What Will Start-Up Mean for Solazyme, Inc. Investors?

The last time management at industrial biotech and renewable oils manufacturer Solazyme (NASDAQ: SZYM  ) spoke with investors, they announced that commissioning, or the testing of process equipment to ensure it meets design parameters, had begun at each of its first two commercial-scale facilities with Bunge  (NYSE: BG  )  in Moema, Brazil, and Archer Daniels Midland  (NYSE: ADM  ) in Clinton, Iowa. That means the next major announcement to hit the wire will notify shareholders of start-up of commercial operations -- and it should occur any day now.

The two biorefineries will (eventually) allow Solazyme to produce large volumes of products for the first time and shed its "developmental" title. Additionally, successful implementation of the new technology platform will be welcome news to sugar behemoths such as Archer Daniels Midland and Bunge, which are struggling with low margins in their processing businesses and battling uncertainty surrounding ethanol, their biggest chemical product by volume. Thus, the stakes for facility start-ups in 2014 are higher than usual for an industrial facility. What will it mean for the companies involved and, most importantly, investors like you?

More patience required
Investors must remember that "flipping the switch" at Moema or Clinton will not make an immediate impact for Solazyme, Bunge, or Archer Daniels Midland. While shares will likely get a boost from any announcement, improvements in commercial production will not be noticed until the second half of the year. Why not? Solazyme and its production partners will not begin producing from nameplate capacity, but rather from a small base of production and ramp to nameplate capacity over a period of 12-18 months to ensure equipment and process scheduling work as designed.

The dotted red line represents nameplate capacity. Source: Solazyme 3Q13 earnings presentation.

The graphic above means two things. First, Bunge and Archer Daniels Midland won't be able to sell large amounts of feedstock -- sugarcane crush (sucrose) and corn (glucose), respectively -- until ramp-up reaches a suitable level. Both companies have long-term feedstock supply agreements with Solazyme in place, so this is only a short-term development. Second, investors won't notice (for the most part) the operation of Moema or Clinton in the top or bottom line until ramp-up approaches nameplate capacity. That makes it extremely unlikely for Solazyme to meet the expectations of Wall Street in 2014.

However, Solazyme will be able to take advantage of economics of scale as production capacity expands, thus leading to lower production costs and higher average selling prices. It will just require a little more patience on the part of investors.

Source: Solazyme 3Q13 earnings presentation.

The realities of ramp-up should serve as a reminder for investors not to change their investment strategy due to any potential gains in shares caused by the expected announcement of start-up at Moema or Clinton. Of course, the story of Solazyme extends far beyond the next 12-18 months. What can investors in all three companies expect in the longer term?

What does the future hold?
You'll notice that the production curve in the first graphic above steadily rises above nameplate capacity. That's because engineers at Solazyme will gradually learn more about their processes and make incremental improvements to increase microbial yield, productivity, and titer. Investors can also expect next-generation strains for each oil profile to be introduced in the future, which will further improve the company's processes and lead to even bigger margins.

Additionally, Solazyme and its commercialization partners will continue to develop and introduce novel products with its far-reaching synthetic biology platform. That will spread risk from commodity price volatility across multiple products in multiple, unrelated industries. That's pretty powerful. For instance, if there's weakness in the fuels market, then Solazyme's margins could be lifted by strength in the C18 market and so on.

Investors also shouldn't overlook what successful deployment of the company's process on a commercial scale will mean for its future. Solazyme will be able to attract feedstock suppliers to its platform and negotiate the expansion of its technology on a global scale once Moema and Clinton reach steady state operations at higher levels of capacity (not necessarily at nameplate).

Foolish bottom line
The announcement of start-up at Moema and Clinton has the potential to lift shares as investor excitement over the achievement of another developmental milestone boils over. However, you must remember that there are plenty of obstacles that await the company during ramp-up and that success on the provided timelines is not guaranteed. Nonetheless, investors have plenty of long-term catalysts to look forward to at Solazyme, which has the potential to spur growth for feedstock suppliers Bunge and Archer Daniels Midland. Just remember to pinch yourself before getting too excited about a press release.

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  • Report this Comment On January 13, 2014, at 6:40 PM, Ghoztdawg wrote:

    Thanks for the article, I have 2 questions that I hope you can answer...

    In the link to your prior article published on July 2, 2013, "3 Terms Solazyme Investors Absolutely Must Know", you state:

    "but since the company believes it needs to reach 625,000 liter fermentors to be profitable, it is clear that engineers have plenty of work ahead of them"

    This is intersting, What exactly do you mean by this? Did Solazyme state this in the company's IPO Prospectus? If so, do you believe that the situation has changed? For instance, the Solazyme GMO algae are now 80% oil by volume compared to 5-10% for wild algae. As well as added improvements in individual desirable characteristics, i.e. higher lauric acid/myristic acid content etc.

    My 2nd question is related, but no one seems to be able to answer it definitively, I'm hoping you might know:

    Do you know the size of the fermentors at the Moema facility?

    Some people have assumed that they are 500,000 liter fermentors like the Clinton facility but I can't find anywhere that the company (Solazyme) has actually stated this. Nor can I find the quantity of fermentors at Moema. I have a feeling that the fermentors in Moema ARE 625,000 liters but I can't find anything in the SEC filings, nor the company's conference calls, nor investor presentations that confirms or denies this.

    On a side note, Solazyme has stated that most of the equipment is in place at Clinton for the expansion to 40,000 Metric Tons, but it would be a more capital intensive expansion to get to 100,000 Metric Tons. I assume this to mean that the fermentors are already in place at Clinton for 40,000 MT, but they would have to install more fermentors to get to 100,000 MT. Does that sound right to you, and if so, do you think they will install 625,000 or larger fermentors at Clinton for the expansion from 40K to 100K?

    Sorry - I guess that ended up being like 4-5 questions, but I would really appreciate any info that you can provide. Thanks again.

  • Report this Comment On January 14, 2014, at 12:05 PM, TMFBlacknGold wrote:

    @Ghoztdawg

    "What exactly do you mean by this? Did Solazyme state this in the company's IPO Prospectus? If so, do you believe that the situation has changed?"

    At the time of Solazyme's IPO, the company believed it needed to reach 750,000 liter bioreactors to achieve its target margins. It all has to do with economics of scale for its process. The last reported volume was 625,000 liter, which means the company has improved its process and algae and/or has a better view of commercial scale now than it did a few years ago.

    Strain improvements and process upgrades will continue to improve margins for a given volume bioreactor, but you can also think of it from a target margin standpoint, in which case a smaller volume bioreactor can allow the same margins (but not necessarily the same product revenue in terms of product volume, i.e. metric tons).

    "For instance, the Solazyme GMO algae are now 80% oil by volume compared to 5-10% for wild algae. As well as added improvements in individual desirable characteristics, i.e. higher lauric acid/myristic acid content etc."

    Solazyme's algae strains have always had higher average oil content than wild type algae. They have improved individual strains for various oil profiles, but that's a necessary part of product development if they are going to build a microbe for industrial scale.

    "Do you know the size of the fermentors at the Moema facility?"

    I distinctly remember CEO Jonathan Wolfson telling investors that the bioreactors at Clinton were close to 500,000 liters on the conference call directly after the company announced its trial runs at that scale about one year ago. He mentioned that similarly sized bioreactors were being installed in Moema. Therefore, I don't believe the company has 625,000 liter bioreactors at any facility yet.

    However, management (to my knowledge) hasn't definitively stated how margin will be affected by the smaller volume. Will they be the target margins or a little lower? Reading the SEC filings makes me believe margin will be lower than target for each facility at nameplate capacity, but the company can still be solidly profitable.

    "....Does that sound right to you, and if so, do you think they will install 625,000 or larger fermentors at Clinton for the expansion from 40K to 100K?"

    Well, there is likely some equipment in place because the Clinton facility used to be a fermentation polymer plant for a joint venture between ADM and Metabolix for producing Mirel.

    http://www.adm.com/news/_layouts/PressReleaseDetail.aspx?ID=...

    That makes Clinton Phase 1 and maybe some of Clinton Phase II a brownfield site (already constructed, permitted, and licensed) whereas Moema is a greenfield site (new construction that needs to acquire permits and licensing). Remember, there is a lot of equipment that is needed to support an industrial fermentation process so I wouldn't read into that statement that bioreactors are already in place. I would hope the 40K MT and 100K MT expansions include larger bioreactors, if necessary, but we'll have to wait and see.

    Maxxwell

  • Report this Comment On January 14, 2014, at 9:45 PM, Ghoztdawg wrote:

    Thank you very much for the response, very informative.

    Best Regards

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