Solazyme files its expected IPO, but in its S-1 are unexpected progress on costs, capacity, and a surge of offtake orders; but can the company make oil fast enough to meet the demand and capture all the opportunities?
Late on Friday, renewable oils pioneer Solazyme filed for the IPO we all suspected was coming soon. With the IPO fields previously plowed by Codexis, Amyris, and Gevo in recent months – all in the $80-$100 million range, the $100 million IPO led by blue-chippers Morgan Stanley, Goldman Sachs, Pacific Crest Securities and Lazard Capital looks like a lay-down hand.
Not to mention that Solazyme has been winning more award hardware from the Digest readers and editorial board than any other company, for several years now.
Having said that, the S-1 offers one of the classic opportunities to dig more deeply into the company’s strategy, progress and structure than is ever revealed by private companies. So let’s take a look at what Solazyme has to say about itself.
“We make oil,” their S-1 begins simply, and yet profoundly. Who makes oil? Chevron finds it. Farmers grow it. Not too many design it. “Our proprietary technology transforms a range of low-cost plant-based sugars into high-value oils. Our renewable products can replace or enhance oils derived from the world’s three existing sources—petroleum, plants and animal fats.
Cash on hand, and revenues.
One of the first things we note about this IPO, is that it is generally less revenue-starved than some of the others that have come along. Companies like Gevo and Amyris were essentially pre-revenue companies in terms of their core technology, though they had both acquired first-generation production capacity (for long-term manufacturing needs) that gave them some revenues to talk about.
Not so with Solazyme. The company has ramped up from zero revenues in 2006 to $37.9 million in 2010 – though, like all of the early-stage IPOs, they have racked up $52.8 million in losses in the development period, and lost $16.2 million in 2010. On the other hand, it’s a fraction of the losses at, say, Amyris, during the development period.
One of the most refreshing aspects of the balance sheet is the presence of cash. $32.5 million in cash and equivalents, and $49.5 million in short-term investments. Solazyme, while short on the cash to scale its technology, say, to meet current orders such as the 80 million gallon order from Dow, certainly is not being shoved into the IPO market by dire necessity. It’s an opportunity play rather than the market of last resort.
The brewmeisters have brought the production costs down dramatically, far more so than most observers had expected. Here’s what they had to say regarding their progress to date: “the our lead microalgae strains producing oil for the fuels and chemicals markets have achieved key performance metrics that we believe would allow us to manufacture oils today at a cost below $1,000 per metric ton ($3.44 per gallon or $0.91 per liter) if produced in a built-for-purpose commercial plant.”
Below $3.44 per gallon? While not exactly blowing diesel out of the water, that’s 47 cents per pound, or about 20 percent below the cost of soybean oil, and about 8 percent below the cost of palm oil. With diesel retailing at $4.20 per gallon in my neighborhood, and oil prices expected by the DOD to climb to as high as $131 per barrel this year, they are very much in the parity range if the $1 per gallon biodiesel tax credit is taken into consideration. Sold at a miniscule margin, Solafuel might have had a nearer-term future in the market than expected. But we don’t expect to see much Solafuel in the biodiesel market anytime soon. Too many higher-value opportunities, and not enough fermentation capacity. More on this later.
How fast has this come down. In late 2007, the company says it was at around $4,000 per metric ton, and at around $1200 per ton in 2009. What we don’t have are forward-looking statements, for the obvious reasons of risk and liability, of where those numbers are likely to go in 2012-15.
Let’s put a frame on it, though. Is crude oil reaches the DOD’s estimate of $131 per barrel this year, that’s $905 per metric ton. If Solazyme squeezes 10 percent more performance out of its critters (the production platform formerly known as algae), that would bring it sub $900. And these are designer oils, fit for purpose, not the jambalaya of molecules in a barrel of oil.
Overall, the company is projecting the following costs and average selling prices in its primary oil markets of fuels, chemicals, nutrition and skin & personal care:
Fuels. Production cost, sub $1,000 per metric ton, average selling price, $1,000-$2,000 per metric ton.
Chemicals. Production cost, sub $1,000 per metric ton, average selling price, $1,800-$5,000 per metric ton.
Nutrition. Production cost, sub $1,000 per metric ton, average selling price, $2,500-$20,000 per metric ton.
Skin and personal care. Production cost, sub $2,000- more than $1 million per metric ton, average selling price, $20,000-$4 million per metric ton. The $1 million+ production cost and $4 million per ton pricing relates to its Alguronic Acid line.
The group expects a premium based on tailoring oils that are better fit for purpose, easier to utilize. “For example,” they write, “we believe that our tailored palm kernel oil (PKO+) with a substantially increased concentration of desired components versus conventional PKO would garner a price of over $2,600 per metric ton, as compared to $1,980 per metric ton for conventional PKO.”
Here’s what Solazyme had to say about its range of commercial activities.
In 2010, we launched our first products, the Golden Chlorella line of dietary supplements, as a market development initiative, with current sales of products incorporating Golden Chlorella® at retailers including Whole Foods Market, Inc. (Whole Foods) and General Nutrition Centers, Inc. (GNC).
In March 2011, we launched our Algenist brand for the luxury skin care market through marketing and distribution arrangements with Sephora S.A. (Sephora International), Sephora USA, Inc. (Sephora USA), and QVC, Inc. (QVC). Distribution of our Algenist line of skin care products is expected to reach 850 retail stores worldwide by year end. We have also entered into a joint venture agreement with Therabotanics, LLC (Therabotanics), an affiliate of a leading direct response marketing company, for the sale and distribution of another microalgae-based skin care line to be launched in 2012.
In addition, we are currently engaged in development activities with multiple partners, including Chevron U.S.A. Inc., through its division Chevron Technology Ventures (Chevron), The Dow Chemical Company (Dow), Ecopetrol S.A. (Ecopetrol), Qantas Airways Limited (Qantas) and Conopoco, Inc. d/b/a Unilever (Unilever).
In conjunction with these development activities, we have entered into non-binding letters of intent with Dow and Qantas for the purchase of our products (offtakes). Subject to certain conditions, including entry into a supply agreement, Dow will purchase up to 20 million gallons (76 million liters) of our oils in 2013 rising to up to 60 million gallons (227 million liters) by 2015 and Qantas will purchase a minimum of 200 to 400 million liters of our jet fuel per year.
Our take on price, margin and demand: The demand is strong and the margins look super; on the fuel side, it sure looks more like a series of contracts with the US military more than retail fuels for the passenger vehicle market, for a while longer. In that market, where the Navy expects to be purchasing more than 300 million gallons of renewable drop-in fuels by mid-decade, we don;t yet see a strong competitor emerging to Solazyme, in terms of being able to meet the Solazyme price or production capacity – any time before 2016 or 2017 (and that’s if the competitor’s own costs and scale improvements come more quickly than Solazyme’s).
Bottom line – throwing in the Navy as an existing customer that has signaled a major expansion in demand, if Solazyme hits its cost targets, it has the potential to bring in as much as 1.5 billion litres on the fuel side, and 227 million liters on the chemicals side by 2015. That’s around 1.7 million tons – enough demand to take the company well north of $1B in revenues by mid-decade, without taking into account sales in its nutrition and personal care lines.
For the past couple of years, Solazyme has been producing at contract fermentation facilities, which do not offer the cost or production capacity for the kinds of volumes that are going to be required to fill out these orders and realize Solazyme’s potential.
This month, the company addressed its production capacity needs with this:
In March 2011, we entered into an agreement to purchase a development and commercial production facility with multiple 128,000-liter fermenters, and an annual oil production capacity of over 2,000,000 liters (1,820 metric tons) located in Peoria, Illinois (the Peoria Facility).
OK, here’s the throttle on the company. Unless we’re missing something, the Solazyme process is slow. If it takes “multiple 128,000-liter fermenters” to produce something north of 2 million liters per year, then there are going to be limits to how fast Solazyme can acquire and ramp up production capacity.
The company relates that it has “completed detailed engineering designs for large commercial plants to service our fuels and chemical markets, developed in conjunction with Engineering, Procurement and Construction (EPC) firms Jacobs Engineering Group Inc. and Burns & McDonnell Engineering Co., Inc,” but the amount of capacity that the company would have to build out – and the time, money and aggravation required to do so, is a point that we expect the company will get questions about, as potential investors weigh the massive opportunities produced by Solazyme’s cost breakthroughs and market development efforts – against the practical limitations of how much steel can be put into the ground to realize all these opportunities.
Here’s the scale-up model, as they see it.
“We are pursuing capital efficient access to manufacturing capacity. In the skin and personal care market, we expect to continue to use contract manufacturing and/or the Peoria Facility. We expect further capital efficient scale up in the fuels and chemicals and nutrition markets through partnerships whereby our partners will invest capital and operational resources in building manufacturing capacity, while providing access to feedstock. By working with us, we expect that partners can improve the return they realize on their feedstock while diversifying their businesses beyond current product portfolios. This should enable our partners to obtain higher margins and reduced commodity price volatility.
“For example, in the nutrition market, we recently entered into a 50/50 joint venture with Roquette Frères, S.A. (Roquette), one of the largest global starch and starch-derivatives companies, with the goal of jointly developing, producing and marketing nutrition products worldwide. Roquette has agreed to provide all capital expenditures and working capital required to produce nutrition products for the joint venture (Solazyme Roquette Nutritionals, or the JV). Subject to approval of the board of directors of the JV, Roquette has also agreed to fund an approximately 50,000 metric ton per year facility that is expected to be sited at a Roquette wet mill and owned by the JV.
“In the fuels and chemicals markets, we plan to launch a commercial facility in 2013 and additional commercial capacity in 2014 and 2015. We are currently negotiating with multiple potential feedstock and manufacturing partners in the United States and Latin America. For example, we have signed a development agreement with Ecopetrol, the largest company in Colombia and one of the four major oil companies in Latin America, to evaluate manufacturing options based on Colombian sugarcane feedstock.”
In addition, in December 2010, we signed a non-binding letter of intent with one of the largest sugarcane processing companies in Brazil to form a joint venture and co-locate oil production at one or more of their sugarcane mills, which we believe would provide sufficient sugarcane crush to support manufacturing capacity of over 400,000 metric tons of oil per year.”
The company has a dependency on sugar. Low-cost sugars. Right now, your garden variety sucrose is in the $0.30-$0.34 range. That’s up from around $0.14 per pound a year ago. We don’t expect that Solazyme is going to stick with cane and beet-based sugar in the long-term, but for now, its going to face limitations and risks based on the crush spread between the price of cane and the the price of its oils.
Longer-term, we might expect Solazyme to go through an exercise to determine whether it is better to be located nearer to its feedstocks, or its customers. Right now, its locating where it can find fermentation capacity, but we may well see partners emerge in a variety of geographies, based on seeking higher values and new markets for feedstock – or, more likely, joint venture partners interested in diversifying their supply beyond petroleum, hedging against crude oil price volatility, and increasing the climate sustainability of their high-end products.
We’ve heard that Solazyme are testing results with cellulosic sugars – but there are bound to be challenges in utilizing that less-pure sugar stream, as well as unlocking the value of the C5 sugars as well as the C6 sugars like sucrose that are generally easier for algae to digest.
Bottom line, feedstock is a throttle on growth, until the low-cost cellulosic sugar providers begin to emerge at scale in the marketplace.
“The business enterprise value as of March 7, 2011 was estimated at approximately $507 million based on the application of methods under the market approach and the income approach.”
The Digest’s Bottom Line.
IPO or no-IPO? We see this as a no-brainer. The share valuation? Well, that will depend on the number of shares they are offering. Their latest capital round, last year, valued the company at $8.86 per share, at a time when the company was internally valued at $187 million. and that internal value has shot up by 171 percent since then.