Financial Advice for Project Developers

You may begin to notice large oil companies like Exxon Mobil and Shell advertising alternative sources of energy such as algae. Make no mistake, these public relations expenditures are serious commitments. Large global corporations are fully aware of their leadership role in the quest for energy. Looking ahead to integrating biofuels, they expect to work with their business peers. So let’s begin by addressing the gaps between the entrepreneurial producer and the corporate producer and prospective funders in advanced biofuel projects.



At this time, biofuels producers tend to be operating startups and expansions. They must constantly balance feedstock supplies, methanol and other processing ingredients, equipment costs, labor and technology costs. Some companies have intellectual property and proprietary or patented technology. These often have attorney, legal filing and marketing costs. And, in some cases, just like the big energy companies, biofuel producers run PR campaigns to convince business partners, municipal and state regulators (and politicians), along with the general public, that biofuel processing is a safe, positive community business. The costs of doing business are, of course, offset by contracts for purchase, ideally with strong profits margins.



Where it is feasible, small next-gen biofuel operations, or patented processes, may become scalable and may require significant financing. The bridge between the processor’s entrepreneurial mindset and the corporate money mindset is the business plan. That plan must address the specifics and the character of the biofuel business. 



The three most frequent holes in business plans that I have seen are in documentation, references and capital. Often the biggest hurdle is getting the client to understand that funding is a process. Obtaining funding from a corporate entity, a private equity fund, a wealthy individual, a hedge fund or any other large-scale funder is not like going to the bank to sign for a loan.

The funding process works through unfamiliar investment and business questions toward a common objective between the investor and the borrower. And building a solid business plan is the first step in the funding process.



Biofuel producers are sometimes frustrated when they are told that the hard work they poured into their plan is either insufficient or needs realignment. However, the business plan is a reflection of one’s business model. It is also a reflection of how the principle (and the management team) thinks. There are some situations producers seeking investment want to avoid at all costs. On more than a few occasions I have seen funders entertain themselves when they read an exit strategy that discusses only success. In the world of energy investment, a plan that says “we won’t fail” is not viewed as cute or clever, but as junk.



We might think of the funding process this way. If the business plan is the bridge to tens, possibly even hundreds, of millions of dollars, the capital broker is the guide. A good capital broker provides the client with a global perspective on biofuels and the details of securing financing that help the producer’s business in several ways. For example, the broker can help the producer by incorporating public policy drivers into the business, and keeping current on relevant policy changes during the funding discussions. Big investors are always looking for insights on supply-side incentives (producer) and demand-side incentives (buyer) for production and distribution of biofuels.



A number of producers look to Europe and see coherent, long-term economic and energy policies that are helping both producers and end-users of biofuel. This is no time for envy. The consensus among my colleagues is that despite the lack of a broad national policy in the U.S., recent federal and state measures demonstrate a keen understanding of the economic value of sustainable long-term policies for biofuels.



In 2010 Congress may have chosen not to renew the $1 per gallon federal tax credit for biodiesel production, as well as the renewable diesel credit. But this seems to have sparked other actions. In addition, industry observers suggest that Congress will, in fact, reestablish the federal tax credit for production. On Oct. 13, the U.S. EPA increased the allowable ethanol content in fuel to 15 percent. The small sounding change is a 50 percent increase (upon unconditional approval). And in the meantime, other efforts have been introduced that support biomass-based diesel production. To its credit, EPA has now addressed the economics of biomass-based diesel within RFS2 by creating rules for trading the renewable identification number (RIN) credits.



Traders like Steve Skrinar, a RIN trader at OceanConnect in White Plains, N.Y., are perhaps most keenly aware of the economic potential of biodiesel. One of Skrinar’s tasks is aggregating RINs owned by small producers. This year, he says, the price for biomass-based diesel RINs has ranged from as low as 15 cents to a high of about 60 cents a gallon. Biomass-based diesel producers earn 1.5 RINs per gallon. Larger energy companies, including major oil companies, will buy and sell the credits to offset gains working with RIN brokers like Skrinar. Originally seen as an administrative tool, RINs are now a value-adding benefit that also pushes producers to compete on an economic basis.



“This is a relationship business, it moves fast, and the RIN credits have a shelf life of about two years,” says Skrinar. “Any time the EPA alters a reg or approves a fuel type, it may open a new door for producers,” he says.

Just as valuable in the marketplace are exemptions from state taxes. Rhode Island, for one, has a demand-side incentive that exempts producers from the state’s 32-cent-per-gallon fuel tax. This permits locally produced biomass-based diesel to compete with its petroleum-based cousin. On the demand side, some states and municipalities are mandating blends for biofuels. Minnesota, for example, requires a 5 percent biodiesel blend. In July, Mayor Michael Bloomberg signed legislation requiring 2 percent biodiesel in home heating oil by October 2012 in New York City.

Alan Weber of Marc IV, an advisor to the National Biodiesel Board, thinks biodiesel producers may borrow from sophisticated farmers who use commodity futures as a hedge against risks. Familiarity with commodity markets, suggests Weber, will especially benefit operations selling into overseas markets. It may take some time for individual producers. But the commodities data for biofuels are ready.

Some longtime farm price observers are identifying correlations between feedstocks, agricultural-based biofuels and petroleum fuels. The Jacobsen is a 100-plus year-old company that began by compiling a report on agricultural data from Midwest farmers. Ryan Standard is The Jacobsen’s associate editor. He says his group is tracking the relationships between agricultural products and energy. The correlations between feedstocks, biofuels and the broader energy markets, he says, are closer when biofuel production levels are high. In the foreseeable future monitoring commodity price relationships may become a best-practice for management.



All of this should signal the expanding awareness of biofuel as an industry. That prospect has spawned plenty of would-be lenders eager to get in on the game. Their claims, however, often exceed their capabilities.



Many candidates for funding expect 100 to 103 percent financing. These levels of funding are intended to cover the capital request, as much as 18 months interest reserve, carrying costs such as fees and expenses of reviewing, writing and positioning the project, and in some cases legal and transaction fees, like the brokers. Such demand is fed by a maze of opportunist brokers, some who charge staggering upfront open-ended commitment fees ranging from $25,000 to $1 million or more.



In my experience, funding from large upfront fees tend not to fund. These are the fees that state Attorneys General warn against. These offer unspecific consideration. They may be demands for payment prior to receiving documentation or references. More exotic systems promise access to useless or worse, fraudulent, instruments. There is a further weakness. Funding a successful biofuel project is not necessarily related to money alone.



Successful producers acknowledge that their company requires more than money. There are numerous nonmonetary resources that serious funders are able to supply with capital, such as additional feedstock sources, distribution sources, engineering improvements, management technology and other business and scientific support. If the company aspires to supply the global markets, there are cultural and currency issues to be addressed.



The hint is: locate a broad-based funding source. This can bring any company’s potential to reality and requires solid documentation, references and capital.



The documentation required for funding includes verifiable information on the project leader’s experience and credentials both in the energy field and in general business management. It includes proof of ownership or lease rights of use, and access to feedstock and facilities. Moreover, fully committed contracts for offload of the biofuels product catch any investor’s attention. If you want to secure funding, a sound exit strategy demonstrates the team’s capacity to manage the unexpected.



References tend to include the professional members and elements of the team, both on the business and energy sides, as well as vendors, subcontractors and licenses. One of the pieces most frequently missing from even the better business plans is a “Plan B.” Too few producers have a backup plan. There is simply too much volatility not to address how the company would manage changes in supply and price of feedstock, chemical inputs, machinery, labor, distribution and land.



With regard to capital, there are costs for getting a project funded. Consider upfront fees. Lots of people have paid them, and have been burned. But, in the right place, they serve several specific purposes for the investor-mainly they show a commitment to the funding process.



There are also reasonable fees used to demonstrate the borrower’s willingness to commit to the funding process and to share genuine expenses. Sometimes these are staged fees ranging from as little as $500 to $7,500 for a review and critique your project. Ideally, this will lead directly to funding. Getting a professional review of your project is an investment that may be worth the price. Making such decisions is part of the job of the borrower. It is not easy.



In the next stage you are likely to meet face-to-face with someone close to the investor. If you feel positive about your mutual ability to achieve the funding needs, two things will happen. There will be expenses to be covered-by you. And you will be working harder than you ever imagined making your business into something a larger entity or substantial investor will seriously consider for funding of tens of millions of dollars, or more. This time, however, you will be well prepared.



Author: Robert Bailey

Capital Broker

(646) 472-5213

rbailey@trustedadvisory.com