On November 5, renewable oil producer Solazyme (SZYM) announced its ongoing development of a C8-C10 rich oil. Briefly summarized in a single presentation slide, a novel oil profile capable of significantly increasing the efficiency of existing supply lines was introduced to the world. Yet the news was quickly overshadowed by the disappointment of a facility construction delay, which temporarily pushed back the commercial timeline for the late-stage development company. Following these announcements during the latest quarterly results, Solazyme's stock proceeded to fall over 20% in the days to follow.
While traders appear laser-focused on the near-term commercialization of a technology that has been under development for more than a decade, the long-term value of Solazyme remains inclined to be defined by the depths of its intellectual property. Facing limited competition in the present, Solazyme has been aggressively designing new oils capable of emphasizing specific traits that can translate into greater value for existing market players. With each new oil profile, Solazyme effectively claims additional territory when it comes to the future production rights of these valuable products.
Just as agroscience companies successfully dominated the world of agricultural crops, Solazyme is now capitalizing upon its unique advantages when it comes to specialized oil development. While companies like Monsanto (MON) and DuPont (DD) have attempted to address these markets through seed technology, Solazyme has sought to develop these markets through a far more efficient process. The company's trait modifications to date have proven to be far superior than what is possible with existing oilseed research. A look at the chart below demonstrates both the effectiveness of these trait improvements and the vast differences in process time needed to accomplish the task.
The Caprylic-Capric Platform
Solazyme is currently using its oil-tailoring capability to exaggerate particular oil characteristics which can significantly uplift the value of its customized oil as a whole. This brings us to the new C8-C10 rich oil, which is appropriately labeled as Solazyme's Caprylic-Capric Platform. The oil profile contains a high concentration of C8 and C10 fatty acids which are useful for the end markets of lubricants, nutrition, oleochemicals, and personal care.
These C8 and C10 fatty acids are currently derived from coconut oil and palm kernel oil. But as seen in the chart below, Solazyme's oil contains more than four times the amount of caprylic and capric fatty acids. In order to achieve the same yield, a customer must purchase more than four times the amount of coconut oil just to match the volume derived from Solazyme's oil.
To further complicate the issue, both coconut oil and palm kernel oil exist in fragile markets subject to significant amounts of price volatility. A large part of this reason is due to the geographic constraint of a tropical environment. In the past decade alone, coconut oil prices have fluctuated over 400% as seen in my other article found here. With an understanding that more than four times the amount of coconut oil is needed to match Solazyme's productivity, it is clear that the world could use a commercially viable alternative that can detach itself from this geographically bound resource.
Assessing The Market Price of Solazyme's Oil
Typically, caprylic and capric triglycerides [CCT] are formed from this very specific fraction of coconut and palm kernel oil fatty acids. Through esterfication and by using only the C8 and C10 fatty acids derived from these oils, CCTs can be made. This suggests that the coconut oil must be broken down, the fatty acids must then be filtered out, and a synthetic triglyceride must subsequently be reconstructed. Therefore, in theory one can loosely derive the value of Solazyme's oil on the basis of its content yield.
According to advertising suppliers found here and here on Alibaba.com, CCT sells within an approximate price range of $3,000- $4,500 per metric ton. Based on multiple shipment records from Zauba.com as of December 1, CCT was roughly imported between a more narrow range of 230,000 INR to 245,000 INR per metric ton. With $1 US Dollar trading for 62.39 Indian Rupees, this suggests that prices for CCT sold for approximately $3,700 - $3,900/MT. For our calculation, we will use $3,800/MT as an approximate market price for CCT.
Assuming a 65% yield of C8-C10 fatty acids for Solazyme's oil, it would take 1.54 MT in order to create 1 MT of CCT. Dividing our market price of $3,800/MT by 1.54, we can roughly approximate that Solazyme's new oil can fetch a market price of $2467/MT based on the current market price of CCT. Referring to the company table found below, we see that this price appears to be very close to the company's target ASP figure.
A Look At Solazyme's Growing Market
The table shown above continues to expand as Solazyme develops new oil profiles specifically tailored to address key oil and oil derivative markets. In each instance, the company is creating new intellectual property in oils which can supplement, replicate, or outperform the existing alternative. Should any of these products begin to take market share away from the competition, one can imagine that Solazyme's intellectual property will begin to steadily increase in value. This bodes well for a company operating in a "greenfield" industry armed with a highly productive research advantage over the competition.
But beyond the intangible value, investors can look forward to a very profitable enterprise in the making. When Solazyme filed its Form S-1 found here, the company believed its lead algae strains demonstrated metrics which suggested that oils could be produced at a cost at or below $1,000/MT. Naturally, this is dependent on a fully ramped-up operation at a built-for-purpose commercial facility. It is also dependent on the stability of input costs. Since 2011, both of these requirements remain on course. Construction of the first facility nears completion and the price of sugar has slightly fallen.
As of the last price of $8.96 on November 29, Solazyme now carries a market capitalization of $611 million. Without a large-scale commercial facility, Solazyme continues to operate at a loss as it spends heavily on research & development. Research and development expenses accounted for a little over 50% of the company's total expenses. With an established technology platform, it remains likely that R&D expenses could significantly decline if the company finds itself low on cash. At the same time, while the true value of the intellectual property being developed is unlikely to be realized in the present, investors should begin to assess the long-term potential of its future value.
Solazyme remains well-capitalized in the present based on its existing cash reserves. As of September 30, Solazyme had $194.4 million in cash and short-term investments. In the last quarter, the company took a loss from operations of $24.1 million. Of this amount, $17.6 million was due to ongoing R&D expenses. Based on the latest projections by management, Solazyme expects to be cash-flow positive in early 2015 as operations ramp up at its first facilities.
According to the market reaction following the latest quarterly results, it remains clear that investors continue to neglect the long-term value found in the intellectual property being developed at Solazyme. Instead, traders continue to squarely focus on the prospect of near-term profitability and the timeline to commercial operations. Nevertheless, it is important to remember that Solazyme's current technology platform outperforms that of existing players such as Monsanto and DuPont. While Solazyme is proving the flexibility of heterotrophic microalgae, it is these companies who must rely on a slow seed-based development cycle.
At the same time, Solazyme continues to prove that its technology can generate significant advances in oil design. The company's latest profile under development has already pushed the amount of C8 and C10 fatty acids well beyond what is possible in coconut oil. With every new oil profile, Solazyme increases its chances of securing a noteworthy position in a market of tomorrow. This will become increasingly more relevant as its future manufacturing capacity begins to come online.