Executive Cases: Interviews with Senior Executives of Early-Stage Companies:
Aemetis – USA and India
Prepared by George Foster
Aemetis is an international renewable fuels and biochemicals company focused on the development, acquisition and commercialization of innovative technologies that replace traditional petroleum-based products by the conversion of first generation ethanol and biodiesel plants into advanced biorefineries. Worldwide revenues for 2012 were US$ 190 million.
Founded in 2006, Aemetis owns and operates renewable fuel and chemicals facilities in the US and India. Aemetis acquired and operates a 60-million-gallon-per-year (MGY) ethanol plant in Keyes, California, and built and operates a 50 MGY advanced biofuel plant in Kakinada, India. The company also acquired Zymetis Inc. and its patented aerobic, marine microbe that exhibits unique and powerful degradative abilities on a broad-spectrum of feedstocks for the production of renewable chemicals and fuels.
Todd Waltz is Chief Financial Officer at Aemetis. Waltz, a Certified Public Accountant, formerly served 12 years with Apple in finance and accounting operational roles. He served for five years with Litton Industries and worked for five years with audit firm Ernst & Young. Waltz joined Aemetis in 2007 from his position as financial controller of the software division of Apple.
Q1: What was the source of the initial idea, and how did that idea evolve into a viable growing company? How did it change over time?
McAfee: “In 2003, I had co-founded an ethanol company called Pacific Ethanol which had been very successful in raising US$ 570 million of equity and debt capital, including US$ 85 million equity funding by Bill Gates’ Cascade Investments. By 2006, Pacific Ethanol had a market valuation of more than US$ 1 billion. However, the feedstock for Pacific Ethanol’s four biofuel plants was corn, which at the time was receiving significant criticism due to the food vs fuel debate.
“I founded Aemetis in 2006 with the plan that we could: 1) invest in new technologies to enable non-food feedstocks to be used in the production of renewable fuels and chemicals, and 2) reduce capital expenditures and time-to-market by converting existing first-generation corn ethanol plants to these new feedstocks using new technologies.
“Though we had two name changes in the last seven years, the name Aemetis means ‘The One Prudent Wisdom’. By combining the Scottish word ‘Ae’, meaning ‘the one’, and the Greek word ‘Metis’, meaning ‘prudent wisdom’ (Metis is the mother of Athena the goddess of wisdom), “Aemetis” refers to the one prudent wisdom of replacing crude oil with renewable sources of fuels and chemicals.”
Q2: What were the major growth accelerators for your company in the early years of high growth?
McAfee: “The major growth accelerator for Aemetis in its early years was strong investor interest in the replacement of crude oil in the production of fuels. Crude oil rose from approximately US$ 20 a barrel in 2003 to what is now (2013) nearly US$ 100 a barrel. In support of this goal, President George Bush signed a set of mandates into law in mid-2005 and in late 2007 that were important in establishing a market for biofuels and reducing the power of incumbent oil companies that controlled fuel distribution. In December 2007, the expansion of the biofuel mandates allowed visibility until 2022 into the size of the biofuels market in the US.
“We made our decision to construct our first biofuels plant in India as we analysed the world’s lowest cost feedstock was a by-product of palm oil that is extracted in the production of edible palm oil. India is located close to the palm production areas in Malaysia and Indonesia, and in 2007 India adopted favourable tax rules, tariff rates and biodiesel blending targets for biodiesel.
“At the time, the Indian market was attracting foreign investment and the Indian stock market was doing well. We were especially interested in the ability to construct and operate a non-food biofuel plant with the world’s lowest production costs, located in a growing market that is not correlated with the US regulatory and political system.”
Q3: What role did key aspects of the entrepreneurial ecosystem surrounding your company play in the growth of your company?
McAfee: “The ecosystem surrounding our company played a key role in our growth. In both the US and India, the governments provided markets for our products that had not existed previously and may not have been allowed to develop by existing oil-based fuel suppliers. The specialized workforce necessary to produce advanced biofuels was available in California and available from the edible oil industry in India in the east coast region surrounding our Kakinada plant. Initially in 2006, equity investors and commercial banks had a high level of interest in biofuels, but the appetite for traditional and advanced biofuel investments declined dramatically in 2007 and 2008 due to volatile corn ethanol margins and the Great Recession in the US.
“We found that using debt financing from Canada starting in 2008 was an available source of capital for capital intensive biofuel projects, although there were only a small number of potential lenders. Canada did not experience a mortgage crisis and banking difficulties during 2008, and the biofuel industry has received consistent government support in Canada.
“Mentors and advisers played an important role in the growth of Aemetis, with advisers from the diverse industries that are impacted by or support the biofuels industry. Our board members and mentors include executives from oil refining, chemicals, agriculture, government and military backgrounds, in addition to finance, engineering and international trade.
“Favourable regulatory frameworks have been critical to the establishment of the entire biofuel industry. US federal and California state biofuel mandates have been challenged constantly by the oil industry, but the benefits of a non-subsidized, domestic, renewable, low carbon, high octane and cleaner-burning fuel have maintained government policies that expand biofuel use.
“The high level of education and depth of accounting, finance and regulatory experience in Silicon Valley supported our rapid growth. Our CFO and vice-president of finance each worked at Apple for more than 10 years, and the chairman of our audit committee is a veteran CFO of five companies that each generated more than US$ 1 billion of revenues.
“Our 2011 acquisition of Zymetis was a direct result of the impact of the Maryland Biotech Center on biofuel technologies. The availability of scientists and specialized capital equipment enabled the launch of Zymetis by a professor from the university.
“The Silicon Valley support infrastructure for entrepreneurs includes acceptance of the high risks and uncertainty involved with launching new companies. This cultural support allowed Aemetis to quickly move forward on transforming the entire biofuel industry, potentially altering the dynamics of the oil and gas industry, without facing criticism of potential failure in our local area.”
Q4: What key aspects of the entrepreneurial ecosystem surrounding your company that were absent (or existed only in a weak form) created the greatest challenges for growing your company? Please describe and discuss how you met/were impacted by these gaps in the ecosystem and their resultant challenges.
McAfee: “The key missing component of the ecosystem was a lack of access to markets without interference from oil companies, who have direct conflicts of interest with renewable fuel producers. Since oil companies own oil fields and refine oil into gasoline, and often provide fuel distribution and retail sales, oil companies control the sales channel for fuels. The resulting inability of biofuel companies to sell on an even playing field with oil-based gasoline resulted in low margins and reduced market size. Biofuel prices do not reflect the value to the end-user; instead, biofuel prices usually reflect the pricing power of fuel blenders. Even today, ethanol sells at a US$ 0.60 per gallon discount to gasoline, without any federal subsidies to ethanol producers.
“The lack of the availability of financing from equity investors, government loans or commercial banking sources has been an impediment to the growth of biofuels since mid-2006.
“Contributing to the lack of financing is an uncertain regulatory environment at both the state and national levels. Investors are uncertain about the level of national commitment to the replacement of crude oil products in the US, despite ready availability of less expensive, renewable, alternative fuels.
“We have managed through these uncertainties by maintaining a commitment to the simple reality that the cost of producing and refining crude oil is increasing and will continue do so for the foreseeable future. Today, the crude oil industry receives enormous direct and indirect subsidies, including tax-free Master Limited Partnership status (not allowed for biofuel facilities) and large military costs related to wars for the protection of foreign oil fields and shipping lanes.
“Since Aemetis profitably produces fuel that, without federal subsidies, is already less expensive than crude oil, time will work in our favour as we continue to reduce costs and achieve higher margins by the adoption of new technologies and lower-cost feedstocks and processes.”
Q5: At what stage did you invest significant resources seeking to grow your company internationally/beyond your domestic country or region? What factors were pivotal in deciding when to seek growth internationally and where to seek that growth?
McAfee: “We began to invest internationally within one year after founding the company. Our goals were to achieve the use of the lowest cost feedstock from a non-food source and to be able to sell into a large domestic and out to international marketplaces. We found the country of India is close to the lowest-cost edible oil in the world, which is palm oil from Malaysia and Indonesia. The waste product from producing edible palm oil is a non-food feedstock called stearine. Since India is close to the source of palm oil production and is the world’s second-largest consumer of palm oil, it has significant stearine supply available for the production of biodiesel, refined glycerine and other products.
“India’s adoption of a 5% biodiesel blending target, a tariff and a favourable tax rate for biodiesel were significant factors in our decision to construct a biodiesel plant in India. The lower costs of construction and operation of the 50-million-gallon-per-year plant has enabled us to be competitive in supplying Europe with biofuels from our India plant.”
Q6: What were the biggest challenges in building growth internationally? How did you meet or adapt to those challenges?
Waltz: “In India, two of our largest challenges were access to working capital and national policies subsidizing the price of diesel (while not supporting biodiesel).
“We initially sought a term and working capital credit facility with a large bank in India to fund a portion of our India plant construction and operations. We funded a total of about US$ 18 million in equity to the project, and relied upon a US$ 6 million term loan and a US$ 10 million working capital line of credit from a government-owned bank in India. About US$ 4 million of the funding was provided under the term loan when the 2008 financial crisis caused funding to cease. We were able to complete only one of the four planned production units within the plant. With one functioning production unit (biodiesel processing), we were unable to refine natural oils, pre-treat the feedstock or refine the key by-product, glycerine. We were fortunate in having a business partner who had both access to capital and the willingness to extend that capital to us. The agreement involved paying the business partner interest on the funds (approximately 15%), plus an amount equal to 30% of the gross margin from product sales. Our business partner also provided access to a trading platform and guidance on the purchase of feedstock. We were able to leverage our expertise of marketing the production from the plant to achieve positive cash flow in 2009, despite the lack of bank financing.
“India is highly dependent on the use of diesel for transportation, to the extent that the Government saw a need to subsidize the price of diesel, along with food, as a key economic policy. To support political favour with the population, the Government of India provided significant subsidies of about 30% during a time when oil prices were increasing. This subsidy was so large that we were unable to economically sell our product in the domestic market in India and, due to international dumping policies, we were unable to sell our biodiesel product in the international markets in Europe or the US.
“We were in the position of having to wait for petroleum prices to fall or for the Indian Government to lessen or lift the diesel subsidy. While in this waiting period, we sought alternative markets for biodiesel. Initially, we believed a market existed for sales to companies operating large generators as a clean alternative to diesel, but soon learned that the lower price of diesel was a compelling factor against these customers changing their purchase patterns. We then pursued industrial applications, including steel plants and large bakeries looking for a clean burning fuel for their ovens. We found a market supplying biodiesel as a specialty chemical, including lubricants.
“After the rise in the price of crude oil to almost US$ 100 per barrel, we developed a production process that upgrades our biodiesel to meet stringent European market requirements. In 2009, we began shipments to Europe from India and have expanded sales significantly as the less expensive products from our plant replace more expensive, imported, soy-based biodiesel.”
McAfee: “To our knowledge, Aemetis is the only US company that operates any biofuel production facility anywhere in Asia. This unique position allows us to apply US-quality management, accounting, production and engineering systems to meet EU and US standards, while our Asian competitors are plagued with operational and product quality challenges.
“The most frustrating part of operating in India is the inability to achieve logical, beneficial, productive goals due to bureaucratic delays and inefficiency. These delays are often deliberate, with the intention of receiving payment from us before issuing a needed license or approval. The international finance community should understand that systemic failure to enforce the rule of law against government bureaucrats is the primary reason for the inability of India and other under-developed countries to achieve economic progress.”
Q7: What major role, if any, did key aspects of the ecosystem in the country(countries) you first sought international growth either promote or impede your ability to grow in those international markets?
McAfee: “The attractive tax rate of 4% for biodiesel in India, combined with a 5% biodiesel blending target and a 50% biodiesel import tariff, provided a desirable market for investment into India. However, after building the plant, we found that the 4% tax rate was acknowledged by the state in which our plant operated, but they charged a 22.5% tax on our biofuel anyway, ignoring federal tax policies. Due to this heavy tax and an inability to sell in India at a price that paid our costs, we began to export biodiesel to Europe in order to operate our plant. In January 2013, the diesel subsidy of approximately 25% was finally eliminated for government and commercial customers in India, making biodiesel a less expensive alternative. The irrational subsidy of diesel while not supporting biodiesel is now being rationalized.
“The illogical subsidy of high-carbon, expensive, crude oil fuels in India and the US, while simultaneously cancelling or preventing the financial support of biofuels, causes a lack of investor and commercial lending interest in the biofuel market. If a “level playing field” were established between fuels (biofuels are already lower cost, lower carbon and renewable), biofuels would quickly comprise more than 50% of the diesel market in India and 30% of the gasoline market in the US. Only by benefiting from a non-level playing field does crude oil gasoline maintain its 90% market share in the US, while crude oil diesel holds nearly a 100% market share in India.”
Q8: Seeking international growth often has both high moments and dark (low) moments. Briefly describe one high moment and one dark (low) moment in seeking international growth.
McAfee: “A high moment in India was experienced in January 2013 when the government finally terminated most of the subsidy of our competitive product, diesel, allowing us to sell biodiesel domestically. The full removal of the subsidy will gradually occur over the next year, but the mere prospect of competing in a non-subsidized market has opened new channels and brought new customers for our India plant.
“Frankly, there were a series of low moments in our India business, beginning with the state bank failing to fund US$ 2 million of the US$ 6 million loan, and then failing to fund any of the US$ 10 million working capital line of credit in 2008. Without this financing, we were sunk. We were able to arrange very expensive financing with an industry partner and now, five years later, the state bank is in the process of approving US$ 10 million working capital financing. With this financing, our India plant will be able to operate at full capacity and sell to both domestic and international customers.”