Big Oil and Biofuels: Bitter Rivals or Best Friends?

As oil companies become more directly involved with the production of biofuels, the ethanol industry must evaluate its relationship with Big Oil and determine whether to cooperate, compete, or co-exist.
By Todd Taylor and Zach Olson | June 03, 2009
Since the renewable fuels standard (RFS) was enacted in 2005, many Big Oil companies have partnered with, invested in and acquired biofuels companies. The trend has increased recently as oil companies have realized that the American public wants to make sure that biofuels have a permanent role in the transportation fuels market. For many in the biofuels industry, this encroachment by oil companies is an unwelcome and troubling sign of how they are unwilling to let the biofuels industry succeed as a true independent alternative to petroleum. To others, it is viewed as a positive sign that biofuels are finally being treated seriously. But before considering whether the biofuels industry should be pleased or horrified, there needs to be an understanding of how biofuels actually measures up against petroleum.

The United States is the world's leader in petroleum consumption. In 2007, the U.S. consumed more than 390 million gallons of gasoline per day, amounting to approximately 142 billion gallons of gasoline consumed in one year

By contrast, the U.S. consumed just 17.7 million gallons of ethanol. In total, we consumed approximately 6.5 billion gallons, or 4.5 percent of the country's annual gasoline consumption. In 2008, gasoline consumption decreased slightly due to the economy, and ethanol production increased to approximately 9 billion gallons, approximately 6.3 percent of total U.S. gasoline consumption.

Before the 2005 RFS, ethanol constituted an even smaller percentage of the U.S. fuels market. Blending was discretionary. If it was required at all it was only as an oxygenate to be used in place of methyl tertiary ester butyl ester (MTBE). After the 2005 RFS however, oil companies were required to blend a certain amount of ethanol. They did it rather reluctantly, generally viewing ethanol as competition. With the enactment of the RFS2, the amount of biofuels required to be blended increases yearly from 9 billion gallons in 2008 to 36 billion gallons by 2022.

A major concern associated with the RFS and the current climate of renewable fuel production is that the mandate's goals will be undone by the huge gap between mandated blending levels and actual renewable fuel production. For example, at the beginning of 2009, the installed ethanol capacity was 12.5 billion gallons. Many plants, however, are now either sitting idle, producing well under their nameplate, or in bankruptcy. According to the Renewable Fuels Association, almost 2 billion gallons of capacity was sitting on the sidelines. This underproduction will seriously hinder the ability of renewable fuels producers to meet the RFS in the future. There are also significant doubts about whether there will sufficient cellulosic ethanol production to meet the RFS 2009 and beyond requirements. And low carbon fuel standards such as those California has adopted and the EPA is reviewing will also likely significantly hurt the industry's ability to produce.

So, while ethanol production is becoming an increasingly significant (almost 10 percent) portion of U.S. transportation fuel supply and efforts are underway to increase the maximum blending percentage to 15 percent, U.S. ethanol production is still a relatively small component of the U.S. liquid fuel transportation system.

The good news for biofuels is that there is significant political, societal and even economic pressure to increase our use of biofuels. The RFS2 is a significant driver for biofuels usage and billions of dollars of federal funding are being directed towards advanced biofuels project development. Carbon legislation may also make using carbon intensive fuels cost prohibitive compared to lower carbon biofuels. Public pressure is also increasing to move away from petroleum to a renewable alternative.

Economic pressures may be the ultimate trump card, as most experts agree that oil will eventually run out, be it in 50, 75 or 100 years. As oil becomes scarce, it will become more expensive, making biofuels price competitive, an advantage that biofuels can exploit as technological development drives down the production costs for biofuels.

However, for right now and for the near future, oil companies vastly out-produce biofuels, control the infrastructure and have far more resources, making them the 800-pound gorilla. So when oil companies start to actively participate in biofuels, the biofuels industry needs to look and learn.

British Petroleum plc has been very active in the renewable fuels industry in recent years. The company has invested $112.5 million in a partnership with Verenium Corp. and together they plan to develop the world's largest cellulosic biofuels production facility in Florida. BP has also invested $500 million to establish the Energy Biosciences Institute, a research endeavor between BP, the University of California at Berkeley, the University of Illinois at Urbana-Champaign, and the Lawrence Berkeley National Laboratory.

Chevron has said it expects to invest more than $2.5 billion in alternative and renewable energy technologies between 2008 and the end of 2009. Chevron also announced in January 2008 that it had entered into an agreement with Solazyme to develop and test feedstocks for biodiesel production.

Valero Energy Corp. entered the biofuels arena through asset acquisition. Earlier this year, it bought seven ethanol plants from bankrupt VeraSun Energy Corp. Valero's purchase of ethanol plants was the first by a traditional oil refiner. Valero has also invested in ZeaChem Inc., which intends to build a cellulosic ethanol plant, and Solix Biofuels, which plans to harvest oil from algae to produce biocrude, a product with the same properties and refinable qualities as standard crude oil.

Royal Dutch Shell plc has spent $1.7 billion since 2004 on alternative and renewable fuels projects. Shell intends to focus on biofuel development in 2009 and 2010, with a specific focus on cellulosic biofuels and algae to biofuels research and development. It has also collaborated with Codexis Inc. to develop biocatalysts in the hope of using such catalysts to accelerate commercialization of next-generation biofuels.

ConocoPhillips Co. has been very active in research in conjunction with universities and other groups. The company has sponsored and invested $5 million into a multi-year research agreement with the Colorado Center for Biorefining and Biofuels. In 2008, it formed a strategic research alliance with the U.S. DOE's National Renewable Energy Laboratory and Iowa State University for researching renewable and alternative biofuels applications. In addition to its partnership with NREL, ConocoPhillips has provided more than $4.75 million to Iowa State University to begin biofuels related research projectsand plans to invest $22.5 million over an eight year period with the university. ConocoPhillips has also partnered with Archer Daniels Midland Co. to develop biocrude.

Marathon Oil Co. has made a $10 million equity investment in Mascoma Corp., a company working on the development of cellulosic ethanol. Marathon has also partnered with The Andersons Inc. to build and own ethanol plants in Albion, Mich., Clymers, Ind., and Maumee, Ohio.

ExxonMobil Corp., the world's largest oil company, is also the most reluctant, some might say hostile, towards biofuels. Exxon has not made any publicly announced investment in biofuels to date, although during a third quarter financial conference call it mentioned that it is considering buying distressed ethanol plants so as to control ethanol supply for its blending requirements.

Even a not-so-careful observer will notice that with few exceptions, oil companies are not involved with first generation biofuels. When they are, as in the case of Valero, they invested to fulfill an immediate need to secure their own ethanol for blending. Mostly, however, they are involved with advanced biofuels projects that utilize non-food feedstocks for production. Cellulosic ethanol, renewable diesel, green gasoline and other biofuels are where oil companies are focusing.

Biofuels companies have three choices related to oil companies: cooperate, compete or co-exist. Cooperation can mean investment, acquisition, or joint R&D, but it means accepting oil companies as a significant and powerful partner. Competing is a hard choice given the advantages enjoyed by the oil companies, but if a biofuel company can develop a fuel that is a direct replacement for gasoline, diesel or another petroleum fuel like jet fuel, the rewards of creating a seismic market change can be enormous. Co-existing is the status quo, accepting a role where biofuels are a small component of the overall fuels market and blended into the existing supply.

So should the biofuels industry be pleased or horrified about Big Oil's entrance into their industry? Given the current market dominance of the oil companies, biofuel companies would be wise to at least consider working with an oil company. Oil companies have money, access to or control of blending, distribution and sales channels and R&D resources that can be critical to the success of a project. On the other hand, there still lingers significant concern that oil companies view biofuels as a necessary evil and are only dabbling in order to mollify public and governmental pressures to use renewables. Regardless of how biofuel producers may view the situation, they should be aware of how oil companies may be involved in their specific field and develop a strategy for dealing with them.

Todd Taylor is the lead shareholder in the biofuels group at the law firm Fredrikson & Byron. Reach him at or (612) 492-7355. Zach Olson is an associate attorney with Fredrikson & Byron's renewable energy, energy, securities, corporate and mergers and acquisitions groups. Reach him at or (612) 492-7432.