No, the green movement won’t just go away. Consumers continue to demand more earth-friendly products. A sense of urgency over climate change and OPEC’s stranglehold over our oil supply continues. We continue to seek alternatives. But alternative energy’s next wave needs to prove it can sustain once the hype dies down.

Take ethanol. At first glance, 2006 looked like a great year to be in the ethanol business. Shares of Pacific Ethanol were on fire, shattering the $20 mark by the end of March. By May, shares broke $40. Bill Gates’ millions helped jump-start the stock, and new government mandates all but ensured the success of the corn-to-fuel business.

As time would soon tell, the spring of 2006 proved to be a great time to sell your ethanol holdings. Pacific Ethanol’s light is not shining quite as brightly as it once was. The stock is more than 98% off its 2006 high, and Gates is steadily unwinding his stake in the company.

Pacific has been plagued with problems recently. The company’s most recent annual report is chock-full of problems, including violations of some debt covenants and other shenanigans involving the company’s line of credit (You can read a good synopsis here.)

But the bigger problem is that you can’t sell ethanol for more than it costs to make it. One would think that would kill this business off entirely. But thanks to inexplicable government support and backward-thinking energy legislation, ethanol production will most likely continue despite the tough lessons we’ve learned.

So the big question remains — can someone successfully develop an alternative energy source that will actually make money?

Do the Math: 20,000 > 28

When you look at the numbers, one particular alternative energy source makes a whole lot of sense: algae. One acre of corn gives you 28 gallons of oil in a year. An acre of algae can yield anywhere between 20,000-100,000 gallons of oil per year. No wonder the updated 2007 Energy Independence and Security Act supports extracting fuels from algae.

While the algae fuel field is not completely crowded, multiple players are developing, harvesting and extracting systems that could one day be industry-standard designs. In as little as three years, we could see a powerful new energy industry.

Chevron and Shell have started exploring the possibilities of algae. There are also a few small companies that are working on the technology. Below are three penny stocks in the algae fuel business. All of these stocks have a market cap under $2 million, a share price under 10 cents, and can be found on the Pink Sheets and Over-the-Counter Bulletin Board:

• GreenShift Corporation (OTC: GERS)
• Nanoforce Inc. (PINK: NNFC)
• PetroSun Inc. (PINK: PSUD)

With the coming transition to alternative fuels, early investors in algae oil stand to claim some huge gains if this technology takes off…

Best,
Greg Guenthner

January 20, 2009

Algae Oil Penny Stocks Set to Soar was originally featured in the Penny Sleuth.

The cost to actually make and transport the ethanol is where it gets hairy. I’ve seen literally hundreds of scenarios, some saying that it costs the equivalent of three barrels of ethanol to make just one barrel of the fuel.

But ethanol proponents have made the argument that there are more costs associated with gasoline production than with ethanol. Some ethanol freaks will argue the “true cost” of a gallon of gas…one telling MSNBC.com it would be more accurate to assume prices to be around $5 a gallon (that is, if you choose to include things like the money it takes to support the military forces that are protecting our overseas oil supplies).

And location is also creating problems in the ethanol world. Ethanol’s main ingredient — corn — is plentiful in the rural Midwest, but not so much in the populated coastal areas of the country.

Think about it this way: the population of North Dakota is about 640,000 people, whereas the population of the Washington D.C. area (including the Maryland and Virginia suburbs) is almost six million. So an ethanol plant in North Dakota’s corn country would have to be able to get its product to the relatively corn-free capital.

This feat would be simple if the ethanol-gasoline mixture could be piped straight from the refinery to the populated East Coast like pure gasoline. But an ethanol-gasoline mixture can’t be piped, because the two ingredients separate, which could cause the fuel to damage a car’s engine. Ethanol has to be transported by rail, a much more costly endeavor than sending it through a pipe.

More on that from MSNBC:

“‘Corn is in the center of the country and gasoline consumers are on the coasts,’ he [Dr. Darren Hudson, a professor of agricultural economics at Mississippi State University] said. ‘So transportation costs can be quite high — roughly double the cost of shipping gasoline’ or about $1.20 per gallon of ethanol.”

Then there’s the ongoing problem with “reformulated gasoline” — required in some areas that have strict clean air standards. There is a cheaper additive, called MBTE, which has been widely used, and even required in some states (Maryland used MTBE for years). But as it turned out, gas companies found that MTBE had the ability to creep through underground gas tanks into the groundwater. Some have tried to link MTBE with cancer, especially in rural areas where residents rely on well water. So much for cleaner air…

And the EPA has already recommended that MTBE be phased out nationally…and a buyout is in the works which will pay oil companies and refiners some $1.75 billion to phase out production — further cementing ethanol’s fate as MTBE’s replacement.

MSNBC reports that reformulated gasoline is required in nine major metropolitan areas with the worst ozone air pollution problems and in other areas that have voluntarily chosen to use the fuel — this will be a huge market.

Solutions

Small ethanol companies can eventually solve these problems by developing cheaper and more transportable blends of ethanol fuels, and investors who recognize their achievements early will reap the rewards. Here’s what to look for:

1. The most obvious of the three: Look for a company that can make ethanol cheaper than the
3-to-1 ratio mentioned earlier through a new or improved process. This could include using a mix of products, like ethanol from corn along with a  bioethanol made from various waste products. There will always be a cost argument associated with ethanol, but the main argument for its implementation is to reduce dependence on foreign oil. So making the fuel on the cheap is an added bonus — and one that will naturally the ethanol producers the most customers.

2. Solving the transportation dilemma should be right up some small-cap chemical company’s alley. Finding an economic way to transport an ethanol-gasoline mixture through a pipeline will be a huge breakthrough — whether through a special chemical additive or an improved blending/manufacturing process. This would naturally solve the price argument as well by eliminating a majority of the transportation costs. If you find a company that can do this, you’ve found a winner.

3. Create a cleaner-burning ethanol blend. A company needs to come along that can silence the critics and cement ethanol as the only option for MTBE replacement. Ethanol reduces a lot of emissions, but Dr. Hudson noted that if it does not burn properly, burning the fuel can increase nitrous oxides. Again, this is something that could be within reach for a small-cap chemical or ethanol company over the next few years.

There’s no question that the ethanol market is growing leaps and bounds. And as with any new trend in business, the ones that innovate and stay ahead of the game are the ones that see success year after year.

Small-Caps Could Solve the Ethanol Dilemma Part 2 was originally featured in the Penny Sleuth.