By Robert Campbell
NEW YORK, July 12 Soaring corn futures and
stagnating oil prices spell disaster for the U.S. ethanol sector
this summer. A repeat of the industry's financial troubles from
a few years ago cannot be ruled out.
US corn futures have soared as evidence has mounted that
drought conditions will devastate this year's crop. Front-month
corn futures have jumped 15 percent since the end of June.
Oil, meanwhile, has found upside resistance at the
$100-a-barrel mark. Gasoline prices have probably already hit
their year-high, since the peak demand season is already
That's bad news for ethanol. Although the industry is
protected by a legally mandated minimum market, subsidies and
import restrictions, Congress hasn't mandated minimum profit
margins for the otherwise much-coddled sector.
So, even though ethanol prices have surged relative to
gasoline, margins for producers remain mired in negative
Indeed, as ethanol prices approach those of gasoline, fuel
blenders have little incentive to add more ethanol into their
product than necessary.
So ethanol producers are squeezed on both ends. Soaring corn
boosts costs, while soaring ethanol prices shrink their market.
Poor profitability has already prompted producers to reduce
output. US ethanol production fell to 821,000 barrels per day
last week, according to the Energy Information Administration.
That's 51,000 bpd less than the same week in 2011 and a
continuation of this summer's reversal of the spring trend of l
output exceeding year-ago levels.
Surging costs and falling production have prompted equity
investors in weaker firms to flee fearing a repeat of the wave
of bankruptcies that claimed many undercapitalized ethanol firms
during the financial crisis.
But this time the shakeout might be more orderly. Bigger
firms like Archer Daniels Midland and oil refiner Valero
have a larger role in the sector now.
Plant shutdowns are likely to claim the least efficient
The real question for investors will be how long this
situation lasts. Is it a bump in the road caused by a bad
harvest or is it a sign of bad things to come?
Forecasts for oil prices in 2013 have started to come down
as analysts tally the effect of slower global economic growth on
Yet at the same time there may be little relief for corn
prices until the next harvest.
That's bad news for ethanol producers, who depend on oil
prices outpacing corn for their margins.
Ironically, the return of poor profitability for ethanol
producers comes as recent steps to expand the market for the
fuel have finally born fruit.
After lengthy study, the Environmental Protection Agency has
allowed fuel blenders to increase the proportion of ethanol in
gasoline to up to 15 percent.
The first station selling this blend of fuel has just opened
But surging ethanol costs will undermine the industry's
chief competitive advantage over petroleum-based fuels: price.
Unless corn-based ethanol is substantially cheaper than
petroleum-based gasoline, fuel blenders will have little
incentive to boost blends beyond the minimum amount set by
Longer term, the industry's future also looks more
Already legislative support for corn-based ethanol is
weakening. Lawmakers axed a credit for fuel blenders at the end
of last year.
The renewable fuels mandate will only continue to expand the
market for corn-based ethanol through 2015, when it will be
capped at 15 billion gallons a year.
Investor interest in the sector has also likely been
dampened by another round of heavy losses. That could ultimately
undermine the ethanol industry's main selling point to rural
politicians: job creation.
That comes at a bad time.
North America's oil production boom and increased energy
efficiency have done far more to cut the United States'
dependence on foreign oil imports than ethanol has done
And with government finances stressed by a decade of
deficits, there's a lot less money to throw about supporting
politicians' pet causes.
An industry created by politicians is likely to have a hard
time growing without their support.
Ethanol needs legislators to force open fuel markets by
mandating consumption and it needs financial help to get
experimental biofuels out of the laboratory.
Increasingly, the risk is that the industry may not get that