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Heartland banks have a new worry in turbulent ethanol business

Banks in corn country are worried the once booming ethanol business has reached its peak as profits have been pinched by low prices, bad weather and the Trump administration’s moves to curb ethanol use.

The price of a gallon of ethanol is down more than 16% since last summer when the Environmental Protection Agency waived renewable fuel requirements for a new batch of oil refiners.

As refiners needed to buy less ethanol, the move saved the oil industry millions, while ethanol producers — which include farmers and other customers of ag banks — took a hit to their bottom line.

Ethanol producer profits

Average profits on a gallon of ethanol declined in the fall of 2019 following the announcement of the waivers. Margins rebounded some as plant owners improved their efficiencies while others idled production, according to data from Iowa State University.

But profits tumbled again at the end of the year as corn prices ethanol producers were paying rallied. Massive flooding across the Midwest earlier in 2019 damaged corn harvests in the fall, leaving supply low and raising production costs for ethanol.

As demand continued to wane, margins briefly went negative at the start of the year, meaning producers were actually losing money. Profits settled at less than 5 cents per gallon at the end of January, still a fraction of the more than 60 cents per barrel in 2016, the data show.

The up-and-down episode that played out over the months following the Trump administration’s announcement of the refinery waivers marked a kind of volatility better known in the oil and gas trade.

Nate Franzén, president of the agriculture banking division at the $1.7 billion-asset First Dakota National Bank in Yankton, S.D., said while he has not heard of any lenders pulling back credit from ethanol producers yet, there is a lot of “turbulence” in a market that may have its best days of dependable demand behind it.

“There’s certainly a lot of things that would tell you it’s leveled off,” Franzén said.

Problems in the ethanol business are part of wider struggle across ag banking as farmers have been dealing with falling commodity prices for years. Recent trade spats between the Trump administration and buyers of U.S. crops abroad have made matters worse, and the Federal Deposit Insurance Corp. even warned banks about ag financing risks in January.

Many ethanol plants were set up by farmers themselves as a way to diversify their revenue, said Jeff Plagge, superintendent of the Iowa Division of Banking. While Plagge noted that at least two nearby plants have closed recently, the problems have not become too serious for ag banks that lend to ethanol producers.

However, ag banks are watching the Trump administration’s decisions on ethanol carefully, Plagge said.

The EPA has granted 66 waivers to oil refiners for the 2017 and 2018 compliance years, almost twice the amount for the previous four years combined, according to the U.S. Energy Information Administration.

“These waivers will determine the long-term direction” of the ethanol market, Plagge said.

First National Bank of Omaha Senior Vice President Tom Jensen, who heads up the the $22.1 billion-asset lender’s agribusiness, correspondent banking and renewable fuels departments, said the biggest banks have left the ethanol business.

Producers have relied more on community banks, which could mean more of an opportunity for smaller lenders as plant owners look for financing needed to make upgrades. Just as declines in oil prices recently have forced drillers to pump crude at lower and lower costs, ethanol producers have to make investments to keep expenses down.

“In the commodity business you gotta be a low-cost producer to survive the trials,” Jensen said.

There remains some hope that a preliminary trade deal with China could help ethanol producers export more of their fuel abroad and give rise to prices again.

“If China enters the market this year, the boost to ethanol exports looks to place corn use for ethanol above current [U.S. Department of Agriculture] forecasts,” Todd Hubbs, a clinical assistant professor of agricultural commodity markets at the University of Illinois, said in a Feb. 10 research note.

The trade war with China has led to more ag banks sliding into the red already. They have been buoyed indirectly by $23 billion in trade assistance the USDA has earmarked for farmers. Plagge, at the Iowa Division of Banking, said it was critical that these agreements benefit the ethanol business and corn country as a whole because government checks won’t always be in the mail.

“Those won’t continue forever. All these trade agreements that were signed, we really need to see them come to fruition,” Plagge. “That’s going to be the real test going forward.”

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