Archer Daniels Midland May Spin Off Ethanol Business

The beginning of the New Year is often a time of hope. A fresh start. A clean slate. A new beginning. Unfortunately, it doesn’t always go as planned and the first quarter of 2019 was particularly rough on commodity giant Archer Daniels Midland (ADM). Profit plunged over 40% due to a confluence of events including the ongoing trade war with China and terrible weather throughout the Midwest. The latter included ‘Bomb Cyclone’ storms and historic and devastating flooding throughout the region.

As part of its efforts to change its fortunes, ADM will create a standalone ethanol subsidiary including the company’s dry mills in Columbus, Nebraska, Cedar Rapids, Iowa and Peoria, Illinois. The internal restructuring allows ‘the company to advance strategic alternatives, which may include, but are not limited to, a potential spin-off of the business to existing ADM shareholders.’

So how has the business been doing? Unfortunately, the ethanol industry hasn’t been immune to the ongoing trade conflict and is one of the products that has been hit the hardest by China’s retaliation. Additionally, although US gasoline is federally mandated to include ethanol, domestic demand has flattened over the past few years due to an increase in EVs and other fuel efficient vehicles. Furthermore, the business was often a low margin one to begin with and is seemingly in a position of oversupply. Reuters quotes an ethanol trader on this point noting that ‘we don’t have a demand problem as much as we have a supply problem. There are just too many inefficient plants out there, and they need to go before we see a rebound’

Consolidation is clearly part of ADM’s long term plan for the business post-spinoff. ADM CFO Ray Young said the ‘decision to monetize the dry mills is frankly a strategic decision on our part to basically help the industry consolidate.’ Don’t exactly have to read the tea leaves with a statement like that.

The industry can sure use some help. Looking around at some of the competition, Reuters noted that:

Producers such as Green Plains and Pacific Ethanol have laid off workers and idled or sold plants to stay afloat during the sustained downturn. Ethanol prices are down 42 percent in the last five years, while Green Plains and Pacific Ethanol have seen their shares fall 33 percent and 92 percent, respectively, in that time.

Rough, but there are some glimmers of hope on the horizon. Trade barriers could disappear at any time and any deal is likely to dramatically increase exports. Also, the weather will surely improve and conditions in the Midwest will eventually return to normal. Regulations to push E15 to E20 gasoline could get traction as we approach the 2020 elections which would also lead to an increase in demand.

That is the hope at least. The fact that ADM, one of the industry giants, is struggling to make it work isn’t a good sign though. Given that, a standalone ethanol unit may not exactly be the reward ADM investors are seeking come harvest time.

Disclosure: Author holds no position in any stock mentioned.