The Pros And Cons Of Ethanol Stock Plays

Zacks senior alt-energy industry analyst Jon Kolb has been following this particular group of stocks for years, back when alternative fuels were considered more of a pipe-dream (and gasoline was relatively inexpensive). He recently gave us an updated outlook on a couple major players in the ethanol sub-sector.

What’’s one of your top names in alt-energy, and how did it perform recently?

VeraSun Energy (NYSE:VSE) registered nearly six-fold growth in revenue in the 2nd quarter of fiscal 2008 after its merger with fellow biofuel company U.S. BioEnergy. Earnings were boosted by both higher ethanol production volume and average per-gallon price, year-on-year.

Looking ahead, increasing ethanol prices, recent bullishness in the energy bill for ethanol production, rising crude oil prices, ongoing capacity expansion plans and value unlocking through synergies from the recent merger with USBE should maintain growth momentum over the near-term.

Where do you perceive the risks to be with owning this stock?

Risks include the cyclicality of the ethanol industry, a tight credit market, a rising debt level and escalating prices of corn and natural gas. As of now, we maintain a BUY recommendation on VSE with a six-month target price of $9.75, representing 38.7% upside potential.

Can you tell us about another recently reviewed alt-energy company?

Aventine Renewable Energy’s (NYSE:AVR) favorable top-line growth prospects stem from its ongoing capacity expansions through new plants in Nebraska and Indiana, recent bullishness on the energy bill for ethanol production, rising ethanol prices, an ongoing share repurchase program, and high crude oil prices. These factors should help maintain the momentum of future growth.

However, like its peers, the low-cost ethanol player is facing escalating cost structure though on a lower scale on account of rising corn and natural gas prices. Such price volatility along with loss related to auction-rate securities impacted AVR’s performance in the 2nd quarter of 2008.

So how are you recommending AVR at this time?

Rapid ethanol supply growth continues while demand has been held back due to constraints in refineries infrastructure. Therefore, with a mixed outlook, we maintain a Hold recommendation on AVR with a six-month target price of $7.75, representing 8.8% upside potential.

Jon Kolb is a senior analyst covering the alt-energy industry for Zacks Equity Research.

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