The End of the Great Big Easy: Cleantech, in a post-stimulus world

January 26, 2014 |

the-big-easyAs Dr. Johnson said, “Nothing focuses the mind like the prospect of a hanging”.

Now, 2014 really gets underway, complete with a stock market plunge.

So, have you identified every piece of a fortress-like strategy, secured  the resources, tied up partners needed for success in the bioeconomy?

If not, read on.

The economy of 2009-2013 wasn’t any picnic — but two ferries provided reliable passage across dark waters — that is to say, central bank or direct-from-government stimulus, and the surging economy in China that drove a commodities boom.

As stock markets now begin to tumble at the outset of 2014, in recognition that these two engines of the big bull market of 2013 are sputtering — 2014-15 looms as a transitional period. Pre-profit technologies with value propositions anchored to externalities — such as reducing emissions, or enhancing energy security — are the ones that will feel the pain, first and foremost.

Now — if your technology is already at scale, your market based on drop-in molecules for which credit-worthy customers are ready with purchase orders, your access to expansion capital secure, your operating permits in hand, your feedstock available and affordable, and your costs at or below the costs of incumbent petroleum or natural gas — not much will happen to bother you in 2014-15.

And there won’t be much in today’s Digest column to enlighten you.

For the rest — you’ll need a bridge over troubled waters, and in today’s Digest, we examine the available pathways through the Perfect Storm.

Remembering that good companies make money in easy markets, but great companies make money in tough markets.

Remembering also that no matter what you have read about energy security, emissions, and economic development — the bioeconomy has to be about superior returns for quality investors. 

Now, in today’s Digest we won’t be looking, as we often do, at the new opportunities in addressable markets. Today, we will be looking at what Robert Caro, in his biography of Lyndon Johnson’s rise to the presidency, called “the means of ascent”.

Which is to say, what choo-choo do you have tickets on, by which you propose to cross the shifting, swirling economic Sahara now just around the corner?

Your technology: we love you, you’re perfect, now change

Suffice to say, your technology is your mighty sword, but armies need to eat, march and find the battlefield.

So, you must put your hot technology aside. Everyone thinks they have a hot technology — and probably you do — but it’s not enough. Not near enough. Especially if you are not already at scale, and not already beating the pants off fossil petroleum and gas.

(And keep in mind that’s it not exactly glory days for Brazilian ethanol, which is already at scale and regularly beats the pants off fossil petroleum and gas.)

In the coming market there is no long-term survival without beating the pants off fossil petroleum and gas. Policy supports are transitory. “Parity” only works so long as oil & gas prices never drop into price troughs that have been putting biobased business plans into the morgue for more than a generation.

Think like the Viet Cong

When you are small and weak you must turn your disadvantage into an advantage. For example, you can move quickly, you can survive on opportunities in small markets. You have the advantage of surprise because, generally speaking, everyone underestimates you.

The Three Must-Haves

They are three and there is no surprise at all in their identity. They are capital, feedstock and market access. But how are you going about it?

1. Feedstock.

Here is the First Ironclad Law of Making Money in the Bioeconomy. Absent any other factors, all value uncovered by new biobased technology will transfer to the landowner.

Let’s explore that for a moment. Let’s take a well-known value add such as a first-generation corn ethanol plant. Prices for good farming land in the general vicinity of a good ethanol plant have soared in recent years. Some acreages go for as much as $16,000 per — unheard of just a few years back. (Why? Not, as generally supposed, because ethanol has locked in high corn prices. Rather, because ethanol has decreased the risk of price crashes.)

The way around? There are generally two strategies.

1. Growers become investors in biobased value-add technology at scale, even more urgently than downstream companies that market or use the molecules (e.g. refiners, chemical companies, customers like airlines or the US Navy). This way, the value-add is not divided up between competing parties

2. Super long-term feedstock contracts — in the 20 year range — that allow the venture to amortize the cost of a generation of technology against a certain cost and flow of feedstock.

Which is to say, spot market buying creates price and margin uncertainty in the short term – fatal to capital-formation. In the long-term, value will transfer not to the value-adding technology but the land that provides the feedstock. Because the grower can move the feedstock to other buyers at a lower costs than you can move the plant to other growers.

2. Capital.

The Second Ironclad Law of making money in the bioeconomy. Absent any other factors, you will never raise the capital for world-class scale at affordable prices.

For the simple reasons that new technology always costs more, and has more risk, in the early days — and traditionally, technology recoups that cost and survives that risk by selling superior-performance at high prices to limited markets. But you don’t get to sell into the fuel markets at $2,000 per gallon, by targeting early adopters. You have to make a performance-equivalent molecule — and meet the commodity price, from day one.

The work-around? There are generally two strategies.

1. Raising money from funds targeted to your technology. Early stage, the path is well known: cleantech venture funds, and biobased government or corporate research programs. At scale? Tougher. You will need equity from feedstock owners, strategics seeking diversification of supply for large markets where the risk from petroleum or gas is greater than the risk of your technology failing, and debt from green bonds.

2. Raising capital from sovereign funds — those that feel at risk from petroleum, or have a stake in the value-add provided by the technology — in the form of risk insurance that enables you to compete for traditional project finance.

Let me give you an example outside of the cleantech world. Due to a series of catastrophic losses, the flood insurance market for coastal Florida real estate collapsed. Absent flood insurance, no mortgage would be available at standard rates. Everyone could see the potential for Florida to sink into the abyss of a land bust. So, in steps the state government with a new state entity, Citizens, to provide flood insurance — which is to say, risk insurance. All without the devastating critique that accompanied the like of Solyndra loan guarantees or Obamacare — even though they also play in the fields of re-assigning risk.

3. Market access.

The Third Ironclad Law of making money in the bioeconomy. Absent any other factors, you will never gain market access for new molecules at affordable prices.

Now, take note of “new molecules”. That’s not the same as “drop-in”. And, molecules that “blend in” up to a certain percentage are somewhere in between — in the short-term, they can have opportunities like drop-ins, but in the long-term they face challenges of a new molecule.

The powerful inertial force you must overcome is the infrastructure design of industrialized nations. Market access is more than a flex-fuel car or a blender pump or a storage take or a pipeline, though it is all those things.

When it comes to fuels, market access includes the very design of cities. Cities that feature 5-mile commutes because of mixed-use development or hub-and-spoke transport systems are infinitely better suited to, say, plug-in electric cars, than cities based on suburban sprawls that feature 75-mile each-way work commutes. And with those suburban sprawls, you need lots more infrastructure to cover a market and sell much less product per outlet.

The work-around? There are generally two strategies.

1. Sell into markets with concentrated distribution and/or facing a round of capital-equipment replacement, anyway. For example, selling your new molecule as a feedstock for someone else’s industrial process — that’s just one set of infrastructure challenges at one place, and if they are building or upgrading the plant for other reasons, that helps.

As another example: the right time to install a blender pump is when the old pump becomes outdated. One of the reasons why your new best friends should be those organizations that are pushing for infrastructure change on other grounds, e,g. environmental. Remember the impact that the need to move away from MTBE had on stimulating interest in ethanol.

As a third example — think corporate fleets, such as heavy trucks and especially those that need range (where electrics or natgas might not suffice).

2. Distribute back up the value chain. Target farmers, small towns in rural areas, fleets involved in waste logistics, areas where technology suppliers are concentrated. They will not be able to overcome complete lack of practical market access any more than anyone else, but they drive that extra mile to buy, choose the higher blend, and talk up the new molecules to other pioneers and early adopters.

The Bottom Line

These are examples of work-arounds. There are other strategies that are in development — that need to be watched.

But woe betide you if all you are doing is thinking about your technology and assuming that someone else is figuring out feedstock, capital formation and market access in your behalf.

There was an old business saying that went something like this: would you rather invest in a company with a brilliant technology that was run by yahoos you can’t trust, or invest in a company with a me-too technology that was run by Warren Buffett and Bill Gates? Generally, the market consistently chooses the latter.

Why? Because dudes who’ve been around know that getting the externalities right is just as important as the technology itself. One of the reasons that Microsoft’s success was built, fundamentally, on a QDOS technology is didn’t even develop, but bought from someone else. Renaming it MS-DOS, and getting the right terms of market access right (i.e. IBM to market it, and a licensing strategy), they beat the world.

Deservedly. Because they got the big things right.

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