, Cascadia Capital
Now, the company has become a poster child for the industry's troubles. VeraSun locked in high prices for corn under hedging agreements that put the company at a disadvantage when corn prices fell, and also — like many other ethanol companies — found its margins squeezed by lower ethanol prices. Unable to scrape together enough capital to pay its debts, the company considered, then abandoned, the idea of a secondary public offering in an weakening economic climate.
Finally, in October, VeraSun filed for Chapter 11 bankruptcy. The filing is part of a series of ethanol bankruptcies, including Panda Ethanol, Renew Energy, Gateway Ethanol, Greater Ohio Ethanol, Northeast Biofuels, Cascade Grain and many more. Earlier this month, Archer Daniel Midlands told analysts that nearly 21 percent of U.S. ethanol production capacity had been shut down. And biodiesel companies haven't fared much better.
But while VeraSun clearly isn't the first biofuel company to file for bankruptcy in these tough times, the company is the largest publicly traded ethanol producer in the United States. It has about 1.64 billion gallons of annual production capacity and uses about 5 percent of the country's annual corn production, according to court documents. That makes its bankruptcy potentially the most influential so far, and corn farmers and biofuel companies alike are watching the proceedings closely to glean hints about the future of the market.
So far, the company has managed to win US $196.6 million from its existing investors, and also — to the detriment of some of its corn suppliers — to get out of a number of its corn contracts. The rejection of those contracts is costing farmers millions, and that has generated plenty of agricultural complaints and concerns. But it's the forced sale of VeraSun's ethanol refineries that has captured the attention of many biofuel industry watchers.
The bankruptcy court is requiring VeraSun to sell off many of its assets in order to pay its debts, and the company is collecting bids until March 13, with an auction set for later that same month. The pricing on those projects could have "a dramatic impact" on the sector, said Scott Brown, CEO of renewable-energy investment firm New Energy Capital, at the Clean-Tech Investor Summit in California last month. A real markdown could create more declines and "fire sales" in the market, he said then.
If that's the case, the latest bid — from oil company Valero Energy Corp. — could foreshadow the realization of some of those fears. Under the agreement, Valero would buy five refineries, with the capacity to produce a total of 560 million gallons per year, as well as a development site in Reynolds, Indiana, which had had six months' worth of construction toward a 110-million-gallon ethanol plant before construction was suspended in 2007, for a total of $280 million. The bid represents about 25 percent of the estimated cost of building the plants from scratch, said Bill Day, Valero's director of media relations.
Not everyone thinks the price spells bad news, however. Rick Kment, a biofuels analyst with research firm DTN Research, said the sale price is not really a fair indicator of biofuel plants' value, adding that it's tantamount to trying to assess housing values based on a single foreclosure. "Nobody really knows the market value for these plants, and it's uncertain how it ties into the industry," he said.
With few such factories for sale and few potential buyers eyeing the market, it's very difficult to determine whether the bid represents a real market price or an aberration, he said. Kment guessed that the final price will be "a lot less" than the market value. "It might indicate prices short-term, but...I don't see a lot of plants going in and readjusting their value based on these sale prices. I have not seen much of anything as far as other sales of such plants or of fire sales yet."
At the same time, he said, many industry insiders are waiting to see how VeraSun fares for an indication of how the industry will look in the next six months. "Some others are looking to see what kind of options they have, if they are in serious financial trouble, based on how VeraSun comes out of bankruptcy," he said. "A lot of the other ethanol companies are private, so it's hard to see how they're doing because there's very little transparency in their finances and debt structure, and in their buying activities. There are a lot of questions out there, and many are still taking a wait-and-see approach."
All together, at the time of its bankruptcy filing, VeraSun had 16 refineries — 14 of them in operation — and also owned the partly developed Reynolds, Indiana, site. Aside from Valero, VeraSun in November said it had received a nonbinding indication of interest in buying "substantially all of its assets" from an unnamed suitor, which many have speculated is likely to be ethanol company Poet. The company, the No. 1 ethanol producer in the country, had said it was "in serious negotiations" with an undisclosed producer in South Dakota.
VeraSun also kept the price offered in the mystery bid a secret. "It remains to be seen whether other companies will make a bid for these assets, which would give us a clearer idea of what the valuation is," Day said. "To us, this was a fair valuation for these assets, but we will have to see if the bankruptcy court agrees."
Some industry insiders say the fact that an oil company wants to buy into ethanol could be a good sign for the industry, although it also could indicate the coming of some serious competition. Michael Butler, CEO of investment firm Cascadia Capital, said the news is evidence of a trend of some oil companies getting more deeply involved in alternative energy. "I think oil companies are definitely going to be players in alternative energy," he said. "They bring a lot to the table — money, global reach and, most importantly, distribution." Still, he added that he expects oil companies to be more biofuel buyers than investors in the long run. Just last week, RenewableEnergyWorld.com reported on a joint cellulosic ethanol venture between BP and Verenium.
In Valero's case, the company spotted a potentially good deal and decided to bid for the refineries to lock in its own ethanol costs, as oil companies are required to blend ethanol into fuel to meet renewable-fuel and oxygenate mandates, Day said. "As an oil company, we buy up a good amount of ethanol," he said. "We believe ethanol is here to stay as part of our fuel mix — we don't believe the renewable fuel standard will go anywhere but up — and we thought it was a good time to make a bid for those plants."
The company often tries to buy underinvested or distressed assets at a good price and then to build them up to make them profitable or expand them, he said. Day hinted at the possibility that Valero could expand the plants, saying that the refineries are in good locations that would give Valero the ability to add cellulosic technology, "should it become available." Valero last month invested in cellulosic-ethanol startup ZeaChem Inc. It also has invested in algal-fuel company Solix Biofuels and is developing wind farms through its subsidiary, Sunray Wind.
Day added that it's also too early to say whether Valero plans to enter the biofuel business beyond producing what it uses itself. "Obviously, our main business will remain petroleum refining," he said, adding that the ethanol bid is a "relatively small transaction" for a company of its size. Because ethanol production has little in common with refining oil into gasoline — "it's a different production process, with different equipment and different transportation," Day said — Valero would operate the VeraSun plants as a subsidiary, using the existing workforce, he said.
In any case, analysts say you can expect to see more distressed sales in the coming months. "We're seeing pretty sizeable producers come offline; we're seeing sizeable plants delayed and mothballed," said John Quealy, a managing director at investment bank Canaccord Adams. "It's not surprising that we're seeing some of these distressed bids. Commodities are down and folks that have overcommoditized are looking to just exit."
[Editor's note: to read a commentary on the Valero/VeraSun deal, check out David Blume's REInsider this week, Oil Companies and Ethanol Plants: Slash, Burn and Buy.]
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