Declining Corn and Ethanol Prices Change the Profitability Picture
AgMRC Renewable Fuels Monthly Report
Retired Agricultural Extension Economist
Since late 2012 and early 2013, the corn ethanol industry has gone through a period of rapidly declining cost and revenue. The cost reduction occurred due to a return to normal weather in the Midwest which produced ample corn supplies and declining prices resulting in a short period of significant profits for the ethanol producer. However, this was followed by a period of declining ethanol price which offset the drop in corn price resulting in breakeven profit levels during the first half of 2015. Profitability has been tracked with the Iowa State University Extension ethanol production model that represents a typical 100 million gallon Iowa corn-ethanol facility selling ethanol and dry distillers grain with stillage.
Late 2012 and early 2013 was an unprecedented rough economic time for corn ethanol producers. The major culprit was high corn prices as shown in Figure 1. The widespread 2012 Midwest drought led to low corn yields and high prices. The 2012 corn marketing year cost of corn for ethanol production (September 2012 through August 2013) was $7.14 per bushel or $2.55 per gallon of ethanol (based on a conversion rate of 2.8 gallons of ethanol from one bushel of corn). This led to the extremely high total cost of ethanol production of $3.14 per gallon during the same period.
Figure 1. Cost of Ethanol Production
Favorable crop yields in 2013 and 2014, and so far in 2015, have resulted in lower corn prices, reaching a low of $3.26 per bushel in October, before rebounding slightly to a June 2015 price of $3.50. This is a decline from the peak of $8.15 per bushel in August of 2012.
When the supply chain cost of ethanol production (corn cost and ethanol cost) is examined, the cost pattern is different as shown in Figure 2. The cost of producing ethanol, assuming corn at cost of production, generally results in a lower cost of ethanol product than when corn is valued at market price. Although corn cost per bushel is high during a drought year because the cost per acre is spread over fewer bushels, corn price increased more than corn cost per bushel. So, when corn at cost of production is substituted for corn at market price when calculating ethanol cost, the cost per gallon during the 2012/13 corn marketing year increased ethanol cost to only about $2.50 per gallon. Ethanol cost using corn at market price (Figure 1) increased to between $3.00 and $3.50 per gallon.
Figure 2. Supply Chain Cost of Ethanol Production (corn valued at cost of production)
The revenue side of the equation is shown in Figure 3. Revenue was strong during 2013 averaging $3.04 per gallon for the year. However, revenue dropped to an average of $1.94 per gallon during the first half of 2015. Most of the reduction in revenue was due to lower ethanol price. Ethanol price was in the range of $2.00 to $2.50 during 2013, spiked at $2.79 per gallon in April 2014, and declined to $1.44 per gallon in June of 2015. Due primarily to record high corn price during the drought, DDGS price was also high during most of 2013. But as corn price decline, DDGS price also declined from an average of $231 per ton in 2013 to a June 2015 price of $148 per ton.
Figure 3. Total Revenue of Ethanol Production
As shown in Figure 4, declining corn prices in 2013 quickly lead to profitability following the losses incurred in 2012. The year ended with the highest month of profitability for the year of 78 cents per gallon. Profitability continued into 2014, peaking at $1.08 per gallon in April due a spike in ethanol price. However, since then both ethanol and corn prices have declined with the ethanol price dropping more than corn price and subsequently reducing profits to roughly breakeven during the first half of 2015.
Figure 4. Ethanol Revenue, Costs and Profits (corn valued at market price)
When ethanol supply chain profitability is computed by including corn at the cost of production rather than market price, the picture changes, as shown in Figure 5. Profitability was high during 2013 and the first half of 2014. However, profitability during the last half of 2014 dropped to breakeven with losses accruing during the first half of 2015.
Figure 5. Ethanol Supply Chain Revenue, Costs and Profits (corn valued at cost of production)
Looking further at ethanol production from the perspective of its supply chain (ethanol production plus corn production) provides a perspective on how the combination of the ethanol producer and the corn farmer generate revenue and profits (losses) from the sale of ethanol. It also shows how the profits (losses) are shared between corn farmer and ethanol producer, as shown in Figure 6.
Figure 6 – Ethanol Supply Chain Profitability and Allocation of Profits between Ethanol Producer and Corn Farmer
Guide to Understanding Figure 6
The red line with white dots represents the revenue generated from the sale of ethanol and DDGS. The gray area below the revenue line represents the cost of producing ethanol and DDGS, not including the cost of buying corn. The orange line at the bottom of the gray area is the ethanol producer’s breakeven purchase price for buying corn.
The white area between the blue and orange lines is the supply chain profit. This is the area above the breakeven corn selling price for the corn farmer and below the breakeven corn purchase price for the ethanol producer.
The red line with yellow dots represents the corn price received by the corn farmer and paid by the ethanol producer. Corn price essentially allocates the supply chain profit (or loss) between the corn farmer and the ethanol producer.
The corn price and cost of producing the 2012 corn crop was high due to the drought reduced yield of 2012. These are reflected in the 2012 corn marketing year (Sept. 2012 - Aug. 2013). The drop in cost of production per bushel in subsequent years is due primarily to higher corn yields because the cost of production per acre is spread over more bushels resulting in a lower cost per bushel. However, due to more ample supplies, the price of corn dropped even more, changing the corn farmer profitability picture from profitable to breakeven and below.
The change occurred midway through 2013 when the market anticipated a return to normal corn yields and a subsequent drop in corn price. This began the allocation of supply chain profits away from the corn farmer to the ethanol producer.
The change continued in 2014 with a precipitous drop in ethanol revenue. This resulted in supply chain profits giving way to supply chain breakevens and eventually losses. Due to a high 2014 corn yield and low corn price, the losses have accrued to the corn farmer with breakeven levels for the ethanol producer.
So where do we go from here? As indicated above, the two major factors determining ethanol profitability are the prices of ethanol and corn. When examining the ethanol supply chain (the combination of ethanol production and corn production), ethanol price is the major factor determining profitability. Corn price serves to allocate profits (losses) between the corn farmer and the ethanol producer.
Ethanol and corn are commodities, so they tend to have large price swings due to changes in supply, demand and government policy. A major decline in corn price has occurred due primarily to ample supplies of corn. Many forecasters expect low corn prices to persist over the coming year and possibly longer. This would indicate that ethanol supply chain profits will accrue to the ethanol producer over this time period. However, the recent decline in ethanol prices, driven in part by the large and rapid decline in gasoline price and uncertainty over the Renewable Fuel Standard creates uncertainty of the direction of ethanol price.
The near term outlook for corn price is addressed in the companion article by Bob Wisner. You can also follow the monthly profitability of corn ethanol production, along with information and analysis of the drivers of ethanol profitability, in the Monthly Report on Renewable Energy and Climate Change.