Redemption for Sacramento ethanol maker, but criticisms persist

Source: By Dale Kasler, Sacramento Bee • Posted: Monday, June 30, 2014

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  • GDI2HR204.8Multimedia Photojournalist

Pacific Ethanol CEO Neil Koehler, standing by fermention tanks and pipes on “fermentation alley” Thursday at the company’s Stockton plant, has seen the market for ethanol rebound.

These are days of sweet vindication for Neil Koehler, a Sacramento business executive who has spent his career pursuing a single goal: to get Americans to pump more ethanol into their gas tanks.

Working with a passion bordering on obsessiveness, Koehler has overcome resistance from the oil industry, scorn from environmentalists and skepticism from regulators. He persevered after dismal market forces crushed his industry and bankrupted the mini-empire of ethanol factories he built along the West Coast less than a decade ago.

Now the market has come back and Koehler is on a roll. Ethanol has become a staple of American motoring; nearly every gallon of gas sold in the United States contains about a pint of ethanol. Koehler’s company, Pacific Ethanol Inc. of Sacramento, will likely crack the $1 billion-a-year mark in revenue in 2014. Profits have soared, assorted financial crises have passed and bankruptcy is in the rearview mirror.

“Those were hard years, but we didn’t give up,” said Koehler, president and chief executive of Pacific Ethanol. “We had complete faith and belief in what we were doing.”

An organic gardener and Green Party member who lives in Davis, Koehler, 56, sees ethanol as a moral imperative as much as a business. As a renewable fuel, with almost every gallon in America made from corn, ethanol can help clean the air, curb global warming and reduce America’s dependence on oil, Koehler says.

“I really feel like a missionary on this thing,” said Koehler, who has been interviewed on CNBC and other national networks about ethanol. “The truth is so clear to me on the environmental, economic, energy security of what we’re doing.”

Pacific Ethanol’s plant in Stockton symbolizes the industry’s comeback. The $130 million plant had been open only a few months before a collapse in market prices forced its shutdown in early 2009. Reopened two years later, it pumps out 60 million gallons of fuel a year from a labyrinth of pipes and valves, the smell of yeast filling the air.

On a recent weekday, Koehler proudly displayed two byproducts made at the plant: corn oil sold to poultry farmers and a spongy substance called wet distiller’s grain, which is used in dairy feed.

“Cows love it,” Koehler said, grabbing a pinch of grain off the ground and popping it into his mouth.

Critics take a less romantic view of ethanol and how it’s made.

Many environmentalists say ethanol’s green credentials have been oversold; some say it’s no better than gasoline. They say mass production of ethanol has prompted farmers to rip up pastureland to plant corn, a process that releases carbon into the atmosphere. They argue that America would do better to encourage a new, cleaner generation of biofuels that won’t crowd out the nation’s food supply.

Lately, it seems the critics are gaining traction. Policymakers at the state and national levels have resisted proposals to increase the ethanol content in gasoline beyond the current 10 percent standard, which has been in effect since 2010 in California and 2012 nationwide. Their explanation is that pushing ethanol to 15 percent or beyond would create mechanical problems, such as possible corrosion in fuel lines.

With gasoline consumption falling, the Environmental Protection Agency also has proposed easing a federal mandate, first enacted in 2005, that requires oil refiners to use ethanol in ever-increasing amounts. The EPA’s reasoning: Unless the mandate is dialed back, refiners would be forced to exceed the 10 percent standard. Under the EPA’s proposal, usage would fall to 15.2 billion gallons this year from 16.5 billion gallons last year.

Even with these setbacks, experts say ethanol is in no danger of disappearing. Political support in Congress is still fairly strong, and exports are perking up. “They’ve got an established market. An ethanol blend is pretty much universal,” said Rick Kment of commodities news service DTN.

Koehler is adamant that America should blend more ethanol into its gasoline. “Increasing the level of biofuels in the transportation mix is in the best interests of this country,” he said. “We all know that cars can run … on more than 10 percent blends.”

Glut tanks prices

A political science major from Pomona College, Koehler (pronounced “curler”) first learned about ethanol while working for the state Department of Food and Agriculture in the early 1980s. He liked the idea of tackling Big Oil, and went to work at California’s first ethanol plant, a small Rancho Cucamonga facility that used beer and soda syrup as raw materials. He quickly became a policy advocate, spending time in Sacramento to press regulators about using ethanol in California cars.

Back then, ethanol was mostly unknown outside the Midwest corn belt. Yet California needed a fuel additive to reduce smog and help meet air-quality standards, and ethanol fit the bill. The state’s refineries began incorporating ethanol into their blends in limited amounts in the early 2000s.

Because of its chemical properties, however, ethanol wasn’t wholeheartedly embraced by California regulators. Officials at the California Air Resources Board said the use of ethanol during summer would actually worsen the state’s smog problem.

The state’s reluctance clashed with federal policy. Washington had been backing ethanol since the early 1980s, when it granted a federal tax credit to encourage refiners to use the fuel. By the time it finally expired in 2012, the credit amounted to 51 cents a gallon. In 2005, Congress enacted the mandate requiring billions of gallons of ethanol use.

So when California asked for a waiver of federal clean-air rules, to limit the use of ethanol to cool-weather months, the EPA refused. Twice.

In 2007, though, California did a major about-face. Notwithstanding its concerns about smog, theAir Resources Board ordered refiners to nearly double the percentage of ethanol they used in every gallon, to 10 percent, starting in 2010. Egged on by then-Gov. Arnold Schwarzenegger, who was championing California’s fight against climate change, the board said higher concentrations of ethanol would reduce greenhouse gases.

By the time the Air Resources Board acted, an ethanol boom was getting under way. Lured by government policies mandating the use of ethanol, big money was pouring into the industry. Koehler teamed up with Bill Jones, California’s former Republican secretary of state and founder of Pacific Ethanol. The two men got an $84 million investment from Microsoft’s Bill Gates, and by 2008 they had opened four plants.

Then the crash came. The mad rush to build plants across the country produced a glut of fuel. At the same time, corn prices spiked. Profit margins evaporated.

Pacific Ethanol was $300 million in debt and nearly out of cash. It was reduced to penny-stock status when its shares fell below $1 on Nasdaq.

In 2009, Pacific Ethanol put its four plants into Chapter 11 bankruptcy protection. Three of the plants were shut down, with only the Oregon facility operating.

Profit ‘off the charts’

Bankruptcy saved Pacific Ethanol. Lenders took control of the four plants but canceled $200 million in debt.

With so many producers failing, ethanol prices firmed up. Corn prices eased. And Pacific Ethanol slowly rebounded. It generated revenue by marketing ethanol made by others, gradually bought back control of its plants and started them back up.

Its fortunes turned dicey again in 2012, when a spike in corn prices cut into profit margins, and last spring Pacific Ethanol was struggling to make a $4 million debt payment. Failure to pay would have triggered defaults on $100 million worth of loans in total, according to Securities and Exchange Commission filings.

Pacific Ethanol made it, though. Through a complicated series of transactions, it raised $14 million from private investors and persuaded bankers to extend the maturities on looming repayments.

“We were virtually out of cash,” Koehler said. The saving grace, he said, was “we had lenders that … were convinced that having this thing crash and burn was not their best recovery.”

With the latest crisis over, Pacific Ethanol caught the wave of the industry’s most successful year ever. Profit margins expanded as ethanol prices inched up and, more importantly, corn prices fell sharply.

The Sacramento company’s sales hit a record $908 million in 2013. Operating income totaled $18.9 million, although debt and some non-cash expenses left the company in the red on a bottom-line basis. In April, Pacific Ethanol raised $26 million in a stock offering and brought the last of the mothballed plants, in Madera, back into production.

“The experience of Pacific Ethanol is completely consistent with the rest of the industry,” said Scott Irwin, a University of Illinois farm economist. “The level of profit is off the charts.”

But Koehler says his work is far from complete. His firm, working with various tech companies, is trying to develop cleaner fuels made out of raw materials such as wheat straw and other crop residues. In part because of their molecular properties, these fuels are expected to do a better job of fighting global warming.

Today, the fuel made at Pacific Ethanol’s California plants is 20 percent lower in carbon than gasoline. That’s according to the California Air Resources Board, which measures everything from tailpipe emissions to the volume of carbon generated by the farming of corn.

Other biofuels score better, including imported sugarcane ethanol from Brazil.

“There are many other fuels, alternatives, that are lower in carbon,” said Dan Sperling, a member of the Air Resources Board and a UC Davis professor.

But Sperling and other experts said most of the ultra-clean fuels are in early stages of development, leaving corn ethanol as the only economically viable option to oil. “Wheat straws and rice straws and orchard prunings and construction waste, it’s a whole new challenge,” Koehler said.

In the meantime, Koehler said his ethanol is climate-friendly and economical. For those who want to claim otherwise, he’s ready for a debate.

“It’s part of what gets me up in the morning,” Koehler said. “We’re going to continue to fight the good fight.”

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