There’s a lot of happy feelings toward ethanol and a renewed sense of anger towards big oil over high gas prices - hopefully not caused by huffing the respective fumes. I guess it must be fear over the summer driving and hurricane seasons, but whatever the cause, I think both sentiments are exaggerated. Big oil isn’t as bad as it is made out to be and conversely, ethanol isn’t as great as people like to believe. The average U.S. gasoline prices rose 34% over the past year and while that’s not going to bring a smile to anyone, I am curious where is the anger about ethanol prices? They have gone up over 160% over the same time period and the pace is accelerating. Are the politicians going to call for an investigation into ethanol price gouging? What about a windfall profits tax on ethanol companies? For those people that complained about favorable tax breaks for big oil, how do you feel about the $0.51 per gallon subsidy for ethanol producers? When MTBE was thrown out for its effects on health and environment, it traded for about about $1.99 per gallon. Now we have ethanol taking its place at almost twice that price. Is someone taking advantage of a government mandated monopoly?

I understand the desire to reduce our dependence on foreign oil and to protect our environment, but I thought the main motivation and source of the anger was the price at the pump. Ethanol is getting more than a free pass despite that it is increasing the cost of filling our tanks - not to mention that it reduces our mpg(15 percent to 25 percent less engine performance than gasoline).

To lower prices on ethanol, we need more production capacity and lower input costs. Congress got in the game by passing the Energy Policy Act of 2005, which expects us to use 7.5 billion gallons of renewable fuel (like ethanol) in America’s fuel supply by 2012 — compared to 4 billion gallons used in 2005. 43 new ethanol plants opened last year and combined with this year’s new construction, supply will likely exceed 8 billion gallons by the end of 2008, well ahead of the government’s schedule. As for lowering input costs, corn prices are skyrocketing and unless we can convert all the current US farmland to solely corn and guarantee perfect growing conditions, I expect that will continue. Switching away from corn to other feedstocks will take time and will face similar issues. In summary, future ethanol prices will be extremely tough to predict and if we switch to the panacea of being like Brazil, we will have to suffer through a tremendous amount of commodity volatility (just substitute oil for corn, sugar, and weather factors.)

All of this has me concerned about the valuations of ethanol companies. Currently, PEIX is trading at 5 times sales and the newest entry, VSE is trading at 11 times sales. I’d like to discuss PEs but they are either nonexistent or not worth quoting. What does a 500 or 1,000 PE mean anyway? Like most alternative energy stocks, these companies seem like nothing other than momentum-based plays that trade purely on technicals. To buy them, you apparently have to ignore fundamental disciplines and use huge growth assumptions over a very long time period. Sounds like 1999 to me. These companies are debt heavy and to achieve growth, they have to build plants based upon ridiculously high ethanol prices for years into the future. I don’t think that’s realistic and expect that a dose of reality will hit. Besides, if ethanol companies are going to solely be used as a subsitute for big oil companies, then the valuation multiples should apply. After all, if people are so angry with XOM, COP, CVX at 10 times earnings and 1 times sales, sooner or later they are going to be angry with ethanol companies.