Identifying and Evaluating Risk Management Strategies for Alternative Energy Crops

1. Identifying and Evaluating Risk Management Strategies for Alternative Energy Crops Joe L. Outlaw Professor & Extension Economist Co-Director, AFPC James W. Richardson Regents Professor & Co-Director, AFPC David P. Anderson Professor & Extension Economist 2011 Extension Risk Management Education National Conference St. Louis, MO April 13, 2011

2. Energy Crops Presentation Outline • RFS 2 • Alternative Energy Crops • Major Areas of Risk • Managing Risks • Conclusions

3. Renewable Fuel Standard – RFS 2 • Energy Independence and Security Act of 2007 • 36 billion gallons of biofuel by 2022 15 B gal conventional (“Corn Ethanol”) • 21 B gal of 2nd generation biofuel • 16 B gal of cellulosic (primarily cellulosic ethanol) • 4 B gal of advanced biofuel; 1 B gal of biomass based diesel

4. Sources:  Nebraska Ethanol Board, Lincoln, NE.  Nebraska Energy Office, Lincoln, NE.

5. Historical and Projected Ethanol Dry Mill Net Returns Source: FAPRI January 2011 Baseline

6. Alternative Energy Crops • Not focusing on current feedstocks with established markets • Ex. Corn, sunflowers, soybeans • Partial list of other dedicated energy crops Sweet sorghum  Biomass sorghum Energy cane Switchgrass Napier grass Miscanthus Miscane Sorcane Palm Safflower Castor Camelina Jatropha Algae**

8. Food vs. Fuel Land Issue Respondents to a Biofuels Digest survey in Florida 12 percent said it was immoral “to use crops that are generally used for animal feed to make energy or fuel”. 15 percent said it was immoral “to use a (human) food crop at any time to make energy or fuel” 24 percent said it was immoral “to convert land that is used for growing (human) food crops to the production of energy or fuel.” Less than <1% thought use of ag waste for biofuel was immoral, but 5% said immoral to use forest residues if it is collected in the forest 45% voted immoral to convert land used for conservation, national parks, or forests Only 6% said it was immoral to convert land that can grow crops to biofuel feedstock production Source: Biofuels Digest April 6, 2011

9. Futures Contract Closing Prices As of 4/05/11 Commodity Contract Close Corn Dec-2011 6.46 Soybeans Sep-2011 13.83 Wheat Jul-2011 8.22 Cotton Dec-2011 1.3776 Rice Sep-2011 15.165

10. U.S. Land Most Likely to be Used for Dedicated Energy Crops Sources: USDA-ERS and USDA-NASS, Census of Agriculture, Various Issues.

11. Francis Epplin, “Biomass: Producer Choices, Production Costs and Potential”, presented at the Transition to a Bioeconomy: The Role of Extension in Energy Conference, June 30-July 1, 2009, Little Rock, Arkansas.

12. Major Areas of Risk • Everyone will categorize/define differently • Production - risks within the business • Market/Price - risks outside the business • Counterparty - risks with entities outside the business • Government/Policy - risks resulting from government involvement or a change in government involvement

13. Francis Epplin, “Biomass: Producer Choices, Production Costs and Potential”, presented at the Transition to a Bioeconomy: The Role of Extension in Energy Conference, June 30-July 1, 2009, Little Rock, Arkansas.

14. Production • Seed availability and suited for their soils • Weather • Drought • Flood • Rain, but not timely • Not when needed or at harvest • Fire • Tracts (large and small) of dry matter • Won’t be near a fire hydrant • Also in storage facility

15. Risk for Switchgrass Yields on a Typical Tennessee Farm Tons/Acre

16. Feedstock Availability Risk MT Camelina Yield Risk Lb./Ac

17. Market • Input Prices • Output Prices • Plant not operational • Depending on an economically viable conversion system • Whatever the business model is – that it’s profitable • Competitive position with fossil fuels • Uncertain as to how many acres will be contracted each year • Limited alternative uses for feedstock – can you feed it? • How Do You Overcome the Lack of Established Markets? • Cross Hedging • Contracts • Contract has to cover: • Costs of establishment • Opportunity costs

18. Source: Agricultural Prices, National Agricultural Statistics Service, USDA.

19. Contracts • Contract establishes a safety net • Establishment costs • Price • Volume • Term • What happens if terms violated • Exits • Needs to be flexible • Ex. Fuel clause that adjusts the contract value upwards if fuel costs increase

20. Counterparty • The risk to each party of a contract that the counterparty will not live up to its contractual obligations. • Fancy way to say default risk • Ex. VeraSun, Pilgrims

21. Government/Policy Risk • Volumetric Ethanol Excise Tax Credit (VEETC) • RFS II • Import Tariff • Biomass Crop Assistance Program

22. Managing Risks • Production • No government subsidized crop insurance for most dedicated energy crops – yet • Self insure • Market • Contracting, hedging(if possible), etc • Counterparty • Choose business partners wisely • Some state’s initiating funds • Government/Policy • Don’t include incentives in business plan

23. Conclusions • Going to have to incentivize producers to grow dedicated energy crops • Will be a lot of different types of risk than producers are used to dealing with • Ex. NO MARKET for my crop instead of situations of unacceptable price • Relative prices between fossil fuels and ethanol/biodiesel and competing crops and dedicated energy crops will drive industry