The Brazilian ethanol model

05 February 2007 00:00  [Source: ICB Americas]

Brazil leads the pack in environment-friendly ethanol production, and aims to achieve energy independence

WILLIAM LEMOS/HOUSTON

FIVE-TIME World Cup champ Brazil is winning at a new game, one not played on the grass of a soccer stadium but rather on the sugarcane fields of this South American giant. Ethanol is the name of the game, and Brazilians are eager to take on the world.

With 389 plants in operation and 100 more projects under implementation, Brazil is the world's second-largest producer of ethanol and the leading exporter of the product. Brazil's 2006 production hit a record 4.5bn gallons, up 10% from the previous year.

Meanwhile, exports rose by 20% to an all-time high of 845m gallons. Analysts expect Brazilian production to jump by another 10% in 2007. Unlike US-made ethanol based on corn, the Brazilian product is made from sugarcane, a more economical feedstock yielding five times the energy output of corn for each energy unit invested.

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Original ethanol

The Brazilian ethanol industry has its roots in the late 1920s, when the original ethanol was a blend of 79.5% anhydrous ethanol, 20% ether, and 0.5% refined castor oil. In 1931, the biofuel was officially labeled "engine alcohol." Anhydrous ethanol has been used in Brazil since World War II, sometimes mixed in equal parts with gasoline. In 1966, legislation limited blending at 25%, as research indicated that was the maximum level at which an engine could perform well without being modified.

The oil crises in the 1970s forced Brazil to look for ways to lower its dependency on imported fossil fuel. Brazil's spending on foreign crude more than quadrupled after the 1973 crunch, leaving the government with a huge trade deficit on its hands. A solution needed to be found, and ethanol seemed to be the answer since Brazil had the natural resources and technology if not yet the infrastructure to produce the biofuel in large scale.

In 1975, Brazil launched an aggressive ethanol incentive program called Proalcool, which became the embryo of Brazil's modern ethanol industry. The heavily subsidized Proalcool helped Brazil boost ethanol production to 900m gallons, from 158m gallons, between 1976 and 1979. By the end of the decade, Brazil had saved millions of dollars in crude imports by adding more anhydrous ethanol to its gasoline pool.

Energy independence

The 1979 crisis, during which crude prices soared to $40/bbl from $12/bbl, gave the ethanol industry yet another boost, pressing the issue of energy independence deep into Brazil's psyche. A milestone was set that year, as Brazil developed its first 100% ethanol car, a Fiat model 147 produced by the local subsidiary of the Italian carmaker.

Despite a few technical quirks, the ethanol car slowly gained popularity and, six years later, 76% of Brazilian passenger cars were made with ethanol engines. By 1986, Brazilian ethanol production reached 3.25bn gallons, surpassing a Proalcool target by about 15% for the period.

Although ethanol proved to be a successful alternative to fossil fuel, interest for the biofuel waned after 1986, as crude prices fell back to the $15/bbl level and the Brazilian government withdrew its Proalcool subsidies. Brazilian sugarcane millers incurred heavy losses in the period and many decided to focus production on sugar instead of losing money on ethanol.

The production shift led to a supply crisis in 1989-1990, when Brazil lacked fuel ethanol to meet its domestic needs. A resurgence in gasoline consumption followed and Brazilians returned to the old fuel. Automakers slashed production of ethanol cars amid renewed interest for gas-powered vehicles. By 1990 only 11% of Brazilian cars were made to run on ethanol engines.

It would take another decade for Brazilians to use ethanol in large scale. This came in 2003 with the introduction of the flexible-fuel automobile, which can run either on ethanol or gasoline. As in the 1970s, crude oil was a huge factor since fuel costs were again reaching deep into Brazilian pockets. The flexible-fuel was a hit because it cost the same as a regular car but allowed drivers to save big on fuel. In addition, many of the technical problems in the original ethanol car were largely resolved with the flexible-fuel engine. After a slow start, with 49,000 units sold in 2003, flexible-fuel vehicles accounted for more than 80% of Brazil's automobile sales in December 2006. Analysts believe that figure will continue to climb in 2007.

The fuel is becoming a hot international commodity, and Brazilians want to cash in on its potential. With strong demand at home and growing prospects abroad, Brazilian ethanol production could reach 9bn gallons/year in the next six years, according to Sao Paulo's Datagro group, a leading biofuels consulting firm.

Domestic ethanol demand

By 2013, Brazil's domestic ethanol demand is expected to jump to 7.35bn gallons/year while exports will climb to 1.5bn gallons/year. Datagro estimates Brazil will need to increase sugarcane production by 70% to 700m tonnes/year while investing $19bn to meet these targets.

But the road ahead may prove steep. Although Brazil has the land and know-how to be an ethanol giant, lack of infrastructure remains a serious concern. The Santos port in Sao Paulo, which handles the lion's share of exports, nearly ground to a halt last year during the peak of the ethanol season. Santos' cargo traffic in 2006 grew by 4.6% in comparison with 2005. A Brazilian trader said recently the situation was likely to get worse in 2007, as traffic is forecast to increase by another 4.8%. If Brazil is to nearly double its exports in the coming years, a lot of money will have to be invested to expand and modernize its harbors.

Vital roads

The same goes for Brazil's notoriously poor road system, which is vital for a country that depends on trucks for transportation. While there are projects for the construction of pipelines reaching the coast, producers are still using fuel tankers to move ethanol from the mills to the port.

In addition to improvements at home, Brazil must also work to expand its markets abroad. As odd as it may sound, oil-producing heavyweights Venezuela and Nigeria are among the emerging prospects for 2007. Japan is also a promising front, but many in the industry doubt anything significant in that market will happen this year. An immediate challenge for Brazil is finding a market to offset a likely reduction in its 2007 shipments to the US, which imported about half of the ethanol Brazil exported last year.

Due to increased US domestic production, analysts expect US ethanol imports to be minimal this year. This means Brazil will need to find a destination for about 360m gallons of ethanol that would otherwise be sent to the US. A Brazilian trader said the domestic market could absorb as much as 265m gallons of that amount if Brazil increased its ethanol blend level in gasoline to 25%, from the current 23%. A government official said in December an increase in early 2007 was possible as long as supplies were adequate to meet the additional demand.

Despite the challenges, ethanol producers are optimistic about the future. Brazilians call ethanol a "passport" that will take the country to new frontiers of development.

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