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What You Need to Know About the Future's Fuels

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Renewable energy stocks' volatile ups and downs can intimidate investors. Words like ethanol, biomass, and hydrocarbon can further complicate this elusive field. If high school chemistry isn't coming back to you, not to worry: We'll simplify these ideas and look at certain companies that are poised to power above the rest and take advantage of this developing field.

The biofuel backstory
To clear up some of the technical jargon, biofuel converts biomass -- plants and organic waste -- into energy. Half of the renewable energy in the U.S. comes from biomass:

Ethanol, one of the most widely used biofuels, is made from corn and sugarcane. But the largest producers in the U.S. and Brazil face unpredictable fluctuations in those raw materials as the climate varies and food prices shift.

Innovators are trying to develop new ways to decrease the reliance on food products for making fuel, and pouring a lot of their research into renewables. Adding the following companies to your portfolio could make this a green movement in more ways than one!

Biofuels at the forefront
Renewable Energy Group
(Nasdaq: REGI  ) is the largest producer of biodiesel in the U.S. It relies on low-cost inputs, such as animal fat and used cooking oil, to create the fuel. By sinking its resources into the different stages of development of biofuel, Renewable Energy has developed expertise and experience that can be adjusted as industry technology changes. However, it has little control over its inputs, which fluctuate with both weather and the global economy. Those varying costs lead to uncertainty on the company's bottom line.

Solazyme (Nasdaq: SZYM  ) uses microalgae to harness energy from natural products and creates high-quality oils that can be sold as is, or further refined. The oils it creates with innovative technology are direct replacements in three target markets: fuels, nutrition, and skin care. Unfortunately, Solazyme has yet to make a profit, and the company relies on a third-party supplier for its main inputs, increasing its overall risk.

BP (NYSE: BP  ) is covering all its bases, becoming a major player in the biofuels field. Through strategic acquisitions and partnerships, the company is expanding into biofuel operations in Brazil and the United Kingdom. Regaining its footing after the massive oil spill, BP is at the forefront of developers of cellulosic ethanol -- the new hot thing in renewable energy. The oil giant has invested a total of $6.6 billion in its alternative energy business by slowly increasing its stake in several Brazilian ethanol mills.

However, BP is entering this field gradually, and still sticking to what it knows in the management and transportation of oil and gas. Its size and diversification of products makes BP a standout among the smaller biofuel companies. Its 4.6% dividend doesn't hurt, either! BP faces some uncertainty in the next few years, as the renewable technology it employs is still in its infancy. The dark cloud of the oil spill still hangs over the company because the final associated costs have yet to be seen.

A close competitor, Amyris (Nasdaq: AMRS  ) , hopes to make serious dough by using yeast to convert natural products into renewable ingredients. The company creates a foundation used in a wide range of products, including diesel and jet fuels, cosmetics, and plastic additives. Amyris's partnerships in Brazil seem to be the company's strongest strategic move. But it has yet to prove that it can properly scale its business, which it must do to increase production volumes, and ultimately realize profits. The steady decrease in its profit and operating margins should also concern investors.

What to watch out for
The biofuel industry is incredibly cyclical, relying on high gas prices to stimulate demand. These companies have a heavy burden that they must balance as they look to the future, according to Pacific Biofuel. Companies must keep prices competitive compared to current oil companies by depending on Mother Nature to produce enough natural feedstock.

Additionally, research and development costs remain relatively high. Biofuel firms need to work constantly to tweak existing technology and create new processes. Government incentives help support this industry, but dependence on political regulation could leave some companies with too much yeast and not enough fuel.

Power for my portfolio?
Companies with strong track records, the ability to scale production as demands change, and technology that provides a clear-cut advantage will see shares take off in the long run. Renewable Energy Group and BP are widely diversified across the energy sector, making these companies better able to adjust as the industry changes over the next decade.

Any major shift in the energy industry (like oil prices or government policy changes) could throw off smaller companies. Getting in early will provide huge rewards if you're willing to hang around long enough -- they could just rocket your portfolio to the future. However, if you're not sold on the future of renewables and still want to add quality energy stocks to your portfolio, then you ought to look at the "Only Energy Stock You Will Ever Need." This special free report is immediately available -- but get it now, because it want be around much longer.

Fool intern Marissa Linden holds no position in any of the companies mentioned. The Motley Fool owns shares of Solazyme. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

Read/Post Comments (2) | Recommend This Article (1)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On August 11, 2012, at 7:42 PM, ralphrides wrote:

    Been there done that, what I like about Renewable Energy Group REGI is they have production, use flexible feedstocks, have customers and are making money and reducing losses. This a unique company and as long as conventional oil stays above about $85 a barrel, this company will be profitable. I am holding long on them.

  • Report this Comment On August 15, 2012, at 2:59 PM, thidmark wrote:

    The same government that thinks it's a good idea to put food in your gas tank (while millions are on food stamps) is now in charge of our health care. God help us all ...

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