Forces Affecting Industry Conditions
There are several forces that are affecting the industry conditions. With respect to external forces, technology is the major force. Technology has long been the driver of the alternative fuels business. The objective of the business is to produce fuels that are cheaper, more plentiful and more sustainable than fossil fuels. Without these characteristics, there is no viable business. However, the fuels need to have these traits in relation to each other, because alternative energy, and biofuels in particular, are substitutable. As a consequence, competitive advantage goes to the company with the technological advantage. It appeared for a time that GEVO might be that company, but 2012 sales were far below expectations, indicating that perhaps the company's product is not as compelling as it sounds. Most of GEVO's competitors are large multinationals that can dedicate tens of millions, if not hundreds of millions, to the development of alternative energy. As a result, of such investment, it is likely that for the next 1, 3 and 5 years innovation will continue to be the main driver of the alternative energy and biofuels businesses. The key for GEVO is where it will be positioned in terms of its innovation.
The second force affecting the industry conditions is the role of government incentive. During the initial research & development phases, alternative energy sources are typically not viable economically. In order for them to become so, there usually needs to be some sort of research support, often from government if there is no parent corporation to provide it. For GEVO, the ability to tap into alternate revenue sources would be instrumental to offset some of the high costs of the business while it refines its product and finds new applications for it, in order to generate more revenue. This force presently has more potential to be a game-changer than actual impact. Over the next 3-5 years, however, this force could be more important.
The third force affecting the industry conditions is the overall state of the economy. Macroeconomic forces are important because of cross-price elasticities in energy. The Energy Information Administration (2012) notes that cross-price elasticities in energy vary by region and type of energy. For GEVO's product, the exact cross-price elasticities are not known, but what is known is that a lower price of oil will diminish the propensity to substitute biofuels. This propensity is unlikely to change much in the coming years, but the price of hydrocarbons should continue to fluctuate. There are a number of factors the point to a long-run continuation of the trend of rising hydrocarbon prices, which would result in rising demand for biofuels (Heinberg, 2011). However, fracking has lowered prices in the short run, so in the 1-3-year time frame it is not expected that biofuels will get much increase in demand but 5+ years they should, because of the long-term trend line in hydrocarbon prices.
Overall, these forces are going to govern the viability of GEVO, along with the company's own technology, over the course of the next 1-5 years. Innovation (competition) and cross-price elasticities are going to be the most significant factors, the latter depressing demand for biofuels in the next year years but restoring to a long-run increase in demand. The wildcard demand influencer is policy, but there are not expected to be major rollbacks in policy, resulting in relatively slow, sustained growth, but focused on existing applications (Pinto, 2011).
The impact of these forces is going to be greater on GEVO than it is on the competitors. The reason...
GEVO needs the forces to align favorably right now; Exxon, DuPont do not. Amyris is in roughly the same position financially as GEVO is and therefore is going to be affected to the same degree as GEVO to all three of these trends. Amyris and GEVO are competing in terms of technological advantage. Whichever of these two will develop the best biofuel solution is likely to be the one that succeeds in the marketplace, unless the two companies develop different applications for their products. The industry is too small for troubles in this industry to be considered a threat to either Exxon or DuPont, but these firms may decide to exit the business if they feel that the business lacks long-term viability.
Industry Life Cycle
The biofuels industry is either at the introduction stage of the life cycle. The technology and market are both in a state of development. The economics of the biofuel divisions of the major companies are not known, but both GEVO and Amyris are not making money, and face some uncertainty if demand in the industry does not improve. In the meantime, they need to invest in technology in order to be at the top of the industry when demand does pick up. Pinto (2011) notes that biofuels are expected to experience slow but steady growth in both supply and demand in the coming years. There is the risk that in North American demand will outstrip supply by 2020, and this could happen earlier given positive changes to the economic incentives from government.
Still, the growth rate is not very high at present, and by 2020, biofuels are expected to hold only 2-3% for biodiesel. Most of the growth in North America is expected to be in ethanol, rather than emerging technologies (Pinto, 2011). Thus, the product remains in the introductory stage and the challenge for the firms in the industry will be to move this product beyond the introductory stage as the economics of the industry are poor at this stage -- economies of scale are needed to make this business profitable. Moreover, there is no clear answer to the question "who are your customers?," because has only earned $6.5 million for the first three quarters of 2013, and the figure is declining each quarter. There might not be any customers anymore.
The lack of profitability in this industry, but a high potential profitability in the long run, makes for an interesting competitive dynamic. There are a few different competitors in the space, but many of the larger ones are not committed to the industry -- their presence is more exploratory in nature, because they can afford to participate and there is growth potential eventually. There are fairly low barriers to entry at this point, however. The cost of equipment is relatively low -- it is the same equipment used in ethanol production. The amount of research expenditure is relatively low as well, and certainly is low enough than any major energy company can enter the space and play catch-up quickly.
The pace of technological change is expected to be rapid on two fronts. The first is that the pace of innovation is expected to be high, because firms want to create better products, and leapfrog each other, in order to bring the best biofuel products to market. The second element is with respect to scale -- there will be considerable development with respect to scale in this industry over the next 5-10 years in order to enhance its viability. For now, and for the coming couple of years, however, the industry has a low level of profitability. Only with government subsidies would this industry be profitable in the coming few years, and technological innovation will dictate the long-run profitability of the industry. As Porter predicts, niche industries with many competitors, slow growth and high fixed investment are likely to be unfavorable, and have a high level of competitive intensity as firms are essentially jockeying for industry leadership several years into the future. Larger competitors can spend…
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