Aemetis (NASDAQ:AMTX) is an interesting company at the cutting edge of the biofuel industry. It recently obtained NASDAQ listing and closed Friday at $7.75 a share. AMTX's corporate strategy is to take first generation ethanol and biodiesel plants and upgrade them to convert non-food feedstocks into ethanol and diesel fuel. It has two plants, one in Keyes, California, and one in Kakinada, India.
A more detailed explanation of the technology is available in a detailed presentation on the company's website. At the Keyes plant, sorghum and other non-food feedstocks can be converted into ethanol. There are rather complex regulatory policies which create various advantages for AMTX at both the state and federal level. In addition, the fact that the plant has waterway access provides it with the ability to obtain feedstock from a variety of sources (including foreign sources). As a result, the plant's operations generate significant operating cash flow.
The plant in India did not contribute anything like capacity to first quarter results, but should generate more cash flow for the rest of the year. As discussed in the firm's June 5 Business Update conference call (a transcript is available on the AMTX website), the India plant has been in the process of being upgraded and therefore operated well below capacity in the 4th quarter of 2013 and the 1st quarter of 2014. The work should be completed in the current quarter. After the work is completed, the plant will be able to operate with considerably more output than the level in the 1st quarter. The India plant has recently obtained approval to sell Category 2 biofuels into the EU market; this status generally generates higher margins for the producer. In addition, the plant will benefit from the recent action by the Indian government to remove subsidies from diesel fuel because this will enable the biodiesel produced at the plant to sell at a higher price in the India market. The India plant produces biodiesel, refined glycerin and refined palm oil and is located near waterways so that the biodiesel can be transported for sale to the European market (the refined glycerin is sold to the pharmaceutical industry). Thus, by the third quarter of this year, the India plant should enhance AMTX's cash flow to levels above the first quarter's results.
AMTX really stands at the threshold of the future for the biofuels industry. As the industry matures and grows, it will be advantageous to transition its plants that have the flexibility to use non-food feedstocks. The world's growing population will put pressure on food supply and this will likely lead to higher prices in the long term and political pressure to avoid diverting products which could be used for food.
There are also advantages in having the flexibility to switch feedstocks in response to price, regulatory treatment and availability. AMTX has a sophisticated management which will be constantly optimizing resources in terms of price and availability. The location of both plants near waterways also provides flexibility in selecting feedstocks.
Various regulatory policies (described in more detail in the above-referenced presentation on the AMTX website) also tend to favor AMTX's operation. The Keyes plant generates Renewable Identification Number (RIN) credits in the RIN 5 category which are of special value in the ethanol market. It also receives advantageous treatment under the California Low Carbon Fuel Standard program. This treatment allows AMTX to sell ethanol at a premium price because blenders are not required to purchase as many carbon credits as generally necessary.
Even without the input of the India plant, the first quarter results were impressive. Earnings per share came in at 34 cents. The company had roughly $80 million in net debt at the end of the quarter, and a considerable amount was paid off in the first quarter. Interest expense was nearly 15 cents a share, and debt related amortization expense (a non-cash item) was more than 10 cents a share. Depreciation net of capex was nearly 5 cents a share. As a result, the company throws off more cash flow than suggested by its earnings.
I have used the enterprise price/owner cash flow model for valuation. This produces results similar to EBITDA models; I prefer my model because it includes tax expense and capex. Basically, I add net debt to market cap to derive enterprise price (EP). I add depreciation, interest expense and appropriate non-cash expenses to earnings and subtract capex from earnings to calculate owner cash flow (OCF). I generally find stocks attractive if the EP/OCF ratio is below 10.
In the case of AMTX, EP is $155 million (market cap with 20 million shares) plus $80 million (net debt), or a total of $235 million. Quarterly numbers from the first quarter show earnings at $7.7 million. Adding $2.9 million (interest), $2.1 million (debt related amortization) and $1.2 million (depreciation) and subtracting $.2 million (capex) we get enterprise owner cash flow of $13.7 million. If we annualize the first quarter's results, this produces annual enterprise owner cash flow of $54.8 million. Comparing this number with EP of $235 million, I get a EP/OCF ratio of 4.3. This is one of the lowest I have seen in the market and suggests the potential for substantial price appreciation. The table below breaks down the owner cash flow analysis.
|Amount in millions of dollars|
|Earnings (1st Q)||$7.7 million|
|+ Interest Expense||$2.9 million|
|+ Debt Related Amortization||$2.1 million|
|+ Depreciation||$1.2 million|
|- capex||$.2 million|
|= quarterly OCF||$13.7 million|
|x 4 = annual OCF||$54.8 million|
As noted above, the above numbers do not reflect the potential for higher operating earnings as a result of the ramp up of activity at the India plant. The India plant could potentially generate gross revenue in the same range as the Keyes plant. Whether net operating revenue will turn out to be similar is not clear, but it appears that the plant will be selling into a strong market.
Another tailwind is the rapid reduction of outstanding debt and the resulting reduction in interest expense. The debt reduction will also reduce enterprise price unless the share price increases enough to offset the reduction in net debt. AMTX appears to be in a position to pay down at least $10 million of net debt per quarter; this amount will increase as the interest expense declines. At some point, AMTX will reduce its debt sufficiently to be able to obtain more attractive terms (a large amount of current debt is at double digit interest rate levels).
AMTX has qualified for the EB-5 program under which individuals can make loans to United States companies at low interest rates and obtain favorable immigration treatment. AMTX has qualified for up to $36 million of such debt which would bear interest rates of 3%. In order to take advantage of this, AMTX must find lenders interested in the program and in lending to AMTX under those terms. AMTX has already signed up some lenders and appears to be optimistic about its prospects. Of course, replacing double digit interest rate debt with 3% interest rate debt is very advantageous and would reduce interest expense enormously.
The ethanol market is seasonal and the first quarter's results may not reflect a reasonable projection of the full year's results. Although regulation creates a form of guaranteed demand for ethanol, it is a competitive market and AMTX is subject to price risks on both the supply and demand side of its operations. For example, lower diesel prices could adversely affect the financial results of the India plant. AMTX still carries a large amount of debt and most of it is at high interest rates. Results are, therefore, leveraged and declining operating earnings can have amplified effects on total corporate earnings. AMTX is dependent on only two plants and technical difficulties at either plant could have a negative effect on earnings and cash flow. There have been rumblings concerning changes to the ethanol program but it is unlikely that any policy revision which is plausible would have a material negative effect on AMTX.
AMTX is very attractive at this price. It is not terribly hard to imagine a scenario in which earnings go above $2 a share on an annual basis (elimination of interest expense and interest related amortization expense would produce quarterly earnings of 59 cents per share) and a valuation in the $30-40 range. AMTX's CEO, Eric McAfee, has an impressive track record in founding and building companies - including Pacific Ethanol (NASDAQ:PEIX) and Evolution Petroleum (NYSEMKT:EPM). The company's performance to date has been impressive. And, of course, the news from the Middle East in the last few days is a reminder that there is always the potential for a nice tailwind in the form of higher petroleum prices. Needless to say, I am long AMTX.
Disclosure: The author is long AMTX. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.
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