Road getting bumpy for ethanol plants

The list of potential Hoosier ethanol plants is nothing short of astounding for a state that had just one ethanol-fuel distillery
as recently as 2005.

Beyond the six ethanol plants now operating and six others under construction, Purdue University agricultural economist Chris
Hurt counts 27 others under consideration for Indiana.

If built, at full capacity they'd make 3.3 billion gallons of the biofuel per year using 1.2 billion bushels of corn–more
than the 894 million bushels Purdue estimates Indiana corn farmers will produce this year.

"That's 39 plants," Hurt said. "That's really an excess."

But tightening margins for ethanol are likely to weed out many, if not most, hoped-for plants not already under way in Indiana,
industry watchers say.

While disappointing for some investors hoping to profit from the alcohol-fuels industry, worsening market conditions could
be just the cup of black coffee needed after a dizzying ramp-up.

The kernel of the problem: The price of corn to make ethanol has soared, thanks to strong demand–while purchases of ethanol
by oil refiners have flattened.

The first alarm in Indiana rang in October, when South Dakota-based VeraSun Energy suspended construction of a 110-million-gallon-a-year
plant in Reynolds, north of Lafayette, citing deteriorating market conditions. It had the makings of a political bad hair
day, as Reynolds is the centerpiece of Gov. Mitch Daniels' initiative to make Indiana a dynamo in the production of ethanol
and biodiesel.

The reaction was, "That might be the bellwether," said Vince Griffin, vice president of energy and environmental
policy at the Indiana Chamber of Commerce.

If market conditions persist, "probably, the odds are there will only be one or two more built in the next several years"
statewide, Hurt predicted.

"The strong will survive," said Nathan Feltman, Indiana secretary of commerce. "We think it's an industry
that's not going to evaporate."

Ken Klemme, deputy director of the Indiana State Department of Agriculture, said he's not heard of other refiners here
planning to shelve plans just yet. Besides, he noted, "the market is cyclical."

Even if not all the plants with intentions for Indiana go online, more than $2 billion in capital likely will be invested
here by ethanol operations, he estimated.

The average 100-million-gallon plant uses 35 million bushels of corn a year, boosting by 5 or 10 cents a bushel the price
of corn in an area, Klemme said. That can put an extra $3.5 million a year into farmers' pockets.

"For corn farmers, it's fat city right now," Griffin said.

Add to that what those farmers spend in the community and the 40 to 50 jobs a plant typically creates.

"It's very substantial activity already," Klemme said.

Embracing ethanol

But the deteriorating market conditions for ethanol won't be a boon to some hopeful investors, ranging from big New York
funds to Indiana farm folk. They've poured billions of dollars into ethanol-refining firms in Indiana and around the Corn
Belt over the last few years.

One such marvel of grass-roots capitalism is Cardinal Ethanol, the brainchild of east-central Indiana farmers. After making
pitches in Veterans of Foreign Wars halls with all the fervor of a political campaign, Cardinal's principals harvested
more than $70 million in a public offering last year. People from farmers to pharmacists bought a stake in the $158 million
plant under construction near Union City, north of Richmond. Many are motivated by patriotism–seeing ethanol as a small way
to prevent the Middle East from sticking it to American motorists.

Though work progresses on the 100-million-gallon plant, Cardinal officials did not return telephone calls about how the downturn
may affect their project.

Some investors are growing wary of ethanol. At least that's what an executive of New York-based U.S. Ethanol Holdings
told Muncie officials about why construction hadn't started on a $160 million plant near Muncie.

High hopes

Ethanol seemed like such a sure bet.

In early 2005, as part of his State of the Union address, President George Bush called for greater use of renewable fuels.
Soon, federal legislation emerged that required oil refiners to stir in at least 7.5 billion gallons of renewable fuels by
2012.

If that didn't inspire oil refiners, problems with fuel-additive MTBE did.

Last year, the federal government yanked liability protection for refiners that blended the fuel additive into gasoline.
MTBE makes fuel burn cleaner, but is a suspected carcinogen and has been banned in several states for contaminating ground
water.

Oil companies rushed to buy ethanol to replace MTBE. The margins for ethanol refiners suddenly were intoxicating. At one
point, corn sold for about $2 a bushel while ethanol fetched more than $4 a gallon.

Last spring and summer, margins were so good that "the payback on plants got down to as low as six months," Purdue's
Hurt said. "This created a gold rush mentality. … It just attracted money from everywhere."

But visions of an endless demand for ethanol evaporated.

Many oil refiners added only enough ethanol to replace MTBE. As a result, "ethanol has hit a blending wall," Hurt
said.

Not only that, but many oil refineries don't have the infrastructure to accept and store big deliveries of ethanol shipped
by rail from the Corn Belt.

Also not helpful was that many a gas station operator balked at investing sometimes $200,000 on separate tanks and equipment
to dispense E85, a blend of 85-percent ethanol and 15-percent gasoline.

Many drivers of cars that can burn E85 try a tank or two, until they realize ethanol's fuel economy is roughly 30-percent
less than gasoline's, Hurt said. That makes E85 most attractive only when the fuel sells at a substantial discount to
gasoline.

Making matters worse, U.S. ethanol refiners ramped up production so fast that they can now produce 7.2 billion gallons of
ethanol a year-just shy of the federal mandate of 7.5 billion gallons by 2012.

And the industry is still expanding. An estimated 6 billion gallons of additional ethanol capacity are coming online as plants
now under construction are completed.

"The E85 market, from what we can see right now, is going to struggle to absorb that 6 billion gallons of ethanol,"
Hurt said.

So the ethanol industry is urging Congress to raise the mandated amount of ethanol that refiners must blend into gasoline.
Livestock farmers and food processors that use corn are pushing back, arguing that additional demand for corn will push prices
even higher.

Industry parallel?

For now, margins stink for most ethanol producers. They could sell a gallon for more than $4 last year when oil refiners
couldn't get enough of it, but now the at-plant price is about $1.80. Meanwhile, corn is flirting with $4 a bushel.

The economics have improved a bit in recent weeks.

"The industry, we think, is about break-even today" for construction of a new plant, Hurt said.

Griffin sees a potential parallel between ethanol and so-called merchant power plants that brought scads of investors to
Indiana in the late 1990s. Back then, the price of natural gas to power those electric plants was low. And they didn't
spew as much pollution as coal. One New Jersey company alone invested upwards of $1 billion for a merchant plant near Lawrenceburg,
Griffin recalled.

"You saw the same kind of rush to the altar. Everybody was thinking it was a get-rich-quick opportunity," he said.

But natural gas prices later soared. Merchant plants were sold and resold.

Ethanol refiners that survive may be those with the lowest costs, most versatile plants and most marketing acumen.

South Dakota-based Poet LLC, which claims to be the world's largest ethanol maker, has one Hoosier plant, in Portland,
in east-central Indiana. Two more are under construction in Alexandria and North Manchester.

One of Poet's keys to success has been a byproduct of ethanol production–distiller's grain, which it sells as livestock
feed. Its Dakota Gold brand has carved out a substantial market share.

The company, with 21 ethanol plants around the country, also figures it's learned how to drop a plant into an emerging
market with relative ease, complete with a program to quickly train local employees, said Larry Ward, Poet's vice president
of development.

That helps it quickly enter promising new markets like Indiana, he said, "a part of the Corn Belt that hadn't been
developed" for biofuel refining.

As for the current margin squeeze, Poet takes a longer-term view. For example, in 1996, when corn was at a stratospheric
$5 a bushel, "we built two plants that year," Ward said. "There's a lot of opportunity for demand growth"
down the road.

Here to stay

Indeed, despite mangled margins and media reports of ethanol's demise, the industry is anything but dead, Purdue's
Hurt insisted. Rather, it's going through growing pains.

He sees the mismatch between supply and demand eventually coming in line. New technologies that use the corn stalk rather
than the kernel also could put the economics back in ethanol's favor and alleviate pressures on the food and animal-feed
sectors. If claims of new enzymes being developed are to be believed, ethanol could even be made from certain types of grasses
that grow abundantly or from wood chips.

Even if Indiana, the nation's No. 5 corn-producing state, winds up with only a dozen or so ethanol plants, it's a
long way from having just one a couple of years ago, Feltman said. "We were not even on the map."