Ethanol Producer Magazine, ND
11-14-07
Is Consolidation Inevitable?
Recent mergers and acquisitions activity in the ethanol industry have some
wondering if consolidation is a trend that will continue into 2008.
By Nicholas Zeman
A February 2007 EPM article asked the question: “Will Consolidation Follow
Deconcentration?” The answer according to the U.S. Federal Trade Commission
(FTC) in its 2006 Report on Ethanol Market Concentration was that the ethanol
industry was not heavily concentrated. At that time however, industry experts
predicted that if the rapid growth in the industry created an oversupply and losses
were incurred a period of consolidation could ensue. It was almost as if they were
gazing into a crystal ball. They probably didn’t even anticipate record-high corn
prices and unprofitable ethanol margins. The FTC’s next concentration report is
scheduled to be released in December. In the meantime, one may have to rely
on mergers and acquisitions activity to theorize how the industry will shake out in
2008.
It’s clear that the manic construction pace of 2006 has dampened but that
doesn’t mean the industry is static. It could, however, signal that growth formulas
have shifted from companies building new plants to buying ones that are either
near completion or already in operation. “Because the rate of expansion has
slowed way down, it’s a ripe time for takeovers,” says David Swenson,
economics professor at Iowa State University in Ames.
In the mergers and acquisitions world, takeovers are characterized as either
friendly or hostile, meaning stakeholders are willing or unwilling to sell out. In the
case of a hostile takeover, one firm tries to buy a majority of another company
without going through the board of directors. That’s not the case in the renewable
fuels realm. “In the ethanol industry these deals have been very friendly,”
Swenson says.
Because the industry is still quite young and there is a lot of construction; some
independent developers are able to sell their plants before they are even built.
This type of arrangement enables the buyer to skip the site selection and
permitting phases. For example, Millenium Ethanol LLC sold its 100 MMgy plant
to U.S. BioEnergy Corp. for $133.3 million in August. The plant isn’t scheduled to
begin producing until early 2008. VeraSun Energy Corp. recently announced
plans to acquire three 110 MMgy plants under construction from ASAlliances
Biofuels LLC for $725 million, increasing the overall capacity of the Aurora, S.D.based producer to nearly 1 billion gallons by the end of 2008. “As with any
emerging industry, mergers and acquisitions can present opportunities for
companies to execute their long-term or strategic growth plans,” says VeraSun
Spokesman Michael Lockrem. “I think the potential exists for our industry to
experience a number of these types of business opportunities in the coming
years. VeraSun will continue to evaluate the next best opportunity to execute our
long-term growth strategy, whether that is through greenfield site development or
acquisitions of existing facilities.”
For companies that built plants before the cost of construction skyrocketed the
opportunity to sell and make a quick profit is attractive. “If a company has a $40
million equity investment in the construction of a plant, and they have a deal to
sell it for $80 million, it’s something that the investors will take a serious look at,”
says Mark Yancey vice president of BBI International’s project development
division. “But I don’t think this is becoming a trend, most of these companies are
in for the long term and will operate the plants they build.”
Nevertheless, EPM’s business briefs page has been consistently filled with
merger and acquisition news over the past few months. Headlines from the July
and August 2007 issues include, “Babcock and Brown acquires Iroquois
BioEnergy,” “Dakota Ethanol to Merge with Countryside” and “First National
Acquires Cybus Capital.”
Is Bigger Better?
There are two schools of thought in the ethanol industry regarding the size of an
operation. Some people believe that in the business of buying and selling
agricultural commodities, a large plant operating with marketing prowess and
strategic alliances can simply produce a gallon of ethanol for less. It can buy corn
cheaper, capitalize on transportation efficiencies and sell fuel more successfully.
Another major factor in this situation is the point of end use. Marketing alliances
and unit-train economics are designed for big plants with a lot of fuel capacity to
maneuver in an industry which primarily produces in one region and sells in
another.
Not everyone agrees, however, that bigger is always better. “That’s what the
VeraSuns of the world want people to believe, and with the ability to secure debt
and market fuel, they’re right,” says Brian Woldt of Dakota Ethanol LLC, a 48
MMgy plant near Wentworth, S.D. “But operationally, we have found that a large
plant can actually have quite a few disadvantages.” Saturating a local market
with distillers grains, for instance, is one problem that larger plants face. “That’s
why our production model focuses on smaller plants, distributed throughout a
particular region,” he says. Although VeraSun is poised for growth, that doesn’t
mean other smaller players can’t compete. “While a lot is being made of tighter
margins for the industry, we also consider these to be exciting times in
developing sustainability for our product,” Lockrem says. “The large-scale, lowcost producers will be better positioned for the next year, however that does not
mean smaller, stand-alone facilities will not be able to survive.”
While some of the larger firms have considerable sway in the market, as is
expected, the industrial conditions for growth and innovation are nevertheless
ideal. Swenson uses the economics term “perfect competition” to describe an
industry or market unit consisting of a large number of buyers and sellers, who
are sharp on prices and volumes, involved in trading a similar commodity. This
term would apply to the ethanol industry if it were not short on buyers. “There is a
limited number of customers who like to do very large deals and buy most of the
volume they need at once,” Woldt says. “So it’s harder to make deals if you don’t
have the volume that the blender is looking for.”
Marketing alliances make it easier for small, independent plants to sell their fuel.
This is the why ethanol marketers like Aventine Renewable Energy Inc. and CHS
Inc. can sell their services to plants they don’t own. “It’s really hard for a small
plant to sell its fuel,” Woldt says. Not only is it difficult, but the competition is
fierce. “This isn’t the place anymore for people who don’t know what they’re
doing, the executives in the ethanol industry are as savvy as anyone, anywhere
in business,” Swenson says.
When mergers and acquisitions in the ethanol industry are discussed the term
inevitable is frequently used. Now the corporate model is gaining momentum and
more of the top players including Aventine, VeraSun and U.S. BioEnergy Corp.
are increasing their market share. “These companies have similar ambitions,”
Yancey says. “They want to be very large producers, and this is a way to grow
faster rather than building new plants.”
One problem, however, with corporate restructuring is that a company’s public
image can be tarnished. Centralization can have a negative connotation,
especially in rural farming communities. It has been said that large absenteeowned plants do not generate the same regional economic and social benefits as
farmer-owned plants, which is why Minnesota has historically promoted small,
independently owned ethanol production. When the ethanol program started
there, plants were only eligible for a 20-cent-per-gallon producer payment for the
first 15 MMgy. Once ethanol’s connection to the farm is severed, the industry
becomes just like any other corporate energy producer in the eyes of the
American public. This situation has caused some uneasiness along with a little
regret and disappointment. The trend toward consolidation perhaps symbolically
started in 2003, when Archer Daniels Midland Co. bought Minnesota Corn
Processors in Marshall, Minn. “When it becomes evident that something is
profitable, everybody starts to notice and everybody wants in” says Ralph
Groschen of the Minnesota Department of Agriculture. This was not, however,
just a case of the agricultural processing giant flexing its muscle by scooping up
a good-sized, profitable plant in a state with famously low corn prices. Although
the sale was questioned by a group of antitrust experts expressing concern over
alleged price-fixing of corn syrup and ethanol, the farm faction that helped get the
ethanol industry going in Minnesota was reaching retirement age, Groschen
says. “They were looking to get out and they did very well in that deal … but
yeah, it made my heart ache a little bit.”
Nicholas Zeman is an Ethanol Producer Magazine staff writer.