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Ethanol's uncertain future grows risk for ADM
By Eric Kroh | Medill News Service
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Published: 11/17/2007 12:36 AM | Updated: 11/20/2007 7:47 AM

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Despite record first-quarter earnings reported Nov. 6 by Archer Daniels Midland Co., the company's good fortune could still turn on a dime.

Some analysts see the Decatur-based company's increasing reliance on its bioproducts division, which makes fuel additive ethanol, as a risky position. Global weather conditions, long-term contracts and politics could all have an unfavorable impact on the company in the future. The analysts foresee lower earnings this fiscal year.

"ADM in general is a pretty volatile business just because inputs and products are tied to commodity markets," said Ann Gilpin, an analyst at Morningstar Inc. in Chicago. "They're a price taker on both ends. An example of where that has hurt them is corn prices."

She notes the company was squeezed in its Sept. 30 quarter by high prices for corn, which ADM converts to ethanol as well as other products, and low prices for ethanol.

While the company reported impressive earnings -- $441 million, or 68 cents per share, compared with $403 million, or 61 cents per share, a year ago -- its bioproducts division posted an $81 million operating loss.

Corn was at its highest price in a decade this summer, while the price of ethanol, in oversupply, fell 30 percent between May and September. In a conference call with investors, company executives warned ethanol prices could fall further.

Robert Moskow, an analyst at Credit Suisse in New York, wrote in a research note he was "skeptical of ADM's strategy toward ethanol expansion."

Analysts estimate ADM's earnings for the year ending June 30 will fall 18 percent to $1.8 billion, or $2.61 per diluted share, from the previous year's $2.2 billion, or $3.30 per share.

Pablo Zuanic, an analyst at JP Morgan, cut his fiscal year 2008 earnings estimate to $2.29 per share from $2.69 because of "lower ethanol price and lower biodiesel earnings assumptions."

Last quarter's earnings of ADM's agricultural services division, a worldwide processor of soybeans, corn and other grains, more than made up for losses in its bioproducts division. Global demand led to an agricultural services operating profit of $229 million, nearly double that of the year-earlier quarter.

Demand grew in developing countries like China and India, whose citizens can increasingly afford more grains and protein. ADM was in a unique position to leverage this demand in part because of disastrous drought conditions in Australia, which have hobbled the country's agriculture industry.

Australia will export an estimated 11,000 kilotons of wheat this year compared with 15,000 kilotons last year, according to the Australian Bureau of Agriculture and Resource Economics. The drought put a "greater onus on the U.S. to provide," Gilpin said.

Despite ADM's long-standing success as an agricultural processor, the company seeks to restyle itself as one of the largest producers of biofuels.

In 2006 ADM brought on Patricia Woertz as CEO. Previously she had been executive vice president of Chevron Corp., a major energy company. ADM even changed its slogan to promote its new energy-minded profile.

"For a long time their slogan was 'supermarket to the world,' " Gilpin said. "Now it's 'resourceful by nature.' They want to be seen as an energy company."

Tapping into the energy market moves the company out from beneath the low profit margins of the company's oilseed processing and agricultural services divisions.

While the company's bioproducts division, which includes ethanol and biodiesel production, accounted for just 7 percent of overall sales for the year ended June 30, it contributed 20 percent of earnings.

The company's production capacity of fuel ethanol is already 14 percent of the nation's total production capacity of 7 billion gallons per year, according to the Renewable Fuels Association. Refineries under construction or expansion will increase ADM's production capacity by half to 1.6 billion gallons per year, the largest in the country.

The company's diversification has allowed it to dodge the losses accrued by other ethanol industry players. Ethanol producer Aventine Renewable Energy Holdings Inc. in Pekin reported negative profit margins in its most recent quarter and has experienced a more than 50 percent decrease in its stock price over the last year.

ADM's biofuels commitment could become perilous, though, if ethanol industry reformers get their way and tariffs and subsidies are repealed.

The company agrees with analysts that ethanol prices will recover in the next year. If this happens, it would relieve some of the pressure on ethanol profit margins.