Keys to Successful Equity Drives

Ethanol plant developers should be able to find ample equity for sound, well-managed projects. Nevertheless, the structures upon which to build equity are still being tweaked.
By Nicholas Zeman | March 06, 2007
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As the build-out of the ethanol industry continues many project developers have found the keys to raising equity. Before an equity drive can be launched, however, there must be a pool of equity with which to draw from. Some industry analysts would argue that the equity pool for ethanol projects is shrinking, especially as certain areas of the country have become saturated with ethanol plants. Others, including USDA Undersecretary for Rural Development Thomas Dorr, believe there's plenty of equity available for project developers with effective equity drive strategies. "There's around 11 percent debt against all farm and ranchland assets," Dorr says. That's the lowest debt-to-equity ratio in the history of U.S. farm records. "So we recognize that there is a vast equity pool out there." That equity pool provides the opportunity to pursue new projects, and it has provided the opportunity to build the ethanol industry. The flip side is that there are a lot of unknowns and experimentation often travels with speculators, who happen to be holding the purse strings. "It's important for people to remember that we're building out an entirely new industry," Dorr says. "Everyone is still searching for just the right business model, the right regulatory model, the right financial model."

Indeed, there are many ways for new ethanol projects to raise their equity requirements and the field is basically wide open as to how it gets done. "There is no right or wrong way to raise equity," says Ed Stahl of BBI International's project development division. "From a project development standpoint you want to get it done as fast as possible, and that probably means lining up big-money investors," Stahl says. "On the other hand, a project's very intention may be to provide local development."

That's exactly what Tom Branhan, CEO of Glacial Lakes Energy LLC, had in mind when the company was looking for funds to expand in South Dakota. Only residents of the state were eligible to invest during the company's equity drive. Making appearances in Watertown, Aberdeen and Vermillion, Branhan raised $95 million from over 3,500 investors in just three days with no out-state or corporate dollars to build two plants capable of producing a total of 160 MMgy. "You always fear that you're not going to be able to raise enough money, but three meetings surpassed what even I thought we would be able to do," Branhan says.

Others, however, have found that in-state-only equity drive funding opportunities can be limited. "If there's an in-state-only public offering specific to Iowa, for example, where there are a lot of ethanol projects the area may already be tapped out," Stahl says. "A big unknown that we are about to find out is, 'Which trends will emerge as things tighten-up?'"

Some project developers prefer to raise money on a regional level. Midwest Grain Processors Cooperative (MGP) Chairman David Nelson says that his commitment was to agricultural producers when the cooperative was offering investment opportunities in its expansion plans. MGP is currently expanding its Lakota, Iowa, plant, and building a new facility in Belmond, Iowa. Like Branhan, Nelson wants as little corporate money as possible involved with the cooperative's projects. "Our strategy in Belmond is to give farmers in 14 states all of the projects they want before we look to outside equity partners." In addition, MGP wants its expansion projects to be structured so that current owners realize the full value of their shares, while still allowing the business to grow. "It's getting more complicated," Nelson says. "We've had to create a separate entity so we aren't dilutive to our original investors."

Pyramid Building
While developers are still looking for the perfect equity-building method for new ethanol projects, traditional models like the "pyramid" remain reliable. In a financial pyramid the bulk of the assets are in safe, low-risk investments that provide the base for the structure. Next, some money is invested in stocks and bonds that provide good income and the possibility for long-term growth of capital. The money at the top usually comes from big-money players who are taking a considerable risk, but will be rewarded substantially when the project succeeds.

"The so-called pyramid of financing indicates that we will have a large number of investors," says Don Sargeant, chairman of Minnesota-based Agassiz Energy LLC, which plans to build an ethanol plant near Erskine, Minn. "We are currently compiling a large list of prospects, and will probably have 800 or more investors." Agassiz, named for the ancient lake that used to dominate the region, will offer investment shares in Minnesota, North Dakota and South Dakota during its equity drive that will start this spring, Sargeant says.

In some instances, where a great deal of money needs to be raised in a short amount of time, a company may not be able to raise the equity it needs at "$100,000 a pop," says Kevin Kuykendall, CEO of White Energy LLC, an investment subsidiary of White Ventures Ltd. a Dallas-based venture capital firm. The company's strategy is to secure 500 MMgy to 700 MMgy in production capacity through acquisitions and greenfield construction. Specifically, White Energy is building a 100 MMgy plant in Hereford, Texas, and last summer purchased U.S. Energy Partners, a Russell, Kan., facility that has been touted as one of the nation's most innovative ethanol plants.

With such an ambitious strategy, White Energy required the support of some deep-pocketed investors and got it. Los Angeles-based Ares Management LLC and Columbus Nova, the U.S-based investment arm of Russia's Renova Group, sponsored $99.5 million of the equity toward White Energy's purchase of U.S. Energy Partners. The New York office of West LB, AG provided $173.5 million of senior secured debt, fully underwritten and secured by the assets of the company, according to a company release.

Standing Out in the Field
Ideally, investors want a 25 percent to 30 percent return on investment, but with the cost of projects going up, the cost of grain going up and the cost of ethanol going down, there are a number of factors putting the squeeze on returns. Therefore, the competition to attract the attention of investors is fierce, Kuykendall says. One way to make a project more inviting is to line up a capable design-build team who can complete the project for a reasonable price. Agassiz Energy postponed its equity drive and decided to find a new design-build firm when the projected price of its project increased. "The price we were given was much too high," Sargeant says. "We didn't think it was wise to pay more for our start-up when there is so much competition."

Industry experts say that two years ago the price of a plant didn't greatly impact returns, however, stainless steel and labor—two necessities in the construction of ethanol plants—have caused expenses to grow exponentially in recent months. It's likely that start-up costs will be affecting returns even more in the near future. "There's a big difference between building gallons and producing gallons," Nelson says. "Production gallons generate income while construction gallons may not see any revenue for years."

In addition, as corn prices continue to escalate, Branhan believes that who the investors are in a particular plant might provide a competitive advantage in securing the commodity. "Because of our core values, and the fact that many of our investors are corn growers, they have a loyalty to the plant," he says. "That means they're going to bring the corn [to Glacial Lakes] before they ship it out somewhere else—that strategy is working by the way."

That could give locally owned models, such as those represented by White Energy and Glacial Lakes, an advantage when competing for commodities and services. Dorr disagrees however, saying that there's no such thing as loyalty in commodity markets. "I know that markets work," he says. "Growers are going to sell to the highest bidder, plants are going to buy from the lowest [priced] seller."

With market volatility and fierce competition, the right management team is an increasingly important asset for developing companies. Investors want to be confident in a management team's ability to reduce risks on the front-end and create new revenue streams. "You really have to go out with a good plan," Nelson says. "We've been focusing on reducing the risks on our commodities—we have most of our alcohol sold for the next year, most of our corn bought."

There's enough awareness by now about performance and the key variables involved with operating an ethanol plant that it's assumed that a well-managed plant is going to have a competitive advantage in the marketplace, Stahl says. So investors are looking at a company's management team as much or more important than any other aspect of the project. "We had a top-tier management team already in place before we even began raising equity," Kuykendall says, adding that the founders provided the necessary resources to recruit an excellent management team from the outset. Kuykendall believes this helped White Energy's ambitious projects get financed quickly. In fact, the competition to become a part of White Energy allowed the company to be selective. "I wanted investors who would make White Energy their platform on renewable energy," Kuykendall says. "I didn't want partners who were invested in five or six other plants and would have us all competing against each other."

Of course, investors continually seek the deal that provides the greatest reward for the least amount of risk, but ultimately, the ethanol industry currently enjoys a significant amount of security. "A well-built, well-conceived, well-managed ethanol plant should have no problem securing equity," Stahl says. "If it is struggling, it's probably lacking in one of these areas." While the fever has died down, and the flash-in-the-pan investors that jumped into ethanol last year to make a quick buck are scarce, there will continue to be ample funds available. "With the major political, economical, environmental and social commitment [to renewable fuels] there are numerous parties interested in financing this industry," Dorr says.

Nicholas Zeman is an Ethanol Producer Magazine staff writer. Reach him at or (701)746-8385.