I recently made a trip to San Francisco for a small conference on synthetic biology and decided to linger around the city for an extra day to meet with Glowing Plant, TeselaGen Biotechnology, Solazyme (NASDAQ:TVIA), and REG Life Sciences. While it's great to research companies and correspond with entrepreneurs, investors, and executives by email and phone, nothing beats a face-to-face meeting and tour. You get to ask pointed questions, see steel on the ground (and glass on the bench) with your own eyes, get critical feedback on your writing, and discuss your thoughts on the industry with, well, the ones building the industry.
Even more advantageous is the fact that I visited Solazyme HQ the day after first quarter earnings were announced, which allowed me to inquire about the latest developments. Here are a few things I learned from my meeting with Graham Ellis, Vice President of Business Development, who helped develop the joint venture between Solazyme and Bunge (NYSE:BG) and the 100,000 metric-ton-per-year facility in Moema, Brazil.
We aren't giving Encapso enough credit
Ellis was quick to point out that Encapso is a family of encapsulated oil products, not a single encapsulated lubricant serving the oil field services market. When we speak about the first product sporting the brand name we need to remember to call it an Encapso lubricant, rather than using the blanket term "Encapso". The distinction may not be so obvious in the early days, but there are multiple encapsulated oil products in development that target various markets. It makes sense, too, considering the advantages such products have.
First, and of particular interest to investors, Encapso products will generally have higher margins than non-encapsulated oil products. That's because they get to skip a few downstream processing steps (Solazyme wants the oil locked into the algal cells). Second, the targeted delivery mechanism utilized by Encapso lubricants in the oil field services markets can be leveraged for other products in unrelated industries. Some may be additional lubricants, some may be oil products for delivering more specialized payloads. Nutrients, perhaps?
Big opportunity in food emerging
I was invited to taste chocolate chip cookies (my favorite) and vanilla ice cream (Ellis' favorite) made with Whole Algal Flour and Whole Algal Protein -- now the AlgaVia brand, after the Roquette joint-venture dissolution -- as well as the dried and purified powdered ingredients (hint: glass of water required). The cookies and ice cream were amazing, and the powdered ingredients were more enjoyable than they appeared, although I passed on the chocolate milk. However, it's important to remind myself that highly trained foodies at Solazyme HQ made the delicious concoctions. Will mass-produced branded products taste as amazing?
It's quite possible algal ingredients will make America's food tastier, but even if there is no advantage in taste there is a substantial advantage in nutrition. That's what makes the opportunity in nutrition so substantial, and that's where I believe the value resides. Solazyme's food products don't just offer ingredient replacement; they offer replacement and enhancement. I'll be writing specifically about the newest and most up to date nutritional opportunities and risks in the coming weeks.
The good news is that, so far, Solazyme has not received any pushback from potential customers fearing consumer rejection due to the industrial biotech processes used to create the ingredients. You may not think that matters since all cell debris is removed from the final product, but activist groups are already raising questions about flavor products created via fermentation by Evolva. That's despite cell debris being removed from the final product and the fact that 90% of vanillin (used in vanilla flavoring) consumed today comes from petrochemicals. Unfortunately, it's highly likely that Solazyme will be targeted in a similar manner in the future.
And that brings us to the bad news. An upcoming article in the New York Times will question the renewable oil manufacturer's environmental impact and may increase the pressure on Solazyme's product portfolio, especially nutritionals, although I don't see how algal oils aren't a major improvement over unsustainable palm oil. We'll have to wait for the article to be published to discuss the details.
Executives traveled to Moema
A few executives traveled to Brazil immediately following the first quarter conference call and were unable to meet with me at Solazyme HQ. To recap, Moema was delayed yet another quarter due to intermittent utilities delivered from the adjacent cogeneration facility operated by Bunge, which itself was starting up. That could really be the only problem at Moema, and would likely have interrupted commissioning of the downstream oil processing equipment. It just seems a bit odd that executives would need to fly to the facility if intermittent steam and power was the culprit for the delay of first quarter production.
In addition, Solazyme and Bunge claim that downstream processing equipment is the only hold up, stating that recovery through Encapso lubricants is operational and that oil extraction commissioning is still under way. After touring the pilot plant in South San Francisco with Ellis, it's difficult to believe that the standard press rollers (extraction equipment) used throughout the oil crushing industry would be the holdup. Besides, wouldn't intermittent utility supply have been known at the time of the debt offering?
If the company was hoping to report its first commercial product from Moema "right up to the wire", as CEO Jonathan Wolfson noted, then the announcement should be rolling in any day now. Why use the entire second quarter as a cushion? The executives in Moema, the perceived problem with some of the most standard equipment in the process, the timing of the debt offering, and the hope to have initiated start-up by the May 5 conference call while simply stating that production will occur in the second quarter may not add up quite like investors want. Then again, algae naturally produce oil while residing in ponds, puddles, and oceans full of predators and competitors, so stuffing them into a bioreactor with optimal growth conditions is pretty favorable indeed. I would just remain aware that the facts may lean toward larger problems at Moema.
Foolish bottom line
Having access to Solazyme HQ and a conversation and tour with Graham Ellis was a great opportunity, especially immediately following the first quarter earnings call. I acquired a broader understanding of the Encapso family of products, was able to taste the food products that represent a major market for Solazyme and Bunge, and learned some valuable details regarding the company's largest commercial scale facility in Moema.
The long term opportunity for investors is probably one of the best on the market. While any short term surprises or hiccups regarding production could affect and slightly delay long term value creation, investors can buy a company sporting a market cap hovering near $700 million and over $300 million in cash. The value created by burning that cash will likely be worth several multiples more. I still believe Solazyme will push through commissioning, start-up, and ramp-up successfully -- it just might take a little longer than investors want.