Financial analysis of a biochemical cellulosic ethanol plant and the impact of potential regulatory measures

The financial model presented in this paper analyses which regulations work best in order to incentivise investments into Biochemical Cellulosic Ethanol Plants (BCEP). The production technology utilised in these plants is currently in the decisive development stage called "valley of death". Rather than looking at the whole economy, the financial model is concerned with the "micro level" of an investment in one particular BCEP under variable combinations of assumptions and prevailing economic conditions. To this end, it combines policy and techno-economic analyses by modelling future cash flows under varying input assumptions. Transportation and feedstock costs, as well as bioethanol prices are assumed to be correlated and to follow a random walk. Their impact on the outcome of the financial model is analysed by applying Monte Carlo simulation. The effect of certain regulations is evaluated by economic indicators such as net present value, internal rate of return, payback period, and the relative cost of subsidy. The results show that an "ideally fixed" price policy - a combination of a fixed price component and the variable price development of the relevant input factors - works best in relation to expected returns and cost of subsidy. This implies an important lesson for policy makers, who should favour flexible price mechanisms over simple fixed price regulations.

JEL Classification: E27, G11, G38, Q16

Key words: Second-generation biofuel, cellulosic ethanol, regulation, policy, investment, technology valley of death, Monte Carlo simulation, financial modelling, techno-economic modelling