Image Shown: Chevron Corporation is acquiring Renewable Energy Group Inc through an all-cash deal that was announced at the end of February 2022. Image Source: Renewable Energy Group Inc – October 2020 IR Presentation
By Callum Turcan
On February 28, Chevron Corporation (CVX) announced it would acquire Renewable Energy Group Inc (REGI) through an all-cash transaction. The energy giant is paying $61.50 per share in cash for each share of the renewable fuel producer through a deal with a total enterprise value of $2.75 billion when including Renewable Energy Group’s $0.4 billion net cash position. During the second half of 2022, the transaction is expected to close.
Overview
Renewable Energy Group produces biofuels with a heavy emphasis on biodiesel and renewable diesel (‘RD’). The firm primarily produces biofuels using low carbon feedstocks such as distillers corn oil, used cooking oil, and inedible animal fat. It can also use virgin vegetable oils, such as soybean oil or canola oil, as feedstocks though that tends to be a more expensive option. Renewable Energy Group has also at times used algae and camelina as feedstocks, though the firm views these as “next generation feedstocks” that could form the base of the industry down the road.
Image Shown: Renewable Energy Group produces biodiesel, renewable diesel, and a biodiesel/renewable diesel blend. Image Source: Renewable Energy Group – October 2020 IR Presentation
The production process involves Renewable Energy Group using sodium methylate and hydrochloric acid, which the firm has secured under various short- and long-term contracts. Renewable Energy Group entered a long-term hydrogen supply contract to support the production of renewable diesel which is manufactured at its Geismar plant in Louisiana. According to the firm’s 2021 Annual Report:
RD [renewable diesel] generally carries a premium price compared to biodiesel as a result of a variety of factors including the ability to blend it with petroleum diesel seamlessly, better cold weather performance, and because it generates more Renewable Identification Numbers (‘RINs’) on a per gallon basis.
RINs are required to comply with the US Renewable Fuels Standard Program that was authorized in 2005 and expanded in 2007 via federal legislation activities. Manufacturing biofuel in the US produces RINs, as does importing biofuel into the US, which are needed by refineries that produce traditional petroleum fuel products (gasoline, diesel, and kerosene) from fossil fuels to comply with federal regulations.
Effectively, the economics of producing and importing biofuel in the US is enhanced by this federal regulation. Additionally, in December 2019, federal legislation was passed that extended the biodiesel tax credit (‘BTC’) in the US (worth about $1.00 per gallon) through 2022, which further enhances the economics of domestic biofuel production. State, local, provincial, and other incentives are also at play here in certain regions.
Image Shown: A visual overview of the economics of domestic biofuel production in the US. Image Source: Renewable Energy Group – October 2020 IR Presentation
In November 2021, Renewable Energy Group ceased production operations at its biorefinery in Houston, Texas. As of the end of December 2021, Renewable Energy Group had ten biorefineries in the US (nine of which are operational) and two in Germany. Combined, these facilities have 470 million gallons of nameplate production capacity per year though the firm notes that its effective capacity is higher at 599 million gallons per year (these figures do not include capacity at its plant in Houston).
Renewable Energy Group is in the process of expanding the production capacity of its Geismar plant in Louisiana. The goal is to boost annual production from the plant up to 340 million gallons of biofuel per year, versus 90 million currently, through a project set to come online in 2024. Construction started in 2021 and the project is expected to cost just under $1.0 billion to develop. Chevron has the financial capacity to see this development through to the end and to potentially launch additional expansion activities in the future.
Image Shown: An overview of some of the key statistics of Renewable Energy Group’s fleet of biofuel refineries as of the end of December 2021. Image Source: Renewable Energy Group – 2021 Annual Report
Renewable Energy Group has an expansive distribution network in the US and also operates its own branded fueling station near its biofuel refinery in Seneca, Illinois. The company has a testing laboratory at its corporate headquarters in Ames, Iowa, and Chevron intends to locate the headquarters of its renewable fuels business there. Chevron expects this deal will be accretive to its earnings within a year of closing. When the Geismar expansion is completed, the deal is expected to be accretive to Chevron’s free cash flow performance.
As noted previously, Renewable Energy Group exited December 2021 with a net cash position of $0.4 billion (inclusive of its long-term marketable securities on hand) with no short-term debt on the books. Historically, Renewable Energy Group has not consistently generated positive free cash flows (it generated negative net operating cash flow in 2019 and 2021, though it generated positive net operating cash flow and positive free cash flow in 2020). On the other hand, the company generated positive GAAP net income each year from 2019-2021. Renewable Energy Group’s financial position is sound due to its net cash position, though its cash flow performance is “lumpy.”
Chevron
This deal marks Chevron’s evolving efforts to grow its renewable fuel production to 100,000 barrels per day by 2030 (equal to 4.2 million gallons per day). Chevron has placed a much greater focus on growing its alternative energy operations of late as it seeks to comply with changing regulatory and societal views on energy production.
Acquiring Renewable Energy Group aggressively accelerates Chevron’s plans to grow its renewable fuels operations. In 2021, Renewable Energy Group produced 480 million gallons of renewable fuel (equal to a little over 130,000 gallons per day), though please note that this includes volumes from its Houston plant which has since ceased operations. Renewable Energy Group closed the Houston plant due to limitations involving the feedstocks it could process among other items, which were negatively impacting the facility’s economics.
Image Shown: Biofuel emits significantly less CO2 when compared to other forms of fuel, including ultra-low sulfur diesel, compressed natural gas, and electric power from the US power grid at-large. Image Source: Renewable Energy Group – October 2020 IR Presentation
Chevron’s free cash flow generating abilities should swell higher in the current raw energy resources pricing environment, enabling the firm to fund bolt-on acquisitions such as these without weakening its financial standing. Past deleveraging activities (Chevron cut its net debt load, inclusive of short-term debt, by $13.0 billion from the end of 2020 to the end of 2021, bringing it down to $25.7 billion) helped put Chevron in a good position to reward investors while investing in the business.
During Chevron’s annual investor meeting held on March 1, the company announced it had raised its annual share buyback target to $5.0-$10.0 billion, up from the $2.0-$3.0 billion target Chevron announced when reporting its second quarter 2021 earnings update. In January 2022, Chevron increased its dividend by 6% sequentially, making 2022 the 35th consecutive year the energy giant and Dividend Aristocrat has raised its annual payout.
Shares of CVX have surged higher in recent months in the wake of surging raw energy resources pricing. We appreciate management’s commitment to income seeking investors, though the firm’s share buyback strategy at current prices may not be the best use of its capital. Our fair value estimate for Chevron sits at $140 per share and the top end of our fair value estimate range sits at $175 per share (the company’s stock price is trading at ~$166 per share as of this writing). We would prefer that Chevron instead allocate additional capital towards deleveraging activities given that the energy giant operates in a highly cyclical business that is capital-intensive.
Concluding Thoughts
We like this deal as it gives Chevron a base to build up a sizable renewable fuel business. Renewable Energy Group is already generating GAAP positive net income as compared to some alternative energy ventures out there that are running at a large GAAP operating loss, which is primarily why the deal is expected to be accretive to Chevron’s bottom-line within a year of closing.
Chevron is adapting to the changing business and investing climate as best it can while making the most of its core operations focused on producing, refining, marketing, and selling raw energy resources (namely oil and natural gas) and refined petroleum products. Adding Renewable Energy Group to its portfolio should generate substantial organic growth opportunities for Chevron to capitalize on down the road, such as expanding the capacity of existing biofuel production facilities and rolling out additional distribution infrastructure.
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Callum Turcan owns shares in FB and XLE and is long call options on FB. Energy Select Sector SPDR Fund ETF (XLE) is included in Valuentum’s simulated Best Ideas Newsletter portfolio. Chevron Corporation (CVX) and ExxonMobil Corporation (XOM) are both included in Valuentum’s simulated Best Ideas Newsletter portfolio, simulated Dividend Growth Newsletter portfolio, and simulated High Yield Dividend Newsletter portfolio. Enterprise Products Partners L.P. (EPD) and Magellan Midstream Partners L.P. (MMP) are both included in Valuentum’s simulated High Yield Dividend Newsletter portfolio. Some of the other companies written about in this article may be included in Valuentum’s simulated newsletter portfolios. Contact Valuentum for more information about its editorial policies.