By Greg Peel

Biofuels can be produced from many different sources. They can be derived from the conversion of household waste for example, from sugar cane leaves or the waste from other agricultural industries, from used fish-and-chip oil, or from purpose-planted sources such as corn for use in ethanol production, to name a few.

In each case, the biofuel produced not only reduces the world's need for fossil fuels, it produces a cleaner form of energy which can assist in the reduction of greenhouse gases. And it is derived from renewable sources.

But various biofuel sources have their drawbacks when it comes to commercialisation. The production of biogas from household waste is site-specific. The production of fuel from agricultural waste has seasonal limitations. There are only so many fish and chip shops, and owners are not going to take long to charge accordingly for their waste, if commercialisation were realistic. The production of biofuel from purpose-planted crops throws up a very clear dilemma – one which has already been experienced.

The recent Bush Administration decided one way to reduce America's reliance on foreign oil exports (and at the same time appear “green”) was to encourage and subsidise the production of ethanol from crops such as corn and soy beans for gasoline substitution. The problem is these subsidies were snapped up by farmers who already produced the crops, and if the crops were sold for food or sold for fuel what did a farmer care?

The end result was vast acreages of previous food production given over to the near-sighted and inept ethanol production policy, which sent staple food prices skyrocketing in early 2008. What was given with one hand was taken away with the other.

A growing global population – and one in which emerging economies are improving their nutritional intake – cannot afford to reduce scarce land mass available for food production. This renders the growing of crops for the specific purpose of ethanol production an ill-fated exercise. For the production of biofuels from vegetation to be worthwhile, they must be based on a form of vegetation which is not otherwise consumed.

One source is palm trees, albeit the Asian demand for palm oil is vast. However, palm trees are slow-growing and require a large amount of land. But there is another source which offers considerable potential.

Algae.

There is not a huge demand for algae as a food source, or for a source of much else for that matter. The average Australian's contact with algae is simply in the occasional algae bloom outbreak which threatens water purity. Yet algae is a fast-growing organism which is not picky about location and nor is it seasonal. All you need is sunlight, carbon dioxide and the right conditions to be created and away you go.

Algae is a diversified source of biofuel. Depending on type, algae can contain lipids and oils to make feedstock vegetable oils for biodiesel, carbohydrates for conversion into ethanol, proteins for animal feed supplements, hydrocarbons for the productions of jet fuel, and nutrients for the production of fertilisers. Sufficient algae can provide a biomass supply for power generation.

Algae production can source carbon dioxide not just from the atmosphere but directly from a coal-burning power station or other major emitter, thus offsetting carbon production.

The development of a renewable energy industry based on algae is still in its infancy, and the technology is still being developed and tested. The world's largest oil company, Exxon, has already invested US$600m, while others to invest in its prospects include the Bill Gates Foundation and the Rockerfeller family. In their sights is substitution within global industries as listed above that are worth hundreds of billions of dollars per year.

The race is on to come up with the best technological solution to the efficient and commercial production of biofuel from algae. One such company is a current leader in the race through the development of its own intellectual property. That company is US-based Tec.Bio LLC, and the exclusive global rights to exploit that IP for commercialisation belong to as yet unlisted Australian company Algae.Tec.

Algae.Tec is now undergoing an Initial Public Offering with the intention to list on the ASX on September 17, 2010. The company code will be AEB.

While Algae.Tec's IP is a carefully held secret, we do have some insight into what sets the company's biofuel production process apart. Firstly, it is modular.

Most fledgling algae biofuel plants rely on systems of open and/or closed ponds, which mean limitations of both land requirement and static location. Algae.Tec has developed a system of growing algae in modular units – ostensibly converted shipping containers – which can be added to, stacked, and set up at almost any location, including right next door to an existing power station.

The IP not only runs to process and algae selection, but also to a proprietary lighting system which exploits both solar energy and artificial light for round the clock production. And the neither system, nor any one plant, is specific to one type of algae.

By sourcing carbon dioxide from an emitter such as a power station, emissions are delivered into a modular photo-reactor system involving Algae.Tec' patented design and technology to grow the algae. Once the algae is grown, Algae.Tec's patented process will be applied in the harvesting, oil extraction and recovery of products. The key components to Algae.Tec's success will be its reactor system, the type of algae used and the ability to bring solar light into the process.

I gratefully acknowledge the work of Wise Owl analyst Imran Vilabhoy in the production of this report [wise-owl.com]. Notes Vilabhoy:

“Algae.Tec's method is more advanced and scalable [than those of competitors], offering superior growth productivity and high design quality end products with significant capital, operating and land cost advantages.”

Wise Owl has sought an allocation of shares in the IPO.

Algae.Tec has already been testing its process in a rudimentary pilot plant with a capacity of 76 cubic metres. The company is intending to raise $7.5m through its IPO to build an 86 cubic metre demonstration plant with a completion target of May, 2011.

The demonstration plant will then test different algae types under differing environmental configurations to determine the best product outcome. Once the process is proven at the demonstration plant, the next plan is to build the company's first commercial plant of 500-1000 production modules by late 2012, located next to a power plant or similar carbon dioxide emitter.

The IPO will only provide for the construction of the demonstration plant. Thereafter, Algae.Tec aims to develop strategic partnerships with power plant equipment providers and operators, manufacturing and construction companies and other users of its end products. However, the jump from demonstration plant to commercial operation will require a great deal more capital, and thus further capital raising.

Subsequent capital raisings will dilute the capital base of initial shareholders (albeit one assumes discount offerings to original shareholders in subsequent raisings). Capital costs may, however, be offset by entering into joint venture partnerships. Algae.Tec has already signed a memorandum of understanding (MOU) with Leighton Holdings ((LEI)) to assist in management and construction of the demonstration plant, and thereafter to provide expertise in identifying suitable operating sites, potential suppliers of CO2, and logistics such as storage, transport and supply chain issues. Leighton will ultimately participate in the construction of a commercial plant and ongoing plant management.

This is a brave new world, and readers considering participating in the Algae.Tec IPO must be fully cognisant of the risks involved. This is technology which is untested at a commercial level, either as Algae.Tec's proprietary technology or anyone else's. While Algae.Tec claims to have superior IP in the field, it is not the sole developer of algae technology. There is plenty of competition. There is a race on.

Investors must also be aware that Algae.Tec's assets are weighted to the brilliant minds of the company's expert personnel, as well as patents. Taking a fledgling idea from testing to demonstration to commercial reality will require significantly more capital investment. There is always, of course, a risk of failure. There will be no cashflow until after commercialisation.

Potential investors are also no doubt aware that plans for carbon trading and pricing schemes in both Australia and the US are now on hold. Algae.Tec nevertheless aims to seek government assistance through other programs.

On the positive side, initial shareholders can look forward to potential stock price re-ratings as milestones are reached – the construction of the demonstration plant, successful testing, agreements or joint ventures signed, construction of the first commercial plant – if all goes well.

A prospectus for the IPO was lodged with the ASX on July 16. The offer opened on July 26 and will close on September 3. The offer is not underwritten, but interested parties can contact the lead manager Minc Stockbroking [thinkminc.com.au].

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