This Biofuels Stock Was Just Handed $85 Million -- and Hardly Anyone Noticed

Biodiesel can be made from a variety of feedstocks ranging from ground coffee beans to inedible corn oil. Source: Catawba County/Flickr. 

Imagine that you just won $85 million in the lottery. Lucky you. Now, you sit all of your friends and family down to tell them the awesome news. And although you're expecting pure jubilation to spread across their faces, they shrug and walk over to the chips and dip. You may need new family and friends, but at least you could talk about the traumatizing unfolding of events with Renewable Energy Group (REGI). It would understand. 

The nation's largest biodiesel producer was operating with expectations that the Blender's Tax Credit, or BTC, would not be reinstated for 2014, although the company conducted business such that reinstatement of the tax credit would provide a meaningful benefit. After the subsidy was retroactively reinstated on December 19, the company announced it would realize $85 million to $90 million in pre-tax operating income. Investors just shrugged and walked over to the chips and dip.

What does the windfall mean for REG?
In the first nine months of 2014, Renewable Energy Group realized operating income of $3.57 million. The company achieved profitable operations by remaining disciplined with cash, diversifying each of its biodiesel facilities to run on a number of feedstocks, and acquiring a 75-million gallon per year renewable hydrocarbon diesel production facility from Tyson Foods and Syntroleum, which began operations in the third quarter of 2014. Renewable diesel is more flexible than biodiesel and earns subsidies from a different pool than the BTC.

So, what does the windfall mean? Renewable Energy Group will now realize $88.6 million to $93.6 million in pre-tax operating income in 2014 before accounting for results from operations during the fourth quarter. That compares favorably with results in recent years despite the current headwinds.

Note: Adjusted EBITDA accounts for retroactive reinstatement of the BTC in early 2013 for the 2012 production year. *Data for first nine months of 2014 with low-end of BTC reinstatement for 2014. Source: SEC filings, REG press releases.

A much higher volume of gallons sold will be offset by a much lower average selling price -- which will only get worse with falling global oil prices -- although more efficient operations have certainly helped operations. Knowing the obstacles in place, what lies ahead in 2015?

What does reinstatement of the BTC mean?
The U.S. Environmental Protection Agency called for 1.28 billion gallons of biodiesel to be blended into the nation's diesel fuel in 2014. The first blender of biodiesel with at least 0.1% petroleum-based diesel fuel earns the BTC, or a $1 per gallon tax credit. Considering Renewable Energy Group has over 257 million gallons of annual biodiesel production capacity, it's a good bet to capture a lion's share of the maximum annual credit. Of course, the BTC has to be active, and that has become more complicated in recent years.

The BTC remained active from its creation in 2005 until the end of 2009 before being caught up in year-to-year budget battles on Capitol Hill. This is has increased the volatility of investments in the biodiesel industry since 2010.

*Extended through the end of 2013. Source: SEC filings.

You'll notice that all previous reinstatements of the BTC were accompanied by extensions into the following year, except for the most recent decision. Therefore, Renewable Energy Group and its peers will once again be operating without the BTC in 2015. While it could be reinstated in the next 12 months or so, I wouldn't bank on it when making investment decisions. 

What does it mean for investors?
Renewable Energy Group has remained profitable -- and even expedited its growth -- without the BTC in 2014 thanks to a disciplined and focused management team and diversifying its feedstock capabilities to take advantage of short-term fluctuations in prices. Unfortunately, shareholders will have to go into 2015 without the bountiful BTC. The good news is that several pieces of legislation are in development that seek a long-term plan for the BTC, which could extend it through at least 2017.

Whether or not that occurs, Renewable Energy Group could disappoint Wall Street in 2015 if hedging practices and more efficient operations don't make up for depressed diesel prices. Investors must wait for management to disclose exactly how that will affect the company's performance going forward, although hedging added $0.22 per gallon in the third quarter of 2014. Despite the headwinds, I have no plans to sell my shares. I just can't pass up the opportunity to own a company trading at 56% of its book value.