Analysts applaud Shell’s Cosan biofuels bet

London, 4 February: Investment analysts have responded positively to Shell’s planned $12 billion joint venture (JV) with Brazilian ethanol giant Cosan, predicting it could help push Brazilian ethanol into world markets.

“This is entirely logical – a brilliant move by both sides,” said Gary Mead, a senior commodities analyst at VM Group in London, which provides commodities analysis for Fortis Bank.

“Brazil has always had difficulty in finding export markets for one of its best products – sugar-based ethanol,” he added. “The deal is a way of helping to break down barriers, both covert and overt.”

On Monday, the two companies announced they had signed a non-binding memorandum of understanding (MOU) to combine some of their existing Brazilian assets in a joint-venture.

Cosan will contribute sugar crushing and ethanol production, trading and logistics facilities, a number of co-generation power plants, and downstream assets including 1,730 retail sites. It is also transferring $2.5 billion of debt to the JV.

Shell will put in 2,740 retail sites, its interest in two second-generation biofuels companies – 50% of Canada-based Iogen and 15% of California-based Codexis – and $1.65 billion in cash.

In a conference call with investors, the companies forecast annual revenues from the JV at R$40 billion ($21 billion).

“We see joining with Cosan as a way to grow the role of low-carbon, sustainable biofuels in the global transportation fuel mix,” said Mark Williams, Shell’s downstream director. “The joint venture would also enable Shell to set up a material and profitable biofuels business, with the potential to deploy next generation technologies.”

John Urbanchuk, a Doylestown, Pennsylvania-based director at consultancy LECG, noted that the deal would give Shell access to substantial feedstock for second-generation biofuels, in addition to significant volumes of sugarcane-derived ethanol.

Citi analysts maintained their ‘buy’ recommendation on Cosan, despite an 11% rise in its share price after the MOU was announced.

“We view this announcement positively; gains of scale are very important in fuel distribution and the partnership with Shell should allow Cosan access to new technologies for production of [second generation] biofuels,” they said in a research note. “Furthermore, we estimate that the assets are being fairly/similarly valued.”

The two sides will now proceed with “exclusive negotiations towards a binding joint venture agreement”, the companies said.

Brazilian ethanol, produced from sugar cane, is the most efficiently produced ‘first-generation’ biofuel, and offers considerable greenhouse gas reduction benefits compared with either gasoline or ethanol produced in the northern hemisphere.

However, Brazilian producers have struggled to tap export markets and face import duties, especially in the crucial US market. “It’s possible that Shell could help with these,” suggested VM's Mead.

Urbanchuk at LECG pointed out that tariff barriers on imports of ethanol into the US expire at the end of this year, but he believes that they are likely to continue in some form.

“But the US is not the only market for ethanol – a number of other countries are looking to diversify away from fossil fuels, including China,” he added. “This deal gives Shell a really good platform for those export markets as well.”