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Ethanol Approval Expected to Boost These 2 Stocks
Stock Analysis & Ideas

Ethanol Approval Expected to Boost These 2 Stocks

So far in 2022, the S&P 500 has dropped around 8%, healthcare has declined 1.7%, and real estate has fallen 6%. However, the utilities sector has gained more than 6%. As part of this sector, the ethanol industry’s contribution to economic growth across several countries is worth highlighting, most importantly because it addresses a major environmental concern —pollution.

Why We Need More Ethanol

The rising demand for ethanol, a compound derived from completely bio-degradable organic sources like corn, sugarcane, etc., is being fueled by the need for cleaner air.

However, this year brought an additional demand for ethanol. Oil and energy prices have been on an upward trajectory ever since the hostility between Russia and Ukraine began in late February. This is because Russia is one of the primary exporters of natural gas, and one of the largest producers of fuel.

Inflation was already on the rise when the war began, compounded by expensive oil and energy prices, all adding to pressures felt across the global economy. Costs are increasing and weighing on the profitability of companies across most industries. Investors are worried about the cost management capabilities of the companies they hold shares of, making the markets highly volatile for the past few months.

Last Tuesday, in a desperate move to cut fuel costs, the U.S. government took an unconstitutional but necessary step of allowing a gasoline blend of 15% ethanol (E15 blend) to continue to be used in summer. The administration justified this move by stating that the E15 blend reduces the price of consumer gasoline by 10 cents per gallon. This allowance is expected to continue till gas prices ease slightly, giving rise to a short period of high opportunity for ethanol producers.

It is important to mention here that warm weather causes the blend to generate more smog than the usual ratio of 10% ethanol to 90% fuel. Notwithstanding this hazard, it looks like the government, which is currently bombarded with several issues to solve at once, is seeking to address one issue at a time.

Regardless, the decision spells good news for ethanol stocks, which got an impetus from this move. However, there are 2 stocks that we think stand in the best position to cash in on this opportunity.

Stocks Poised to Capitalize on the Growing Demand

Archer Daniels Midland (NYSE: ADM)

ADM produces industrial ethanol from plant-based sources such as corn. The firm’s ethanol is used to blend with unleaded petrol for reduced carbon emissions. Additionally, the majority of the company’s customers are energy giants.

A subsidiary of ADM, Vantage Corn Processor, produces ethanol as a by-product of the corn processing procedure. In its last earnings report, the unit brought in higher revenues and wider margins than last year, boosted by strong demand.

Moreover, ADM’s high ethanol sales volume led to the re-opening of two dry mills. These dry mills can be major revenue generators in the forthcoming months as ADM ramps up ethanol production to meet the growing demand.

Also, ADM expects domestic ethanol demand to regain its pre-Covid levels this year. Moreover, international demand for its ethanol is also expected to increase this year, leading to higher export volumes. Interestingly, ADM had forecasted these events before last week’s E15 announcement, meaning that the outlook should be raised soon.

Earlier this month, Stifel analyst Vincent Anderson reiterated a Buy rating on the ADM stock, and raised the price target to $100 from $80 per share. For the first-quarter of 2022, Anderson predicts the company to report some headwinds, which may affect investor sentiment. This, to some extent, explains why the stock’s current average ADM price target of $81.43 represents a downside of 16.12% as of 11 a.m. EST, Monday. Also, Wall Street’s cautiously optimistic stance on ADM, with a Moderate Buy consensus rating, possibly reflects these concerns.

Nevertheless, the analyst is confident that consistent strength in the area of vegetable oil, plus share buyback programs, will help maintain sustainable earnings growth going into 2023.

Green Plains (NASDAQ: GPRE)

Green Plains, the third-largest ethanol producer of the U.S., deals end-to-end in ethanol, including production, marketing, and distribution.

During Green Plains’ last earnings commentary, CEO Todd Becker noted “We believe 2022 is shaping up to be a true inflection point for our company and we are focused on executing on key transformation initiatives as we move through this year and beyond.”

Wall Street analysts predict a 1.8% year-over-year increase in sales for fiscal year 2022. The consensus rating of Strong Buy reflects positive sentiment. The average GPRE price target of $43.33 reflects an upside of 50.42% as of 11 a.m. EST, Monday.

Last month, Oppenheimer analyst Colin Rusch maintained an Outperform rating on Green Plains, with a $46 price target after visiting the company’s first MSC-converted facility and innovation center.

“While often describing itself as mid-transformation, we observed many of the foundational elements for execution (strategy, sales approach, customer engagement) already ingrained in the corporate culture.”

“Notably, a measured approach to its end markets that engenders customer intimacy, as well as laying a foundation for ingredients that we believe can serve as a blueprint as it considers its longer-dated clean sugar opportunity,” said the 5-star analyst in a research note.

Wrapping it Up

The need for clean energy and reduced carbon emissions is already gaining steam, giving a boost to ethanol production. Moreover, the immediate move to increase the proportion of ethanol in gasoline blend to address the issue of rising fuel prices has opened a window of opportunity, even if for a short while, for companies producing ethanol.

According to a study released by Facts and Factors late last year, global Bio-Based Materials market size is expected to reach $87 Billion by 2026, at a CAGR of 26.5% between 2021 and 2026. As a part of this market, companies in the ethanol industry have a lot of room for growth.

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