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Ethanol for All, And Then Some

Submitted by on July 2, 2015 – 5:59 pmNo Comment

by Robert Rapier (Investing Daily)  … If less fuel is being produced than the mandated level, it drives up the price of the RIN and in theory increases the incentive to produce the fuel (which is the intent of the system).

For example, in 2013 corn ethanol RINs traded for about $0.75 per RIN, which equates to $0.75 per gallon. That means an obligated party could either purchase a gallon of ethanol for ~$2.50 (the average 2013 price) and receive the RIN (thus reducing their effective purchase price given the compliance requirement), or they could simply purchase the RIN.

This government mandated system distorts the market value of biofuels, and is just one reason why investing in the sector is challenging. Not only are biofuels subject to the typical volatility in the energy sector, but they are also exposed to commodity food prices like corn and soybeans. Add a system of government mandates that could be repealed or rolled back at any time, and you have a sector with a lot of wildcards that could spell the difference between success and failure.

As a result, I seldom recommend biofuel companies to investors. There are simply too many factors beyond an investor’s control. In this week’s MLP Investing Insider, I wrote about the first MLP that is based on transporting and storing ethanol. Last week Green Plains Partners (NASDAQ: GPP) went public as a master limited partnership formed by Green Plains (NASDAQ: GPRE) — the nation’s fourth largest ethanol producer — to provide ethanol and fuel storage, terminal and transportation services for the 1.2 billion gallons of ethanol per year marketed and distributed by its parent.

Compounding the aforementioned risks of volatility tied to fuel prices, grain prices and government policy, this first-of-a-kind MLP is also running an additional risk of an adverse tax ruling by the Internal Revenue Service (IRS). As GPP noted in its prospectus,

“We have not requested a ruling from the Internal Revenue Service, or IRS, with respect to our treatment as a partnership for U.S. federal income tax purposes. The IRS may adopt positions that differ from the conclusions of our counsel expressed in this prospectus or from the positions we take, and the IRS’s positions may ultimately be sustained.”

Of particular note, the prospectus states:

“If the Internal Revenue Service were to contest the U.S. federal income tax positions we take, it may adversely impact the market for our common units, and the costs of any such contest would reduce distributable cash flow to our unitholders.”

Thus, my advice on this newest biofuel-related MLP is the same as my advice on at least 90% of biofuel companies, and that is to tread very cautiously here. There are risks that are different from those of typical midstream oil and gas MLPs. Given the challenges faced by the biofuel industry, this one warrants a wait-and-see approach. However, should it succeed I would expect other ethanol producers to follow suit by launching similar partnerships. READ MORE / MORE

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