Be a Solazyme Bear for the Right Reasons

Industrial biotech company Solazyme (TVIA) has all of the disruptive potential in the world. Its renewable-oils platform could turn the traditional manufacturing and sourcing of important everyday chemicals on its head. With the company nearing commissioning and start-up at its first commercial-scale facility in Moema, Brazil, investors are getting closer to discovering whether it can be an exception to the unfortunate trend of failing to scale at first try.

There are plenty of reasons to be a Solazyme bull, but there are also a few good reasons to be skeptical at this point. Just make sure you're skeptical for the right reasons. Once again, I've attempted to provide clarification on three of the most common misconceptions about the company and redirect the focus of investors to better align with realistic expectations.

The company will primarily produce low-value, low-margin products such as fuels.
I hoped this view of the company would have successfully been disproved by now, but it creeps its way into conversations time and time again. The origin of this train of thought stems from a general lack of understanding about the company and a focus on its high-profile projects several years ago with the U.S. Navy, in which Solazyme produced and delivered large quantities of algal diesel, marine diesel, and jet fuels.

The truth is that Solazyme can produce a number of moderate to high value oil profiles on its platform. In fact, all products come with higher minimum selling prices than the most valuable fuel.

Sources: Solazyme, Jefferies Industrials Conference Presentation.

Furthermore, consider that Solazyme is making strides in securing commercial supply agreements. In August, a supply deal with Sasol (SSL -1.40%) for an erucic acid oil profile was announced. The chemical giant will use the product to produce behenyl alcohol, which is used in the paper, water-treatment, oil and gas, and personal-care industries, among others. Similarly, a deal with Unilever (UL 0.19%) for 10,000 metric tons of algal oil for use in personal-care products was announced last month. The pair has been working together since 2010 and will probably expand their supply agreement to even larger volumes in the next few years.  

Solazyme will continue to attract commercial partners with its novel platform. Sasol and Unilever are looking to grow while minimizing or reducing their environmental footprint, so Solazyme's renewable oils are a perfect fit. In addition, the industrial biotech company can supply oil profiles that improve on the quality and quantity available from agricultural sources. There is plenty of incentive for Sasol and Unilever to increase their commitment to the company and plenty of avenues to explore without producing fuel oils during ramp-up.

Investors should instead focus on: Skeptical investors shouldn't default to thinking that Solazyme will sell only low-value fuels from its first commercial facilities. Instead, be on the lookout for additional commercial supply announcements with commercialization partners such as Mitsui, AkzoNobel, and Goulston Technologies. The more capacity that goes unfilled in the beginning, the more fuels will probably be called upon to fill production since the industry can easily absorb additional supply. It may not be what analysts or investors want to hear, but let's face it: Fuel sales are better than no sales.

Management shakeups are worrisome.
Solazyme announced the "transition" of co-founder and President Harrison Dillon in early September. While that may have spooked investors or been viewed as a bad sign, it isn't right for anyone to lament a guy for wanting to spend more time with his young family, especially after investing countless hours into a start-up and developmental company. Dillon released the following statement:

The experience of starting a company -- taking an idea, developing a technology and building a team to commercialize it -- has vastly exceeded my expectations. It has also been intense and incredibly focused. I wouldn't trade the experience for anything, but I am looking forward now to spending more time with my family and recharging.

We have just scratched the surface of what Solazyme's technology platform will mean to the world. While I am looking forward to a change of pace, I remain committed to helping Solazyme achieve its goals and I am supremely confident in the team running the company

In addition to Dillon, William Lese also stepped down from the board of directors, although James R. Craigie was immediately tapped to fill one of the vacant seats. I don't care how you slice it -- the fact remains that Solazyme is a young and quickly growing company that is bound to experience turnover. At the end of the day, the company has fared better at retaining visionary founders and advisors than fellow industrial biotech companies such as Amyris, Gevo, Codexis, Joule Unlimited, and LS9.

Investors should instead focus on: If more key management members leave, then critics may have a point, but I don't think there is anything to worry about here. Turnover at start-ups and developmental companies is as certain as night and day. Investors should rejoice that they have one of the best management teams in industrial biotech behind them.

What's with all the insider selling?
Sign up for email alerts from Solazyme (or any company), and you'll see quite a few insider sales. Why would officers, directors, and other members of management sell shares of a company with such amazing growth prospects? It's a fair question, but there's a pretty solid explanation. The first thing to note is that all insider sales at Solazyme in 2013 were conducted in a 10b5-1 trading plan, which is established to automatically sell an allotted amount of shares in equal intervals over a given period of time. The SEC created it to allow insiders to sell shares without being accused of insider trading. In fact, the plans must be entered into before an insider becomes aware of non-public information.

OK, but why sell shares, even automatically, if greater share prices await? It's just extra income for them. Consider that most, if not all, officers and directors are granted generous stock options, some of which are tied to company growth goals. Selling 5,000 shares every month or two now won't make much of a difference when individuals are awarded options for helping Solazyme achieve critical commercialization milestones in the next few years.

Investors should instead focus on: Similar to management turnover, I don't see that the current pace of insider sales will be of much concern to investors. If insiders or institutional investors such as the Roda Group make transactions on the open market, then perhaps there would be reason to worry.

Foolish bottom line
Right now, investors should simply focus on Solazyme's execution. Can the company successfully fill its initial production capacity with enough commercial supply agreements to not have to consider selling fuels? Can the company make a smooth transition from steady-state operations at a few 128,000-liter fermenters to multiple 500,000-liter tanks? There's a big difference between the two, and an even bigger difference between the process scheduling of a 1,820 MT facility (Peoria) and a 100,000 MT facility (Moema). There are certainly legitimate reasons to be skeptical until proven results are demonstrated, but the long-term view remains bright -- even if the company faces near-term problems with scale-up and has to adjust its expectations.