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Rough Times for Corn Ethanol


AgMRC Renewable Energy & Climate Change Newsletter
March 2013

Don Hofstrand
Professor Emeritus
Iowa State University
dhof@iastate.edu

The 2012 calendar year was an unprecidented rough financial time for corn ethanol
production according to the Iowa State University Extension ethanol production model
(insert link to model) that represents a typical 100 million gallon corn-ethanol facility in
Iowa.  A monthly average loss occurred in every month of 2012. 

The major culprit was high corn prices.  The widespread Midwest drought led to low corn
yields and high prices.  As shown in Figure 1, the cost of corn for ethanol production (and
consequently total cost) was higher than any other year in recent history.  Although 2011
corn prices rivaled those of 2012, the  average 2012 price of nearly seven dollars per
bushel was over 30 cents higher than the previous year.  During the last six months of
2012, corn price averaged $7.60 cents, over one dollar higher than the same time period
during the previous year. Another price impacting the cost of producing ethanol was
natural gas which averaged slightly less in 2012 than 2011.  However, natural gas was such
a small cost component relative to corn that its offset against higher corn price was very
modest.

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On the revenue side of the equation, ethanol price was high during 2012 but not high
enough to fully offset the higher corn prices.  As shown in Figure 2, ethanol price averaged
$2.24 per gallon in 2012, which is high by historic standards, but  30 cents lower than the
previous year.  By contrast, dry distillers grains price was a record high at $238 per ton, $40
higher than the previous year.  However, the distillers grains revenue was not large enough
to offset the lower ethanol revenue.  So total revenue was 30 cents per gallon below the
previous year. 

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According to the Iowa State University Extension ethanol model, monthly ethanol profits
were negative throughout 2012, as shown in Figure 3.  Although there were months of
losses in previous years, 2012 was the first year the model showed an annual loss.  The
2012 annual average loss was nine cents per gallon, well below the 2005-2012 average
profit of 30 cents per gallon and far below the average profit of $1.09 per gallon in 2006.   
Similarly, the return on equity was a negative 8 percent in 2012, well below the 2005-2012
average return of 26 percent and far below the annual average return of 94 percent in
2006. 

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Although return over all costs was negative during 2012, return over variable costs was
positive, as shown in Figure 5.  Variable costs include corn, natural gas, chemicals and other
direct costs.  It does not include the fixed costs of depreciation, interest, labor and taxes
which are incurred regardless of whether the facility is operating or not.  Return over
variable costs is often used as the marker to determine if production should be continued
or suspended.  As long as sufficient returns are generated to cover variable costs and at
least a portion of the fixed costs, it is feasible to continue producing, because fixed costs
are incurred even if production suspended as indicated above. 

Another benchmark is the “grind margin”,  Grind Margin is computed as revenue (ethanol
and DDGS sales) less the cost of corn and the energy needed to operate the facility.  As
shown in Figure 4, the grind margin was positive for 2012 and averaged 30 cents per
gallon. 

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Looking at ethanol production from the perspective of its supply chain (ethanol production
plus corn production), the supply chain was profitable in 2012 and the profits went to the
corn farmer, as shown in Figure xxx.  The red line (white dots) at the top of the figure is
ethanol revenue (similar to Figure 2).  The remainder of the figure shows the various corn
and ethanol costs associated with producing the ethanol revenue.  The gray area below the
revenue line represents the cost of producing ethanol, not including corn.  The orange line
at the bottom of the gray area is the ethanol production breakeven price for purchasing
corn. 

The green area at the bottom of the chart represents the cost of the production inputs of
producing the corn (seed, fertilizer, machinery, labor, etc.).  The blue area above the green
area is the cropland cash rent associated with securing the cropland on which to produce
the corn.  The dark blue line is the breakeven corn selling price for the corn farmer.  As
expected, the per bushel cost of producing the 2012 corn crop is high due to the drought
reduced yield of 2012. The white area between the blue and orange lines is the supply
chain profits.  It is the area above the breakeven corn selling price for the corn farmer and
below the breakeven corn purchase price for the ethanol producer.  Although the supply
chain profit is not as great as for 2010 and 2011, it is well above the marginal supply chain
profits for 2008 and 2009.

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The red line (yellow dots) represents corn price which essentially allocates the profit (or
loss) between the corn farmer and the ethanol producer.  The corn price allocated virtually
all of the profits from the 2010 and 2011 corn crops to the corn farmer.  During 2012 the
corn price has allocated more than the supply chain profits to the corn farmer.  This has
resulted in the ethanol producer losses.

Conclusion

So where do we go from here?  On the corn side of the equation the next few months will
focus on concerns about whether corn prices have risen enough to ration the limited 2012
corn supply.  Also, there is potential for continued high corn prices due to a continuation of
the Midwest drought.  Conversely, a return to normal yields when the drought ends,
whether it is 2013 or a subsequent year, when measured against the backdrop of drought
reduced corn usage, could result in lower corn prices. 

Although current gasoline prices are high, the long-term expectation of lower energy prices
due to the emergence of shale oil and gas, in concert with the emerging trend towards
lower U.S. gasoline consumption, may lead to lower ethanol prices and usage.  The
resistance against reduced usage is the increase in the annual U.S. government mandate
for more corn-ethanol production.  Without the mandate, the market would still utilize
ethanol as an octane enhancer, which would require ethanol blending of three to five
percent of the gasoline supply.  However, the market would probably not accept ethanol

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above this level because ethanol would then become a direct substitute for gasoline.  Due
to ethanol’s low energy content compared to gasoline, ethanol would probably not flow
into the gasoline market at current ethanol prices.  So the wild ride will probably continue
into 2013 and beyond. 

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