Valero Betting on Ethanol's Future

Optimism of an economic rebound, Chinese lawmaker's recent call for the nation to build up its emergency strategic reserves, and continuing extremist attacks in oil-rich Nigeria all contributed to crude prices increasing about $10 over the last month.

With gasoline prices at the pump having climbed to yearly highs—higher than 2009 levels—mirroring rising oil, analysts expect the slow but steady surge to continue as winter breaks and warm-weather U.S. gas demand starts to put pressure on supplies (many experts predict gas will top $3 per gallon some time this spring).
 
The global financial crisis has battered the green energy sector. The biofuels industry has been no exception. In the most recent quarter Ethanol stocks had their worst three-month run since 2008. In the last four years, three of the largest ethanol producers have sought Chapter 11 bankruptcy protection and Ethanol prices have plummeted more than 60% from record highs reached in mid-2006. But the tide is starting to change. Ethanol prices have been creeping up since the end of 2009, and analysts are bullish, forecasting a spike of as much as 20% by the summer driving season peak.

Valero Renewable Fuels Co., a subsidiary of oil giant Valero Energy Corp. (NYSE:VLO), has been aggressively expanding its holdings since entering the ethanol production business last year. It has already become the third-largest ethanol producer in the United States, with 10 plants with a combined capacity of 1.1 billion gallons of ethanol per year.

While its competitors have struggled, the Nebraska-based company posted record profits of $23.1 million in the fourth quarter, up from a $1.85 million loss in 2009 and is fresh off of its most impressive year since going public in 2006.

But Valero has had its problems. Chief Executive Officer Bill Klesse said this week at the IHS Cambridge Energy Research Associates energy conference in Houston that the company is considering selling its refinery on the Caribbean island Aruba, which has been dormant since last year (the operation was hemorrhaging cash and the firm has been involved in a tax dispute with the Aruban government). Klesse also said Valero may finalize a deal later this month to sell its money-losing former 210,000 barrel-per-day oil refinery in Delaware City, Delaware to European outfit PBF Investments.

Even so, if ethanol prices continue their upward trend and the U.S. Congress votes to extend existing biofuel tax credits, given the growing demand for the fuel alternative, Valero stands to profit handsomely this year and beyond.