Biodiesel Economics. JohnPaul Portelli

Transcription

1 Biodiesel Economics JohnPaul Portelli June 27, 2005 For: Joseph Doucet

2 As the price of crude oil continues to rise, with 0non-renewable resources diminishing and more countries wishing to be independent of the effects of foreign oil, many governments are looking at the use of biodiesels in their countries as an alternate source of fuel. Biodiesels are made from animal or vegetable fats. The main advantage of biodiesel as an alternative fuel is that it can be used in conventional diesel fuel engines with minimal alterations. As a matter of fact, the inventor of the diesel engine originally meant for it to be produced with vegetable oil. This report will highlight some of those results as well as examine the economics behind this new revolution. With the price of diesel rising, it seems obvious that more and more consumers are going to look for alternative sources of fuel. Biodiesel is currently not cost effective when measured again conventional diesels. The main driver behind the production of biodiesel is its reduced emissions. This report will look at the costs of producing biodiesel as well as the infrastructure needed to support this effort. Diesel Diesel can be made up of any type of oil. Currently most commercial diesel is made from petroleum, but diesel can also be made from oils produced from vegetable and animal fats. Due to the organic nature of this development, it has become known as biodiesel. Biodiesel, is made from a process called transertification, and it is the methyl esters produced in this process that are used as fuel. Depending on what type of vegetable source is used, different properties will be inherent in the biodiesel. For example, biodiesel made from palm oil may have a cetane number of 62 while a soybean derived biodiesel will have a cetane number of approximately 46. Currently biodiesel is in production from a wide variety of sources. Rapeseed, soy, jatropha, mustard and palm

3 oil are used to make biodiesel. As of 1998, the global production of major vegetable oils was as follows: Oil Production in Million Tonnes Soybean 12 Rapeseed 8.5 Cottonseed 5 Sunflower 7 Peanut 3.5 Coconut 2.6 Linseed 0.5 Palm 10 Olive 1.6 Other 10.9 Total 61.6 Region Million Tonnes North America 16.6 South America 7.4 China 3 India, Pakistan, Bangladesh 3.7 Former USSR 6.2 Europe (without former USSR) 9.8 Africa 3.1 Malaysia, Philippines, Indonesia 8 Others 3.8 Total 61.6 Source ( Biodiesel is not as robust as petroleum diesel (called so to distinguish from biodiesel), in that it does not burn as efficiently (ie, does not contain the same amount of energy per equivalent litre of fuel as petroleum diesel). It has a higher cetane number, a higher pour point, cloud point, and iodine number. Cetane number is one of the primary measurements for the quality of diesel fuel. It is a measure of the ignition delay time of a fuel upon injection into the combustion chamber of a diesel engine. The shorter the ignition time, the higher the cetane number. Biodiesels typically have a higher cetane number than petroleum diesels. In many cases, where biodiesel is mixed with petroleum diesel, the relationship between mixtures and cetane number is linear. Cloud point and pour point relate to the temperature that wax first becomes visible upon cooling and the temperature at which there is a significant amount of wax out of solution that it is capable of gelling the fuel. Iodine number a measure of the degree of unsaturation of the fuel. High iodine numbers can lead to deposit formation as well as storage stability problems. Viscosity is the measure of thickness of a fluid. The more

4 viscous a fluid, the more difficult it is for fuel injectors to properly dispense the fuel, and the more difficult for an even distributed fuel and proper combustion. It should be noted that in every measure, with the exception of cetane number, biodiesel underperforms when compared to petroleum diesel. This should be seen as significant because it seriously impedes biodiesel s market penetration. If owners of diesel engines, whether it be through cars, heavy equipment, generators etc are going to use biodiesel, then investment will have to be made into modifications of existing systems which will reduce the incentive, which already exists when looking at the price of fuel. Also, the high cloud and pour points are an impediment to Canadian penetration where diesel engines (using petroleum diesel) have trouble starting in the extreme cold weather, and are forced to use additives and modified fuel. The use of biodiesel would make this more difficult and the use of additives (depending on what they are) is counter productive to switching to a more green fuel.

5 Benefits of biodiesel The main driver behind the use of biodiesel is not that it is more cost effective (which it certainly isn t when compared to petroleum diesel). However, behind its recent resurgence (has been around for a long time), has been the increasing cost of petroleum diesel in recent years. This is directly tied to the price of oil. Oil Price US Oil Price (US $/bbl) Year Average Nominal Inflation Adjusted Source: As the price of diesel continues to increase, biodiesel will become more and more attractive a fuel. The main driver behind biodiesel is its environmental friendliness, or at least its perceived environmentally friendliness. Biodiesel is still a pollutant, yet its use causes less pollution than petroleum diesel. Petroleum diesel is a byproduct of crude oil, which is classified as a non-renewable resource. Over the past few decades, there has been a growing awareness to the importance of the environment and its degradation that is being contributed to in part by the production and consumption of petroleum based products.

6 Also, the public s perception of oil is bad due to media attention on oil spills and destruction of landscape to oil production. In the past, much of the production of smog and pollutants has come through the burning or consumption of petroleum based products. Thus, there is a desire to shy away from the use of these products. The reduction of dependence on the reliability of middle eastern oil is considered an advantage to the North American population as swings in oil prices can have tremendous effects on the national economies of Canada and the United States. As global demand continues to rise, the dependence on imported oil for North America becomes ever more serious. Collectively, Canada and the United States consume Mbbls/day while producing Mbbls/day. While Canada is a net exporter of oil, approximately 0.9 Mbbls/day one must not forget that the two economies are tied, such that any disruption in America s economy is likely to have an effect on Canada s. Thus there is a push for the use of alternative fuels such as ethanol and biodiesel. Canada currently consumes 22.5 billion litres of diesel per year. Emissions The main push behind alternative fuels is emission reduction. Diesel fuels have long been known to be contributors to noxious gases when combusted. In addition to noxious gases, petroleum diesel fuel, when combusted emits unburned hydrocarbons, (also known as volatile organic compounds), carbon monoxide, particulate matter, NOx (product of high temperature combustion of nitrogen), as well as sulfates and CO 2 (considered to be the main proponent of global warming). NOx is the main contributor to smog, thus a shift to biodiesel would not improve the smog situation in major cities. It would actually make it worse, although insignificantly. Different blends of biodiesel reduce emissions at

7 different rates. A pure biodiesel produces fewer emissions than a petroleum diesel and biodiesel mixture. B100 B20 Total Unburned Hydrocarbons -67% -20% Carbon Monoxide -48% -12% Particulate Matter -47% -12% NOx +5% +2% Source: Biodiesel Pour it in your Tank! (Vancouver Biodiesel Cooperative) The amount of emission reduction is directly related to the ratio of biodiesel to petroleum diesel. Biodiesel and Kyoto Many proponents of biodiesel are heralding the fuel for its effectiveness in reducing greenhouse gases. They point to a 75% decrease in the production of CO 2 when compared to petroleum diesel. This number, however is more related to the fact that many of these proponents consider the greenhouse gases emitted by biodiesel to be consumed by the various sources of inputs, such as rapeseed and soy. This however does not address that these plants used for other industries, would still and does use up the carbon dioxide gases produced by petroleum diesel. Also, any type of biodiesel produced from animal fats should not be included in this cycle. Thus, while it may be seen as a valid argument, to suggest that all greenhouse gases are consumed in a life cycle is more the stuff of marketing rather than science. Whenever hydrocarbons are burned, CO 2 is bound to be a byproduct. Petroleum diesel produces 2.7 kg/litre CO 2. At 22.5 billion litres consumed per year, this amounts to Mtonnes of CO 2. At full implementation, biodiesel, according to the life cycle theory would reduce this CO 2 production by 75%. At lower levels of market penetration, which is expected, this number will be greatly reduced. While this will afford some steps toward Canada s goal of reaching Kyoto, the small penetration of

8 biodiesel into the marketplace will not be a significant reduction in Canada s 260 MT shortfall. In addition, there is a limitation on the amount of carbon sinks that Canada can use to reduce its CO 2 reporting, so this will not have an effect on Kyoto. The fact that trading of credits has not started makes it difficult to judge what economic impact this will have on Canada. Agriculture According to Stats Canada, there is currently 52.1 million acres of farmland in Alberta million of that is currently used for crops. The rest of the land is used for other farming purposes such as cattle etc. In Canada, there is currently million acres of land being used for farming. Of that total, 89.9 million is currently used for crops. Because of the subsidy heavy nature of the biodiesel industry, for the purposes of this report, it will be assumed that governments will be not be favourable to the concept of the sale of biodiesel to other countries. This will not hold under NAFTA, but for the purposes of this report, it will be assumed. In this hypothetical case, would a national biodiesel program be able to meet all of Canada s diesel command? Would Alberta be able to meet its own demand? Of the 89.9 million acres used in Canada, 26.8 million acres are used for wheat, 4.6 million for oats, 11.6 million for barley, 11.1 for alfalfa, and 6.9 million for animal fodder. The number of crops that could be used for biodiesel that are currently grown in Canada are small. Currently there are 9.3 million, 2.7 million, and 400 thousand acres devoted to canola (rapeseed), soy, and mustard respectively. Alberta has 2.7 million, 88, and 57.1 thousand acres of canola (rapeseed), soy and mustard respectively. Under the following basic assumptions, if each of these inputs were used to created biodiesel, Alberta could create billion litres of biodiesel every year, enough to

9 supply ¼ of the province s needs. Similarly Canada could provide 18 to 20% of the nation s needs. Currently soy is the most used input in the creation of biodiesel. This is due in large part to the soy producers of the US who have extensively marketed their products. In Canada, if all crop farm land were to be changed to the production of biodiesel using soy, there would not be enough farmland in Canada to meet the needs of the country. However, using rapeseed, they would be met. Alberta would exceed its diesel consumption by 4 times. This is a foolhardy approach, because it is not feasible to convert all of Canada s farmland to products to be used for biodiesel. Cattle farms and other industries such as bakeries rely on many of these products as supply chains to their outputs. One must also consider that such a change to the agriculture landscape would severely affect the cost of these various products. Imagine the cost of the price of bread should the amount of wheat being produced essentially vanish. It would have a devastating effect on their economies. We would then see people complaining about the price of bread and how biodiesel and other alternate producers have destroyed that market. Currently, it is more profitable for canola and other producers to sell their product for other consumption uses. To that end, most experts see biodiesel as filling 5 10% of the biodiesel market by In truth, this seems to be a very feasible solution.

10 Cost of producing biodiesel vs. cost of producing gasoline The cost structures of producing petroleum diesel and biodiesel are very different. The price of crude oil accounts for roughly 38% of the costs of diesel gasoline (this will obviously increase or decrease with the fluctuations in crude oil costs). 40% of the cost is federal, provincial and municipal taxes and the GST. 17% refiner s margin and 5% retail margin. Cost of producing biodiesel derived from rapeseed The canola yield is approximately 1.25 tonnes/acre in the winter months and 0.75 tonnes/acre in the summer months. Taking the average gives 1 tonne/acre. This number will be used in all further calculations. Yield of rapeseed: litres/acre Cost per tonne: $ per tonne Cost of production from $0.29 per litre to $0.67 per litre Using these figures, it can be calculated that the cost of selling biodiesel without margin in Canada will be between $0.88/litre and $1.87/litre. The cost is most likely closer to the former than the latter. In further application, $0.88/litre will be used. Currently, no national subsidy plan has been announced in Canada, but Saskatchewan, Manitoba, and Ontario have adjusted tax rates for renewable fuels. If Canada takes the same direction as the U.S. by giving tax incentives, as well as subsidies (currently on the order of $0.38/litre, then biodiesel might be able to compete on a local level. The cost of producing diesel is approximately $0.494/litre, which also includes retail margin. Because the price of petroleum diesel at the pump is in large part due to taxes, comparing biodiesel and petroleum diesel is difficult.

11 For the same margins to exist, government would have to give subsidies of between $0.53/litre and $1.52/litre. Again, assuming that the cost is $0.88/litre, then the government has to give incentive to the tune of $0.53/litre. If all of Canada s diesel consumption was to become replaced with biodiesel, the government of Canada would have to hand out $11 billion in subsidies. More realistically is the use of biodiesel penetrating 5% of the market over the next several years. Because of the high cost of subsidies, it is unlikely that the government will grant subsidies. Capital Cost Estimates for Biodiesel Plants Plant Size Capital Costs (Canadian $ million) 1.9 million litres/year $ million litres/year $ million litres/year $ million litres/year $21 Capital Cost 56.7 Million litre Plant Component Capital Costs (Canadian $ million) Equipment 5.04 Buildings 1.68 Utilities 1.01 Civil/Mechanical/Electrical 3.83 Land/Prep/Transportation Access 0.27 Engineering/Permitting 0.27 Contingency (10%) 1.34 Total Installed Costs Natural Resources Canada suggests that the capital costs are equal to x Also, the project cost will be 15% higher than the capital cost due to financing fees construction etc.

12 To recover the costs of the capital investment, the producer will have to add a cost to the consumer. IRR Net Rev Net Rev / Litre 5.00% % % % % % Margin at Refinery to Recover Capital Costs Margin (cents/litre) % 10.00% 15.00% 20.00% 25.00% 30.00% IRR From low ends of the profit margin to higher ends, the price of biodiesel will be approximately between $0.9 / litre and $1.25 / litre. However, this is assuming the cost of fuel to be at $0.88/litre. Differences in fuel type as well as production, taxes etc. will increase or decrease the cost of biodiesel. To recover the costs associated with the capital expenditure, a biodiesel production plant will have to add approximately 10 cents per litre to achieve a reasonable return on investment. All this equates to approximately a cost for biodiesel around approximately $1 / litre, using canola oil

13 Tax incentives Diesel Fuel Tax Biodiesel Exemption Cents/litre Cents/litre Federal Newfoundland Nova Scotia New Brunswick Prince Edward Island Quebec Ontario Manitoba Saskatchewan Alberta British Columbia 15.0 to to 21.0 Yukon North West Territories Nunavut In Alberta, there is no distinction between biodiesel and diesel, so the government taxes both at the same rate, 9 cents per litre. In Alberta, we would see the cost of biodiesel at approximately $1.10/litre. Sensitivity to inputs While the increase in the cost of oil is allowing more and more consumers to consider biodiesel as an alternate fuel, the increase in demand for biodiesel inputs will severely affect the final price paid. Petroleum diesel is sensitive to the price of oil, such that a 50% increase in the price of oil will amount to a 15 cent/litre increase in the price of diesel. Similarly, biodiesel, being made from commodities that are traded globally will be subject to swings in price of the commodity. For instance, a 50% swing in the price of canola will affect biodiesel s final price by at least 30 cents/litre. The difference in this case is that there are many different types of oil that can be used to produce biodiesel. However, the flexibility for refineries to switch from one type of input to another is still unknown at this point.

14 Also, being subject to organic based inputs, the price of biodiesel will also be greatly affected by weather. Droughts, floods, tropical storms, etc. will all affect the commodity supply and thus affect the price of biodiesel. Other Revenue Other revenue that can be obtained from the production of biodiesel is that of glycerine. Glycerine is the primary byproduct in the production of biodiesel. It is used in cosmetics, pharmaceuticals, soaps, and toothpaste. Over the past few years, the demand for glycerine has been rising, such that in Canada, imports have far exceeded exports. Between 1992 and 1998, glycerin production grew at an annual rate of 14.4% Currently glycerine sells at approximately $1.50/kg but Canada s demand has increased from approximately 9,000 tonnes in 1998 to 19,500 tonnes in The Federal biodiesel production target is 500 million liters a year. The glycerine produced by an industry this size would be 50,000 tonnes, much higher than the demand and would have Canada as a net exporter. However, the amount of glycerine on the market that would be introduced by this as well as other biodiesel producing countries would soon reduce the cost of glycerine substantially and therefore be negligible as a byproduct credit on the cost of producing biodiesel.

15 Market penetration A recent survey from Environment Canada showed what customers were willing to pay for increased biodiesel use. The table is below. Summary of Blend and Pricing Results for Biodiesel Survey Price Respondents are willing to Pay for Biodiesel Blend Mining 5% more than diesel 20% Petro. Exp. 5% to 10% more than diesel 20% Marine 10% more than diesel 100% Skiing 10% more than diesel 100% Transit NA 20% Forestry 10% more than diesel 20% Parks NA 100% Therefore, when the price of oil is $60/bbl, petroleum diesel retails for approximately 90 cents/litre in Alberta. At a 20% blend (B20), the cost of biodiesel would be approximately 94 cents/litre at its lowest cost structure. This is within the range of the mining, petroleum exploration, and forestry industries. Therefore biodiesel would be considered a suitable alternative to petroleum diesel. At its highest cost structure, biodiesel would retail for more than $2.00/litre, which would not be competitive. Future growth There is a certain algae, that when grown can yield enough oil to produce approximately 60,000 litres of biodiesel from a single acre. This would change the whole economics of the fuel and would most likely make it cost effective without having to divert agricultural resources to biodiesel. These algae could be grown in desert land and thus take very little to supply Canada s needs. Only 375,000 acres would be needed to supply Canada with enough biodiesel to meet the countries demands. However, research is still being done on this work.

16 Conclusion Biodiesel at 100% market penetration is not feasabile in Canada. In Europe, it has been successful in large part due to subsidies and tax breaks. So far, Canada s government has been reluctant to provide any such breaks. However, by implementing a biodiesel blend of 20% for every litre of petroleum diesel, and by using niche markets, such as mining, or agriculture, biodiesel would be able to make an impact in the market and see a penetration of 5 10% in 10 to 15 years. If successful, it will become a step for governments to reduce the amount of pollution that is being emitted to the atmosphere. At an oil price of $60/bbl, the lowest cost producer of biodiesel would be profitable, but for higher cost producers, a significant shift in the price of oil would be necessary before someone would switch to biodiesel on purely an economic basis.

17 References t5dpl5awybcyzr6ontpos27qduvlvsgq2izbz352gzath/2005+canola.htm

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