Badger State Ethanol, LLC

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Badger State Ethanol, LLC

820 West 17th Street
P.O. Box 317
Monroe, Wisconsin 53566
U.S.A.
Telephone: (608) 329-3900
Fax: (608) 329-3866
Web site: http://www.badgerstateethanol.com

Private Company
Founded: 2000
Employees: 40
Sales: $97.7 million (2005)
NAIC: 325193 Ethyl Alcohol Manufacturers

Badger State Ethanol, LLC, (BSE) produces more than 50 million gallons of ethyl alcohol, or ethanol, per year, using more than 18 million bushels of corn in the production process. When mixed with gasoline, ethanol is used as an oxygenated fuel additive to reduce carbon monoxide emissions from motor vehicles, as well as to extend gasoline. Seventeen major metropolitan cities require gasoline retailers to sell E-10 fuel, gasoline with 10 percent ethanol, in order to keep automotive emissions within standards set by the Environmental Protection Agency. BSE also produces E-85 fuel, which is 85 percent ethanol and 15 percent gasoline, for use in flexible fuel vehicles. BSE sells most of the ethanol it produces to fuel blenders throughout the United States and sells both E-10 and E-85 fuel through its retail Smart Station in Monroe.

Ethanol production involves several steps and produces several co-products. First, rocks and cobs must be sifted from the corn, a process that occurs at 15,000 bushels per hour. Sifted corn is then transferred to one of two 190,000-bushel storage bins until it is needed to produce ethanol. When needed, the corn is transferred to a "day bin." A computer-controlled weigh belt feeder measures the amount of corn dispensed into the rotary hammer mill, the grinder. A conveyor belt transports the ground meal to a tank where the addition of water and enzymes creates liquid slurry that can then be heat sterilized. In the liquefaction tank the addition of more enzymes further liquefies the slurry and begins the process of converting starch into glucose sugars. The slurry is transferred to one of four fermentation tanks where the addition of yeast stimulates fermentation, a 60-to 65-hour process which produces alcohol. The next step is vacuum distillation which separates the alcohol from the corn solids. Once transported through the rectifier, the alcohol is strengthened from 145 proof to 190 proof; further drying increases the potency to 200 proof. BSE stores the ethanol in two 750,000 gallon storage tanks. The carbon dioxide emissions from the fermentation process are transferred to a processing facility operated by EPCO, Inc. EPCO produces liquid carbon dioxide for use as soft drink carbonation and various other applications.

Because only one-third of a corn kernel, the starch, is usable for ethanol production, distillation leaves a corn mash comprised of the corn protein. This "wet cake" is sent to a decanter-style centrifuge which removes moisture. The decanted liquid is condensed in evaporators to create a thick syrup. The remaining solids and the syrup are sent to natural gas-fired rotary dryers to prepare the mash for sale as animal feed. The process produces two kinds of distillers grains, golden dried distillers grains with solubles (DDGS) with 10 percent moisture content and distillers modified wet grains (DMWG) with 50 percent moisture. BSE produces approximately 168,000 tons of distillers grains annually.

FOUNDERS' VISION

Company founders John L. Malchine and Gary L. Kramer brought complementary experiences and abilities to the formation of BSE. In addition to being a self-employed farmer for 40 years, Malchine was active in several agricultural and community issues, most notably, as chairman of the Wisconsin Agriculture, Trade and Consumer Protection Board and as a member of the Wisconsin Tax Commission, which regulates agricultural assessments. Kramer, a former veterinarian, brought to BSE several years of independent study on the ethanol industry, including plant engineering and operations and business structure. Prior to the formation of BSE, both Malchine and Kramer were involved in another ethanol production venture, Adkins Energy Cooperative in Lena, Illinois. Malchine held stock in the company and served on the board of directors, and Kramer served as president and chairman of the board from December 1998 to April 2000. In fact, the two men met at Adkins, but financial problems delayed plans for the construction of an ethanol plant. Then, in April 2000, then Governor of Wisconsin Tommy Thompson signed a law which offered tax incentives of up to $3 million per year to ethanol producers. Encouraged by this development, Malchine and Kramer transferred their interest in ethanol production to Wisconsin. They founded BSE in May 2000 with the ambition of building one of the largest dry-mill ethanol plants in the Midwest. During the next 15 months, Malchine and Kramer created a business plan, determined a budget, established contracts and obtained permits for construction, and located financing.

A prospectus outlined the scope of the project and its viability. BSE planned to build a plant capable of producing 40 million gallons of ethanol per year, twice the size of the other existing plants of nearby competitors at the time. BSE expected to create economies of scale that would efficiently produce low-cost ethanol in order to give the company a competitive advantage. Also, this level of production would require 14.3 million bushels of corn per year, thus increasing local demand for corn and improving the agricultural conditions of Wisconsin and the region. BSE anticipated demand would boost the price of corn from 10 to 15 cents per bushel. Moreover, the co-products of ethanol production included grain protein used for animal feed. A location close to livestock producers would provide a local market for these distillers grains and Wisconsin dairy and hog farmers would benefit from a low-cost, local supply of high quality protein animal feed. Another co-product, approximately 128,000 tons of raw carbon dioxide, would provide another revenue stream for BSE. Risks involved the variable selling prices of ethanol and distillers grains as commodities, as well as the fluctuations of purchasing corn and natural gas used to heat grain dryers, both commodities. A short-line railroad would ease transportation of grain from elevators to the plant as well as ease distribution of the final products to BSE customers; local grain would be delivered to the plant by truck.

COMPANY PERSPECTIVES

Badger State Ethanol is a locally owned company. Therefore, its business conduct becomes a direct reflection of the integrity of its investors, its employees, the surrounding community, and the God it serves. Because of this responsibility Badger State Ethanol pledges: To produce environmentally friendly products through environmentally friendly processes. To operate efficiently and profitably without compromising the health or safety of its employees. To recognize its role in enhancing rural development and the profitability of agriculture through value added processing and the creation of quality jobs. To investigate the opportunities for new technologies or expansion and to encourage continuing education for all employees. To acknowledge the importance of its long-term relationship with Monroe and the surrounding agricultural community.

BSE found a location for the plant in Monroe, Wisconsin, 40 miles south of Madison. Kramer and Malchine negotiated a property purchase and site development agreement with the city of Monroe. Under the agreement, the city acquired a 73-acre parcel of land for $825,000 and annexed it to the city. The city then sold a 28-acre parcel to BSE for $1. In addition, the city agreed to spend $1.3 million on infrastructure at the site, including site grading, street improvements, and sewer and water lines. Though the BSE plant would create only 40 jobs, the boost to the regional economy, as well as to fuel self-sufficiency, provided the basis for the city's investment in the project. For its part, BSE would repay the city through property taxes over the next ten years. Before completing the transaction with Monroe, BSE had to secure financing for the company.

BSE approached its financing and investment strategy differently from other ethanol producers. Rather than form a farmer cooperative, which obligated farmers to contribute corn, BSE planned to purchase corn from grain elevators. Hence, BSE would be able to source corn from a wider area of access. To raise capital for plant construction, BSE first registered the offering with the Securities and Exchange Commission and once approved, offered stock for public sale in May 2001, selling shares nationwide as well as to local farmers. With the intention of raising $10 million to $20 million, BSE offered stock at $1,000 per share with a minimum purchase of five shares or a $5,000 investment and a maximum purchase of 2,000 shares or a $2 million investment. To promote the offering, BSE conducted over 50 public meetings throughout Wisconsin and northern Illinois. BSE raised $23.6 million in equity, including $18 million in cash. Rather than use an investment broker or underwriter, BSE handled the transactions itself, with a staff of two. BSE then secured $31.4 million in loans, the balance needed to begin construction. BSE received a $300,000 grant from the Wisconsin State Department of Commerce (this went to the city) and a $3.6 million loan from Alliant Energy Corporation of Madison, under their Shared Savings plan, designed to encourage the use of energy saving equipment.

PRODUCTION LEADING TO
IMMEDIATE SUCCESS

Construction on the plant began in July 2001. A $62,500 grant from the Department of Commerce funded the development of specialized training in ethanol production for 25 employees. Nearby Blackhawk Technical College developed the curriculum and provided the training, which included a six-week classroom course. Even before construction was complete, BSE obtained a contract with a large ethanol distributor in the United States. Construction was completed in October 2002, and the plant quickly passed testing and met engineering standards, a two-month process which occurred in 12 days. Production began October 15, 2002.

BSE gained a reputation for providing quality ethanol and distillers grains to its customers. Lab scientists monitored both the starch content of incoming corn and the fermentation process in order to determine maximum efficiency at the plant. Within one year, BSE operated above design capacity. At ten months, production was expected to reach 44 million gallons, but BSE exceeded even that to finish the year at 48 million gallons produced, 120 percent above design capacity. Moreover, BSE sold all of the ethanol it produced as the company barely kept up with demand, particularly as high crude oil prices made ethanol blended fuels an attractive alternative to gasoline. Other corn products proved successful beyond initial expectations as well. BSE experienced a brief spurt of success in distillers modified grains with solubles (DMGS). Production began at 800 tons for the first month and rose quickly to maximum capacity of 1,600 tons per week in November. However, unexpected changes in the market led to a rapid decline in demand and production settled at 1,500 tons in March 2003. BSE benefited from high prices on DDGS, which sold for $80 to $85 per ton when production commenced in October 2002. By late 2003 the product sold for $140 to $150 per ton. The high commodities price resulted from a drought in Europe which increased demand for animal feed from the United States, and the weak dollar value on the foreign exchange made European import desirable. At the end of its first complete fiscal year, BSE reported $74.1 million in revenue. Ethanol accounted for 70.2 percent of sales, distillers grains for 14.5 percent, and the balance from the sale of corn and support from federal and state incentive programs. The company operated at a profit, and BSE distributed its first dividend at the first annual shareholders meeting in February 2004.

KEY DATES

2001:: Construction begins on 40 million gallon capacity ethanol plant.
2002:: Employees are trained in ethanol processing and production begins.
2004:: Badger State Ethanol (BSE) sets a one-day production record in October and a one-week production record in November.
2005:: BSE opens its first retail outlet for ethanol fuel blends, the Smart Station; construction of pre-processing facility is started.

With production capability well underway, BSE began to make improvements to the ethanol plant's capabilities. In December 2003, BSE installed a Regenerative Thermal Oxidizer (RTO) for plant efficiency and pollution control. Improved emissions control allowed the company to dry all of its distillers grains without exceeding legal standards. BSE formed a partnership with EPCO, Inc., to process the carbon dioxide gas emissions from BSE's ethanol plant into liquefied carbon dioxide used to carbonate soft drinks and refrigerate other products. EPCO built a processing facility at the BSE plant site and went online in July 2004. In August 2004 BSE installed a fifth centrifuge for drying grain efficiently and effectively. The extra centrifuge would allow BSE to handle maintenance and repair without hindering the pace of production. BSE completed construction on the fourth fermentation tank in November 2004. The new tank allowed BSE to extend fermentation time, which improved the effectiveness of conversion of sugar to alcohol by making more efficient use of the starch. Hence, the addition of the fermentation tank boosted production by six million gallons of denatured ethanol per year. Through effective financial and debt management, BSE used operating cash flow to pay for the RTO, the fourth fermentation tank, the fifth centrifuge, and the carbon dioxide processing facility.

BSE continued to experience success in 2004. On October 30, BSE set a record for one-day production, at 143,388 gallons, and in late November, BSE set a one-week production record of one million gallons. Demand for the fuel remained high as unprecedented high prices for crude oil and corresponding gasoline prices made ethanol an attractive supplement, regardless of emissions issues. A bumper crop of corn that year ensured adequate supply at reasonable prices. Also, the federal 2004 JOBS bill extended tax incentives for ethanol production to 2010.

Success gained recognition for BSE. In 2005, BSE won the regional Ernst & Young Entrepreneur of the Year Award for consumer manufacturing. Entrepreneur magazine listed BSE second on the list of "Hot 100 Fastest Growing Companies in America."

BSE LEADERSHIP IN THE FUTURE
OF ETHANOL INDUSTRY

High crude oil prices and the resulting actions of the major oil companies led BSE to make certain decisions that would benefit consumers and ensure its own viability. When the high price of gasoline made ethanol fuel blends an attractive, low-cost alternative to consumers, the major oil companies sold ethanol blends at high prices in order to subdue demand for ethanol and maintain demand for gasoline. This resulted in extraordinarily low prices for wholesale ethanol. In response, BSE obtained a permit to blend and distribute ethanol fuels in order to market its ethanol directly to independent retailers. This helped to restore prices for ethanol to reasonable rates that still benefited consumers.

Moreover, BSE established its own fuel station to serve owners of flexible fuel vehicles in the Monroe area. BSE convinced the City of Monroe to sell the company a 1.25 acre vacant lot for the fuel station. In exchange for the one dollar purchase price, BSE agreed to make land improvements valued at a minimum of $150,000 between 2006 and 2018. The storage tanks arrived and construction began in mid-July 2005. The Smart Station offered gasoline blends with 10 percent ethanol or 85 percent ethanol, referred to as E-10 or E-85, respectively. The unique facility comprised one tank of pure ethanol and one of regular unleaded gasoline. An automatic dispenser blended the fuels according to customer specification at the time of purchase. BSE planned to add two additional fueling lanes, including an E-Diesel fueling lane. The complete station would include an overhead canopy and credit card readers at each dispenser.

BSE sold the fuel to Monroe customers at a low rate in order create demand for ethanol and to build local fuel self-sufficiency. BSE introduced E-85 at 85 cents per gallon the first six hours of the day the station opened. Afterward, E-85 sold at $1.96 per gallon. Though E-85 was known to yield lower miles per gallon than gasoline, consumers recognized that the lower price offset this disadvantage. Moreover, BSE passed its 51-cent per gallon federal incentive on to consumers, further increasing its competitiveness with pure petroleum-based gasoline; the major oil companies, by contrast, retained that subsidy. BSE's low prices encountered potential problems with a Wisconsin minimum markup law. Originating in the 1930s, the law required retailers to set gasoline prices with a minimum markup. Governor Jim Doyle pronounced the law inapplicable to ethanol blends and refused to enforce the law.

In September 2004 BSE conducted a pilot plant study to determine the effectiveness of new technological developments in the dry-mill process. The pilot study proved the feasibility of removing germ and fiber from the corn before fermentation. As such, the process would reduce total flow of raw material into the plant and, hence, would improve efficiency. The success of the project prompted BSE to reevaluate its expansion plans. Rather than continue to expand its existing process facilities to 100 million gallon capacity, BSE decided to construct a plant using the new proprietary process. Furthermore, BSE expected the germ, fiber, and high protein gluten feed to be a more valuable commodity than the distillers grains. In the spring of 2005 BSE signed a contract to begin ten-month construction on the $25 million dry-mill project. BSE expected construction to be complete in October 2006.

Mary Tradii

PRINCIPAL COMPETITORS

Abengoa Bioenergy; Ace Ethanol, LLC; Adkins Energy, LLC; Archer Daniel Midlands, Inc.; Big River Resources; Cargill, Inc.; Granite Falls Energy, LLC; Jefferson Grain Processors; KAAPA Ethanol, LLC; Little Sioux Corn Processors; Midwest Renewable Energy LLC; United Wisconsin Grain Producers, LLC; Utica Energy.