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Despite Technology Issues & Crop Costs, Investor Interest in 2nd Generation Biomass Remains

May 10, 2012 |

Biomass-based biofuels – fuels produced from renewable biological resources – are arguably the most successful of sustainable agriculture sectors when it comes to attracting investors. While other sectors were fortunate to break $100 million in investments, 33 biomass deals raked in just under $1.4 billion last year, according to industry journal Biofuels Digest.

Of late, the bulk of this investment has gone into second generation biofuels, that is, those that use cellulosic or woody crops, agricultural residues and waste, or algae as a feedstock. Most are ‘drop in’ biofuels that can be used in place of, for instance, diesel.  They therefore offer a more sustainable solution than the first generation of biofuels, which mostly used corn or sugar as a feedstock for ethanol.

Investors’ enthusiasm for biomass has been based on the long-term potential for cheap sustainable fuel production from agricultural waste and crops, a supportive government environment, ready customer demand and seven initial public offerings (IPOs) from 2010 onwards. Production costs for the first wave of next-gen commercial biofuel plants can’t match drilling costs at the mega-oil fields of West Africa, but investors are hopeful that plant operating costs will drop sharply as technologies mature. For instance, KiOR – which uses locally grown wood waste as a feedstock – has an estimated cash cost of $1.80 per gallon of biocrude at its planned first commercial plant[1]. This equates to a cash margin of over $20 per barrel on today’s oil prices by my calculation, a decent starting point for a young technology. Customers have been eager to sign up for bio-based products as it helps them meet federal renewable fuel standards, which mandate that obligated parties such as traditional refiners must purchase a certain quantity of either biofuel or government-created credits. The US Navy has been an early customer for biofuels, ordering 425,000 gallons of bio jet fuel from sugar, corn and cellulose-based producer Solazyme and its partner Dynamic Fuels in December 2011[2]. Strategic investors have taken to the sector with gusto; even Google entered the fray last year with an investment in non-food biomass company CoolPlanetBioFuels.

In recent months, this enthusiasm has waned as technology issues, crop costs and funding roadblocks have stymied progress. The seven US-listed biofuels stocks are each trading below their IPO prices (see adjacent chart). Three of the four clean energy IPOs planned for April were postponed, including that for municipal waste-to-energy company Enerkem, in part as market conditions remain weak. In turn, this means that investors and entrepreneurs will have to wait longer to see a return on their investment and makes others more cautious about committing to immature technologies. The situation is exacerbated by high development costs; a software beta can often be achieved with under $100,000, a pilot scale biofuel plant is typically in the region of $1 million. Further development is even more expensive; for example, OPX Biotechnologies raised $36.5 million last year in a C round led by energy specialist investor US Renewables Group. It’s working on a technology that converts sugar into plastics’ feedstocks.

Despite this, some investors are still willing to look at the sector; “if it was the perfect deal, I’d still do it” one commented to me. Some of the common attributes that investors seek nowadays are:

  1. Product flexibility.  Many of the products – biodiesel, biocrude, ethanol – derived from biomass are commodities, meaning tight margins for biofuel producers. Some of the early successes in the industry have instead involved creating higher margin products – as Solyazyme did by creating a beauty line – while developing commodity fuel capability, and this flexibility is likely to be attractive to investors.
  2. Fast scale up.  Issues with scaling from lab to production scale facilities have become commonplace.  In February, sugar-cane based Amyris announced that it was struggling to replicate the yields it had seen at lab scale in its production facilities.  A technology with a higher probability of scaling up, or which speeds the time to scale up, will likely be more attractive than one which only offers a higher yield at some stage.
  3. Plentiful feedstocks. The use of farmland for biofuel crops has become controversial, with organizations such as the World Bank linking corn and sugar use for first generation biofuels to food shortages in emerging nations. Though there is plenty of evidence that contradicts this conclusion, some sustainable ag investors would prefer to err on the side of caution and seek technologies that can accommodate a decent range of crop waste products. With farmland for biofuel crops ever more scarce, companies that take advantage of waste products have an edge.  For instance, Renewable Energy Group just announced that it will switch its feedstock from higher-cost soybean oil to waste cooking oil and the inedible corn oil that’s a byproduct of ethanol production.

It’s easy to be skeptical about biofuels but it’s worth remembering that recent tribulations are typical of a fast-developing market; just ask the swathes of Facebook competitors who fell by the wayside as the social media market matured.

Nicola Kerslake is a real assets investor, entrepreneur & advocate and maintains the blog, Real Assets Junkie.

[1] Goldman Sachs estimate, August 2011

[2] Data from Advanced Biofuels Association


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