Pacific Ethanol Continues Slide

In June 2006, I warned about Pacific Ethanol (PEIX) in response to a story suggesting that the company presented a great investment opportunity:

Ethanol Investing: Counterpoint

Some excerpts of what I wrote:

I will make the case that many claims regarding ethanol are overblown, and some are simply fiction. I will also take a look at Pacific Ethanol to show why I think the underlying fundamentals make it a very risky investment.

Local grain supplies, preferably within 50 miles of the plant, are important for keeping costs down. It will probably be cheaper for a producer to produce ethanol in the Corn Belt, and then ship the ethanol to California than it would be to ship the corn there and produce it locally. There is a reason that California is not a hotbed of ethanol activity, despite the fact that Californians consume ethanol. It’s too far from the corn, so it is more cost effective to ship in finished ethanol.

This is not high tech, but this is how companies like PEIX are being valued. It is simply too easy to get into this business, and success is highly dependent on continued government mandates. Maybe someday cellulosic ethanol – the much touted next generation of ethanol technology – will warrant these kinds of valuations. I have great hope for cellulosic ethanol, and believe it can eventually make a contribution. But for now, I don’t think the underlying fundamentals warrant the valuations placed on grain ethanol producers – especially those far from corn supplies.

On the date that article was published, PEIX closed at $22.54. I wrote an update three months later after the price had fallen 38%. Yesterday, PEIX released earnings, and their stock fell to $6.89 – down 69% from the first article I wrote warning that PEIX was overpriced. Some excerpts from a story on their earnings:

NEW YORK (Associated Press) – Pacific Ethanol Inc. swung to a loss in the third quarter due to inventory write-downs as the price of ethanol fell dramatically, the company said Friday.

The ethanol producer posted a loss of $5.9 million, or 15 cents per share, versus profit of $2.7 million, or 7 cents per share, a year earlier.

Ethanol prices have fallen as supplies expanded faster than demand. At the same time, prices for ethanol’s main feedstock, corn, rose dramatically, further hurting profit margins.

Pacific Ethanol shares dropped to a new low of $7.13, down 69 cents of 8.8 percent, in morning trading.

Of course people continue to think that these are buying opportunities, and they keep losing money. Like this guy, who responded to an article I wrote about Bill Gates’ PEIX investment. For him, it was a buying opportunity. Of course share prices have fallen another 20% since then.

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