Ethanol Tax and Tariff Changes Likely to Affect DDGS Value

Steve Meyer

January 9, 2012

4 Min Read
Ethanol Tax and Tariff Changes Likely to Affect DDGS Value

To paraphrase the Munchkins, Queen Glinda and Dorothy in the Wizard of Oz – “Ding, dong the blenders’ tax credit is dead!” Both the blenders’ tax credit and the ethanol import tariff expired on Dec. 31. The tax credit, which allowed ethanol blenders to save 45 cents/gallon on each year’s tax bill, and the tariff, which added 54 cents/gallon to the price of any ethanol imported into the United States, were mainstays of the federal government’s three-legged policy that contributed to the meteoric growth of corn-based ethanol production from 2006 through 2010.

It appears that the ethanol business will finally have to deal with basic economics – sort of. The federal policy’s third leg, the renewable fuel standard, is still in place and will require ethanol blenders to use 13.2 billion gallons of corn-based ethanol this calendar year. But any move toward a more market-based situation is an improvement, right? Well, sort of.

There is a reason economists are well known for beginning statements with “On the other hand . . .” Markets have a way of giving and taking away and we are seeing that come into play in the ethanol markets. While the end of the blenders’ tax credit will reduce what ethanol blenders will pay for ethanol, and thus reduce the value of corn made into ethanol and reduce the price of corn in the long run, another market-based situation is reducing the value of the distiller’s dried grains with solubles (DDGS) coming out of ethanol plants. Producers need to make sure they know exactly what they are buying.

Get What You Pay For
In a recent newsletter, Rob Musser of NutriQuest, Mason City, IA, ( lays out the economic proposition for ethanol plants removing corn oil from DDGs. First, corn oil is worth about four times the price of DDGS, so selling corn oil makes a lot more sense. If the plant reduces oil content from 10.7% to 7.2% and we apply a $0.30/lb. price differential to 3.5% or so of the 900 tons of DDGS that a 100-million gallon plant will produce each day, you get a gain of $6.6 million in annual revenue from the same amount of corn. As Musser points out, the equipment is not that expensive and can easily be paid for within one year of operation.

I agree with Musser’s assessment that the elimination of the blenders’ tax credit will be one driver for further adoption of corn oil removal from DDGS since plants will be forced to do whatever they can to enhance revenue. I would add that this move is further evidence that government subsidies usually contribute to inefficient operations. You just don’t have to be as good at what you do when money flows in from government coffers.

Musser goes on to point out that the removal of corn oil from DDGS has a dramatic impact on the value of DDGS as a feed ingredient. NutriQuest’s data shows a 1% oil removal from DDGS increases the cost of finisher diets by $3 to $6/ton. Therefore, 3.2% oil reduction noted above would increase the cost of a finisher diet by nearly $13/ton.

The value reduction is not completely due to lower energy content. NutriQuest used its database of DDGS nutrient contents from 10 plants that produced DDGS with four specified fats levels: 10.7, 9.5, 8.5 and 7.5%. Changes in crude protein, amino acid levels, fiber and total energy were used to formulate a finisher diet containing 30% DDGS. At $5.84 corn, $267 soybean meal, $175 DDGS and $0.435/lb. fat, DDGS with 7.5% fat was worth $50/ton less than DDGS with 10.7% fat. If the DDGS inclusion rate was allowed to increase, the value differential fell to $43/ton.

The implications are huge for a sector that is routinely feeding diets that contain 20-40% DDGS. The price of DDGS remains competitive with corn in hog diets (Figure 1) after spiking sharply higher this fall when DDGS prices were driven $30/ton higher, I believe, by drought-enhanced demand from beef cow operations and higher cattle feedlot inventory. But they quickly fell back in line as corn prices rose and pork producers reduced inclusion rates or even withdrew DDGS from diets, thus depressing DDGS demand.

The key is to know what is in the DDGS you are buying. Is the plant removing corn oil? What is the oil level in the product being delivered and is it consistent? If not, how much variation exists? It might be time to check out other suppliers.

It’s tough to make optimal decisions without accurate information. In this case, market-driven economics have introduced a new source of variation for pork producers to consider.

Production and Price Summary Table Footnote
Please note that the “#N/A” values in the Production and Price Summary tables are due to some cumulative data (sow slaughter, cow slaughter, several items of Canadian data) being available only through Dec. 31, 2011, while others are available through Jan. 7, 2012. Adding them together makes no sense. It's just year-end, year-beginning mismatch of data that will be solved next week, I think. Next week’s data should all be on a consistent 2012 format.

Click to view graphs.

Steve R. Meyer, Ph.D.
Paragon Economics, Inc.
e-mail: [email protected]

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