Falling Ethanol Prices Cutting Plant Profits

Recent declines in ethanol prices have sharply reduced profitability for ethanol producers, USDA's chief economist Keith Collins recently told the House Ag Committee.

Recent declines in ethanol prices have sharply reduced profitability for ethanol producers, USDA's chief economist Keith Collins recently told the House Ag Committee.

Speaking at a hearing on disaster conditions across the nation on Oct. 18, Collins said ethanol prices have weakened since mid-summer as additional plants have come on line, adding to ethanol supplies and contributing to some infrastructure bottlenecks.

For example, prices at ethanol plants in Iowa and Nebraska have fallen nearly 50¢/gal. since late July 2007. During the same period, futures prices on the nearby contract have lost about 40¢/gal.

Until recently, ethanol premiums have averaged 50¢/gal. compared with unleaded gasoline. The situation has suddenly reversed, with wholesale ethanol prices as much as 39¢/gal. below the wholesale price for gasoline during September.

The outlook for ethanol prices appears even less favorable in the futures market, with the nearby Chicago Board of Trade contract for ethanol trading 50¢/gal. below the nearby New York Mercantile Exchange contract for reformulated gasoline blendstock.

This shift in the ethanol-gasoline price relationship has sharply reduced returns for ethanol producers, according to Collins. "With current retail gasoline prices at $2.80/gal., wholesale prices without federal and state excise taxes would be about $2.20/gal. Nearby futures for ethanol are trading at $1.57/gal., 71% of the $2.20/gal. estimated wholesale gasoline price and about equal to ethanol's energy value relative to gasoline."

U.S. ethanol production capacity for today is estimated at 6.9 billion gals., up 2 billion gals. from a year ago. Production capacity is expected to increase sharply over the next 18-24 months, if the 76 plants currently under construction are completed. The new construction would add 6.7 billion gals. of ethanol production capacity, bringing total capacity potentially to 13.6 billion gals. as early as late 2009.

This year's record U.S. corn production is bringing some relief to declining ethanol producer margins, Collins says, though corn prices remain strong supported by strong demand, record-high wheat prices and strong soybean prices.

USDA estimates that a 40 million-gal. Midwest ethanol plant, receiving the late September price of $1.52/gal. for ethanol and paying $3/bu. of corn, was earning 17¢/gal. above variable costs of production and 3¢ below total variable plus capital costs of production.

"In the current price environment, the 51¢/gal. ethanol tax credit is important in sustaining ethanol demand and prices at levels that are forestalling some plant shutdowns."

The news isn't so good for soydiesel production either, Collins noted, even though U.S. biodiesel production continues to rise, setting new production records each month. Collins says 20% of 2007-08 soybean oil production is expected to be used to produce about 580 million gals. of biodiesel. This compares with only 8% of soybean oil production used to produce about 200 million gals. in 2005-06.

But as with ethanol, biodiesel profit margins are eroding due to sharply rising soybean oil prices. The price of soybean oil, which is the feedstock for 85-90% of domestically produced biodiesel, has increased over 40% over the past year, causing biodiesel returns to decline from around 80¢/gal. to near zero.

Prices for vegetable oil, another feedstock for biodiesel, are expected to remain strong due to strong demand, particularly for biodiesel in the EU, Collins says.

"Due to the $1/gal. tax credit for blending, U.S.-produced biodiesel is competitive in the EU biodiesel market. Since March 2007, net exports of biodiesel have accounted for more than 25% of U.S. biodiesel production. As long as U.S. biodiesel remains competitive in world markets, U.S. production is likely to grow despite weak margins."

USDA is also projecting smaller U.S. corn acres and higher U.S. soybean acres for 2008-09. Corn planted area for 2008 is expected to fall as prices and returns for competing crops, such as wheat and soybeans, have improved relative to corn in recent months, Collins said.

"December 2008 futures prices for corn are currently more than 30¢/bu. below the peak of December 2007 futures last February. Current cash prices are more than $1/bu. below their levels in late February.

"Although world demand remains strong for feed grains, record U.S. corn supplies are expected to put downward pressure on corn prices over the coming months. Given the current outlook for the 2008 crop, corn planted area next spring could decline 6-8% from 2007 to around 87 million acres.

"Even with the potential for a 6-8% reduction in planted area next spring, 2008 corn area would still be 8-12% above the 1997-2006 average. Lower production combined with continued growth in the corn-based ethanol industry could reduce carryover stocks adding support to prices in 2008-09.

"U.S. soybean acreage is forecast to rebound to 70 million acres in 2008, regaining more than half of the 11 million acres lost primarily to corn in 2007. The soybean-to-corn price ratio, which declined to below 2 in the spring of 2007, strongly favored corn planting. Current March 2008 futures imply a soybean-to-corn price ratio of 2.7, favoring soybeans over corn. Rotation practices also favor a switch back to soybeans."