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Summary:

Khosla Ventures-backed Cello Energy, a startup run by Alabama’s former ethics chairman that has been beset by production delays and fraud allegations, ranks among companies that the EPA believes is most likely to help meet federal targets for cellulosic biofuel production in 2011.

Cello Energy, a startup run by Alabama’s former ethics chairman and backed by Khosla Ventures that has been beset by production delays and fraud allegations, still ranks among the companies that the Environmental Protection Agency believes is most likely to help meet federal targets for cellulosic biofuel production in 2011.

According to the EPA’s latest proposal for the 2011 Renewable Fuels Standard (a rulemaking for what percentage of transportation fuels has to be made up of biofuels in 2011), the agency expects Cello Energy’s plant in Bay Minette, Ala. to contribute up to 5 million gallons (8.5 million ethanol-equivalent gallons) of cellulosic diesel. That works out to up to a third of the total 25.5 million ethanol-equivalent gallons of cellulosic biofuel that the EPA sees as the upper bound of what could be produced in 2011.

Hello Cello

The projected fuel contribution from Cello is dramatically lower than the EPA’s previous estimates of 70 million from Cello. But the fact that Cello makes it onto the list of candidates “most likely” to make cellulosic biofuel commercially available in 2011 shows just how much uncertainty and risk riddles this nascent sector.

Here’s the deal with Cello: Back in 2007, the company promised pulp maker Parsons & Whittemore Enterprises (P&W) that it would make $16-a-barrel fuel from cellulose derived from things like hay, switchgrass and wood chips. Cello reportedly accepted a $2.5 million investment from P&W in 2007 to help finance its first plant, and agreed to use discounted wood waste from the company as feedstock.

But in July 2009, jurors in a federal court in Mobile, Ala. decided that the company’s original claims were fraudulent. The court ordered Cello to pay more than $10.4 million in a case where “a string of witnesses testified that samples of the fuel allegedly produced at Cello’s facility….were derived entirely from fossil and not renewable sources,” as the Alabama Press-Register reported at the time.

Khosla Ventures came into the picture by investing $12.5 million in Cello several months after P&W’s 2007 investment and pledging to provide up to $25 million for construction and operation of additional plants. P&W sued Khosla last year alleging the firm had meddled with its business relationship with Cello and reduced its value, but the Mobile jury ruled in favor of Khosla. As Biofuels Digest notes, “Cello Energy hasn’t been heard of at all in the industry,” since last year’s fraud judgement.

The government’s latest research turned up that Cello is still in the process of “assessing feedstock preparation,” (primarily wood with some hay) and “handling issues that must be resolved before they are able to again attempt start up and production at this facility.”

The company’s main strength at this point is its possession of a “structurally complete” production facility in Bay Minette, Ala. that’s large enough to produce up to 20 million gallons of diesel per year. That “puts Cello ahead of many potential biofuel producers,” writes the EPA, but “they have yet to be able to produce biofuel at anywhere near the production capacity.”

The current estimate that Cello will be able to produce no more than 5 million gallons of cellulosic diesel, if that, in 2011, suggests a lesson learned —  just last year the EPA estimated Cello could produce up to 70 million gallons of cellulosic biofuel in 2010.

Uncertain Market

The EPA acknowledges that its biofuel mandate projections involve a high degree of uncertainty, noting that its evaluations are “based on evolving information about emerging segments of the biofuels industry.” The agency also emphasizes throughout the report that the estimates included in its proposal are meant to mark the “upper bound” of possible production volumes — not the final volume that will be used to set the 2011 standard.

For the cellulosic biofuel (including ethanol and diesel) figures, the EPA says it “researched all potential production sources by company and facility,” whether in the planning stages, under construction or already churning out some amount of fuel. Then, the EPA explains:

“From this universe of potential cellulosic biofuel sources we identified the subset that had a possibility of producing some volume of qualifying cellulosic biofuel for use as transportation fuel in 2011.  We then conducted a rigorous process of contacting all of these producers to determine which ones were actually in a position to produce and make available any commercial volumes of cellulosic biofuel in 2011.”

Through this process, the EPA has estimated that seven facilities have potential to crank out 25.5 million ethanol-equivalent gallons of cellulosic biofuels for transportation use in 2011. According to the EPA’s proposal, the agency believes it “could justify” a requirement of between 6.5 million (the requirement for 2010) and 25.5 million ethanol-equivalent gallons of cellulosic biofuel for 2011 (this represents 5 million-17.1 million physical gallons). Biofuels Digest called this range “stunner” of a drop from a previous call for cellulosic biofuels to contribute 250 million gallons.

As the EPA points out, it has a difficult task projecting the volume of cellulosic biofuels that will be produced in the next year, given that:

“Currently there are no facilities consistently producing cellulosic biofuels for commercial sale.  Announcements of new projects, changes in project plans, project delays, and cancellations occur with great regularity.  Biofuel producers face not only the challenge of the scale up of innovative, first-of-a-kind technology, but also the challenge of securing funding in a difficult economy.”

Cello faces not only these hurdles, but also the added challenge of rebuilding its reputation. Time will tell if it’s up for the task, as well as how much the EPA changes its stance by the time of its final ruling on November 30. During the next few months the agency will be collecting comments on its proposal and reports from renewable fuel producers on their outlook for biofuel supplies over the next five years.

Image courtesy of Flickr user re-ality

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