Battered VeraSun shifts course

VeraSun Energy Corp., a troubled South Dakota ethanol company, has hired Morgan Stanley to help it "evaluate strategic alternatives."

The move came this week after the Brookings, S.D., firm ran into financial trouble hedging the price of corn -- the base ingredient in ethanol -- then forecast a big third-quarter loss and pulled a planned 23-million-share public offering.

Officials of VeraSun, a leading ethanol producer, could not be reached for comment Friday. It's unclear whether the company wants to sell itself, find a partner or sell some of its assets.

VeraSun has 16 ethanol plants in eight states, including two in Minnesota, one of which is under construction. The company also markets E85, a blend of 85 percent ethanol and 15 percent gasoline used by flexible-fuel vehicles.

VeraSun previously disclosed that it had used commodity hedging strategies to lock in the price of corn at midyear, around the time corn prices reached $8 a bushel. Corn prices sank below $5 a bushel in mid-August, but VeraSun was obligated to pay $6.75 to $7 a bushel during the third quarter.

The resulting third-quarter loss was projected to be between $63 million and $103 million.

VeraSun's stock price plummeted 73 percent on Wednesday to close at $1.41 per share. The stock closed Friday at $1.72, up 26 cents or 18 percent.

"I wouldn't entirely blame management," said Pavel Molchanov, an analyst with Raymond James and Associates in Houston. "The extraordinary commodity price volatility of the last three months is not something companies put in their business model."

While sources of ethanol other than corn are being sought, analysts said actual ethanol production using less expensive grass or wood chips is probably three to five years away.

VeraSun isn't the only ethanol company that hedges corn prices, Molchanov said. The trouble is that the ethanol industry is so depressed and its producers are so financially stretched that a single major mistake such as VeraSun's can be disastrous.

The turmoil on Wall Street has complicated matters by making it virtually impossible for an ethanol company to borrow money, he said.

According to Molchanov, an oversupply of ethanol has driven prices down, while, at the same time, the cost of the corn used to make ethanol remains higher than it was a year ago.

Ethanol makers increased annual U.S. ethanol production capacity by 60 percent in the past year in the belief that federal energy initiatives and expensive oil would expand the ethanol market. But it seems they overshot in a period of price volatility for corn and oil. As a result, ethanol profit margins have been squeezed and some investors have become wary.

Construction funding at risk

"These ethanol companies have stretched themselves with aggressive growth and expansion plans as a result of the popularity of ethanol," said Ron Oster, an analyst at Broadpoint Capital in St. Louis. "I remain cautious about the outlook for their profit margins well into 2009 because of the price of corn."

As a result of the stressed ethanol industry and today's tight credit, "there are a number of ethanol plants under construction that may have difficulty getting the final piece of financing to complete them," Oster said. "So you could see more distressed assets going on the market."

Minneapolis-based Dougherty Funding is already coping with one ethanol plant failure near Pratt, Kan. Dougherty filed a federal lawsuit in Kansas in May seeking to recover about $63 million that it says it lent to Gateway Ethanol. The plant opened in October, but has closed as a result of storm damage and high corn prices.

Dougherty wants the court to appoint a receiver to preserve the assets.

On Wednesday, Aventine Renewable Energy Holdings of Pekin, Ill., said it might issue new debt and shares or delay construction of some of its plants to shore up its cash position.

Steve Alexander • 612-673-4553