United States: EPA Proposes 2012 RFS-2 Targets Applicable To Cellulosic Biofuels

U.S. cellulosic biofuel obligations for 2012 will once again fall dramatically short of statutory targets. The United States Environmental Protection Agency (the "EPA," or the "Agency") recently proposed cellulosic biofuel obligations for 2012 under the RFS-2 renewable fuel standard program. The proposed obligations fall well short of the statutory targets set out in the 2007 Energy Independence and Security Act (the "EISA").

Cellulosic biofuels are chemically identical to conventional, grain-based biofuels, but are made by processing non-food sources. Producing the most popular conventional biofuel, corn-ethanol, requires diverting corn that would otherwise be used for food or animal feed to energy production, which may increase food costs. In the alternative, conventional feedstock producers could acquire more land to plant, water, fertilize, and harvest corn specifically for use as fuel, but the additional commitment of natural resources and fossil fuels required for large-scale conventional feedstock production may tend to counteract the environmental advantages of conventional biofuels. In contrast, feedstocks for cellulosic biofuels often come from agricultural waste like corncobs and stalks and therefore do not compete with food use or require additional cultivation.

The EISA established a requirement that the United States increasingly rely on biofuels for its energy needs.¹ The target requirement increases annually until it reaches 36 billion gallons of renewable fuels used in 2022 and, each year, cellulosic biofuels are scheduled to make up an increasing portion of the entire renewable fuel requirement.² The EISA calls for 500 million gallons of cellulosic biofuel to be blended into the domestic fuel supply in 2012,³ but EPA has exercised its authority to revise this number downward, and proposed a 2012 obligation of between 3.45 and 12.9 million gallons.⁴ However, even this lower obligation may be overly optimistic. In 2011, EPA called for 6.6 million gallons of cellulosic biofuel to be blended into the domestic fuel supply,⁵ but actual production fell far short of that goal, and blenders were required to purchase compliance credits from EPA to make up the difference.⁶ Although the 2012 cellulosic biofuel obligations may require an even lower volume to be blended than was required in 2011, many in the industry doubt that 2012 production will be sufficient to meet even the low end of EPA's proposed range.⁷

The RFS-2 Program

Title II of the EISA amended section 211(o) of the Clean Air Act (the "CAA") to create the RFS-2 program and required EPA to promulgate regulations to implement the renewable fuel standards.⁸ Section 211(o) set a long-term requirement that the United States use at least 36 billion gallons of renewable fuel by 2022, with 16 billion gallons coming specifically from cellulosic ethanol.⁹

Under the RFS-2 regulations, obligated parties, such as refiners and importers of gasoline and diesel fuel, must demonstrate that they have met their annual renewable volume obligation (RVO) by using certain quantities of biofuels.¹⁰ Producers of renewable fuels must comply with specific rules to generate serial numbers, called renewable identification numbers (RINs), which are assigned to particular batches of biofuel.¹¹ Obligated parties purchase biofuel from producers and submit the RINs to EPA to prove that they have used the biofuels and are in compliance with their RVO.¹²

Setting RVOs

The EISA requires EPA to set national volume targets for production of several categories of renewable fuels, including cellulosic biofuels. To meet the volume targets, obligated parties must use a certain ratio of renewable fuels as a part of overall fuel production or import. The required ratio, called the percentage standard, changes each year as the national volume targets increase. EPA calculates an RVO for each obligated party based on a formula that includes the percentage standard and the obligated party's expected volume of overall fuel production.¹³

CAA section 211(o) requires that EPA set the cellulosic biofuel volume target based on the volume of cellulosic biofuel projected to be available during the following year.¹⁴ EPA uses both Energy Information Administration (the "EIA") data and information from industry in making this projection.¹⁵ Nonetheless, EPA's 2010 volume target of 5 million gallons of cellulosic biofuel proved overly ambitious.¹⁶ Although final EIA figures are not yet available, Nathanael Greene of the Natural Resources Defense Council estimated 2010 actual production was roughly 1 million gallons.¹⁷ EIA Administrator Richard Newell communicated to EPA that cellulosic biofuel production would only reach 3.94 million gallons this year,¹⁸ but EPA nonetheless set the 2011 volume target at 6.6 million gallons,¹⁹ and it appears likely that the 2011 volume target will not be achieved. EPA has proposed a 2012 volume target between 3.45 and 12.9 million gallons and is required to publish the final 2012 volume target by November 30, 2011.²⁰

Given the rationale that EPA uses in setting the annual volume targets applicable to cellulosic biofuel under the RFS-2 program, it is unsurprising that cellulosic biofuel production has not been sufficient to meet recent years' volume targets. EPA has stated that its focus in setting the annual volume targets is on potential production – not the production values that are expected, but rather those that are "potentially attainable."²¹ EPA maintains that this approach is best suited to satisfy the goals of the RFS-2 program by establishing an incentive to stimulate increased production.²² From industry's prospective, however, unrealistic targets operate in effect as a tax, requiring obligated parties under the standard to purchase compliance credits from EPA when it is impossible to purchase sufficient volumes of cellulosic biofuel due to insufficient production.²³ For these reasons, the American Petroleum Institute and the National Petrochemical and Refiners Association recently submitted to EPA a petition to reconsider the final rulemaking setting the 2011 RVOs, but EPA denied this petition in its recent notice of proposed rulemaking for the 2012 annual targets.²⁴ Indeed, the Agency appears poised to continue its focus on potential production in setting future targets under the RFS-2 program.

Obstacles to Cellulosic Biofuel Production

Lackluster production volumes raise questions about the effectiveness of federal government programs designed to assist in the development of cellulosic biofuel production facilities. Additionally, many of these programs face significant political or financial uncertainties that could restrict their ability to spur cellulosic biofuel production in the future.

Loan Guarantee Programs

Both the U.S. Department of Energy (the "DOE") and Department of Agriculture (the "USDA") offer loan guarantees to support the construction of cellulosic ethanol production facilities.

DOE's Loan Programs Office administers two loan guarantee programs that are applicable to biofuels under Title XVII of the Energy Policy Act of 2005.²⁵ The Section 1703 Program is named for the section number of its authorizing legislation and was enacted to further the commercial availability of innovative clean technology, including renewable energy systems.²⁶ Though the Energy Policy Act was enacted on August 8, 2005, regulations were not finalized until 2009, and the first loan guarantee was not announced until December of that year. To date, only four projects have been funded under the Section 1703 Program, none of which relate to cellulosic biofuel research or production. Part of the reason why so few projects have been funded under the Section 1703 Program thus far is because the program requires loan guarantee recipients to pay the Credit Subsidy Cost, which is the government's estimated cost for providing the loan guarantee, at closing, which can be several million dollars.²⁷ This additional expense makes the Section 1703 Program much less attractive than alternative programs that might be available to the same applicants and do not require payment of the Credit Subsidy Cost.

The more popular DOE loan guarantee program is the Section 1705 Program. The American Recovery and Reinvestment Act of 2009 amended the Energy Policy Act of 2005 to create a temporary program to provide funding for innovative clean technology in specific areas, including biofuels projects performing at pilot or demonstration levels.²⁸ Unlike Section 1703, Congress appropriated funds to cover the Credit Subsidy Cost of Section 1705 loan guarantees so that recipients do not have to pay the Credit Subsidy Cost at closing.²⁹ However, the window of opportunity for Section 1705 funding has largely shut; DOE's authority to enter into new agreements under the Section 1705 program expired on September 30, 2011, and approved projects must have commenced construction prior to that date.³⁰

Unlike the Section 1703 Program, the Section 1705 Program has a history of funding cellulosic biofuel projects. The first loan guarantee under the Section 1705 Program was announced in July 2009, and now, more than 30 projects have been funded, including two cellulosic ethanol programs. The first cellulosic ethanol project to receive a Section 1705 loan guarantee was a $105 million loan guarantee awarded in July 2011 to Poet LLC to support its construction of an Emmetsburg, Iowa, plant designed to make 25 million gallons of cellulosic ethanol per year from agricultural waste such as corncobs and husks.³¹ A $133.9 million conditional loan guarantee for Abengoa Bioenergy Biomass in Hugoton, Kansas, followed in August 2011. Abengoa's planned facility is expected to create 23 million gallons of cellulosic ethanol annually out of corn stalks and leaves.³²

The USDA also offers a loan guarantee program applicable to cellulosic biofuel projects through its broader Bio-refinery Assistance Program. The program is administered by the USDA Rural Development Program and intended to support the development and construction or retrofitting of commercial-scale biorefineries. It was authorized by the 2008 Farm Bill, which included mandatory funding for the program through 2012.³³ The program, which favors projects located in non-urbanized areas with fewer than 50,000 residents,³⁴ has provided loan guarantees for three cellulosic ethanol projects in to date. In January 2011, INEOS New Planet BioEnergy LLC received a $75 million loan guarantee to support construction of a plant near Vero Beach, Florida that will produce 8 million gallons of ethanol per year³⁵ using feedstocks that include orange peels and household waste.³⁶ The project finalized its private funding in August 2011, and construction is scheduled to be completed in May 2012. That same month, the USDA awarded Coskata, Inc., a $250 million loan guarantee — the largest loan guarantee ever granted for a cellulosic ethanol project — to construct a 55 million-gallon-per-year biorefinery producing cellulosic ethanol from wood chips. The company began operating a pilot plant in 2009 and expects to finalize private funding and begin construction of the commercial plant in the fourth quarter of 2011.³⁷

Research and Development Grants

DOE and USDA jointly offer grant funding for biofuels research and development and for construction of pilot and demonstration plants. The Biomass Research and Development Initiative was authorized by the 2008 Farm Bill³⁸ and the Energy Policy Act of 2005.³⁹ Recipients' projects must integrate feedstock development, biofuel product development, and biofuel development analysis.⁴⁰ Additionally, the Recovery Act allocated $480 million to DOE for grants of up to $50 million to construct biorefinery demonstration plants and $25 million for biorefinery pilot plants.⁴¹ DOE provided grants to 14 projects under this one-time program, including pilot plants for cellulosic ethanol technology which will be used by the INEOS and Abengoa commercial bio-refineries.

Though these temporary grant programs have resulted in some successes, most notably a December 2009 grant to Enerkem Corporation to develop a waste-to-biofuels process that eventually resulted in a planned commercial facility supported by USDA loan guarantees, the sources of research and development funding that are currently authorized are unlikely to result in significant, short-term increases in cellulosic biofuel production. For instance, most of the recipient projects of DOE/USDA Biomass Research and Development Initiative funds in 2011 were sponsored by research institutions, as opposed to construction projects for commercial purposes. The largest grant was $6.9 million awarded to the University of Kentucky to support a four-year study of growing biofuel feedstocks.⁴² In September 2011, USDA announced $136 million in grants over five years to universities studying biomass crop production.⁴³

Indeed, the opportunity to use federal grant funds to build a demonstration plant and then a federal loan guarantee to enlarge the demonstration plant into a commercial facility may not be available to future projects. The Recovery Act funds that supported Enerkem's grant were made possible through a one-time allocation to DOE that has not been renewed. USDA's Section 1703 Program does not allow loan guarantees for projects that have already received federal grants, and the Section 1705 Program expired on September 30, 2011.⁴⁴

Future Uncertainty

The slate of expiring funding opportunities underscores the uncertain state of federal funding for cellulosic ethanol going forward. In February 2010, a federal biofuels taskforce, which included both the Energy and Agriculture Secretaries, issued a report on the state of biofuel production in the United States.⁴⁵ The report called for loan guarantees and research funding targeted at increasing production outcome to meet cellulosic biofuels targets.⁴⁶ Nonetheless, there have been no indications that these expiring programs will be reauthorized anytime soon. However, although funding for new programs may be in doubt, Congress has made some provisions for currently pending proposals. For instance, the expiration of DOE's Section 1705 Program may not have much effect on cellulosic ethanol projects which are waiting for Section 1705 funding because Section 1705 applications received before February 24, 2011, can be paid from Section 1703 funds.⁴⁷ Any of these pending Section 1705 projects that are ultimately funded with Section 1703 funds will still be able to avoid paying for the Credit Subsidy Costs.⁴⁸ However, without Congressional action, new projects could only be funded through the Section 1703 Program, which has not guaranteed a loan for a cellulosic biofuel facility to date. Moreover, any new projects guaranteed through the 1703 Program would be required to pay their own Credit Subsidy Cost, perhaps making these loan guarantees prohibitively expensive to many applicants.

USDA's loan guarantee program may be subject to modification as well. The Section 9003 Biorefinery Assistance Program was initially funded through Fiscal Year 2012, and its future will depend on Congressional reauthorization. Secretary of Agriculture Tom Vilsack has signed a policy memorandum encouraging the development of biofuels to improve both the environment and economy and seems likely to lobby Congress for reauthorization.⁴⁹

One obstacle to reauthorization is the ongoing criminal investigation of Solyndra, Inc., and actions taken during its application for a DOE Section 1705 loan guarantee.⁵¹ Solyndra received a $535 million loan guarantee to construct a facility to manufacture solar cells, but filed for bankruptcy in September 2011. Some members of Congress have questioned DOE's management of Solyndra's loan guarantee. The current attention on Solyndra and the possibility of a political shakeup in the 2012 election add doubt to the future of both the DOE and USDA loan programs.

The future of the RFS-2 program itself is also far from assured. Many industry advocates suggest that the program's underwhelming results to date are attributable to its failure to create a robust, accessible market for renewable fuels. A popular point of view suggests that renewable fuels funding should be redirected from tax credits and loan guarantees to infrastructure projects that may more readily support a market for the fuels themselves.⁵² Under this line of reasoning, EPA's consecutive downward revisions to the cellulosic biofuel RVOs have sent a negative signal to industry, suggesting that the investments required to create a market for the fuels are unlikely to pan out.⁵³ Nevertheless, there are some signals that policymakers may be reluctant to abandon the current approach at the moment; recent attempts to cut tax credits for ethanol blenders were defeated in the Senate.⁵⁴ However, there is also speculation that some Democratic votes that helped defeat the measure were driven by procedural considerations rather than the underlying policy, suggesting that a renewed future effort may yield different results.⁵⁵

Given the current political dynamic in Washington, the upcoming 2012 elections, and the questionable success of the RFS-2 program in spurring cellulosic biofuel production, the nation's approach to renewable fuels may be at a turning point. Congress could reauthorize expiring programs upon which expansion of the fledgling cellulosic biofuel industry currently relies, or political gridlock might persist through the 2012 election, leaving the biofuels industry largely unsupported. Alternatively, economic conditions may support renewed consideration of how to best ramp up cellulosic biofuel production in an effort to spur the development of green jobs. These larger questions aside, cellulosic biofuel producers and blenders will anxiously await EPA's final rulemaking setting the 2012 RVOs, which must be completed by November 30, 2011. EPA's action in that rulemaking will go a long way toward answering perhaps the most important question facing the industry at the moment: will 2012 cellulosic biofuel production be sufficient to meet the EPA's target?

Footnotes

1 Energy Independence and Security Act (the "EISA") of 2007, 42 U.S.C. § 7545(o)(2) (2010).

2 Id. § 7545(o)(2)(B).

3 Id. § 7545(o)(2)(B)(i)(III).

4 76 Fed. Reg. 38844 (July 1, 2011).

5 75 Fed. Reg. 76790 (Dec. 9, 2010).

6 Jenny Mandel, Refiners Protest EPA's 'Ridiculous' Cellulosic Targets, Environment & Energy Daily (June 22, 2011).

7 See generally id.

8 See Pub. L. No. 110-140, §§ 201 – 210, 121 Stat. 1492, 1519-1532 (codified at 42 U.S.C. § 7545(o)).

9 42 U.S.C. § 7545(o)(2)(B).

10 40 C.F.R. § 80.1406 (2010).

11 Id. § 80.1426.

12 Id. § 80.1427.

13 Id. § 80.1127 (2010).

14 42 U.S.C. § 7545(o)(3).

15 See, e.g., 76 Fed. Reg. 38844, 38849-53 (July 1, 2011) (providing an overview of existing and potential cellulosic biofuel facilities in making the 2012 volume projection).

16 Dina Fine Maron, Much-Touted Cellulosic Ethanol is Late in Making Mandated Appearance, Environment & Energy Daily (Jan. 11, 2011).

17 Id.

18 Allison Winter, White House clears new goals for RFS program, Environment & Energy Daily (Nov. 23, 2010).

19 75 Fed. Reg. 76790 (Dec. 9, 2010).

20 40 CFR § 38846.

21 See 75 Fed. Reg. 76790, 76794 (Dec. 9, 2010) ("[W]e explored the 2011 volumes for individual companies as projected by EIA to determine not only what volumes might be anticipated, but more importantly what volumes were potentially attainable.").

22 See 76 Fed. Reg. 38844, 38881 (July 1, 2011) ("[W]e believe that the volume of cellulosic biofuel actually produced in a given year is likely to be strongly influenced by the standard we set.").

23 See, e.g., Mandel, supra note 4 (quoting the president of the National Petrochemical & Refiners Association referring to the credit-purchasing requirement as a "tax" and a "surcharge").

24 40 CFR § 38844 et seq.

25 Energy Policy Act of 2005, Title XVII, 42 U.S.C. § 16501 et seq. (2011).

26 42 U.S.C. § 16513(b).

27 Id. § 16512(b)(2).

28 American Recovery and Reinvestment Act of 2009 § 406, 42 U.S.C. 16516.

29 42 U.S.C. § 16512(a).

30 Id. § 16516(a).

31 Bill Tomson, U.S. to Help Finance Cellulose Ethanol Plant, Wall St. Journal, July 7, 2011.

32 Department of Energy, Department of Energy Offers Abengoa Bioenergy a Conditional Commitment for a $133.9 Million Loan Guarantee, Aug. 19, 2011, http://energy.gov/articles/department-energy-offers-abengoa-bioenergy-conditional-commitment-1339-million-loan.

33 Food, Conservation, and Energy Act of 2008 § 9003, 7 U.S.C. § 8103.

34 7 U.S.C. § 8103(e)(1)(C)(vii); see also 7 C.F.R. § 4279.265(d)(8).

35 INEOS New Planet Bioenergy, INEOS Bio JV Closes $75m in Private Financing Under USDA Loan Guarantee Program for Advanced BioEnergy Center in Florida, Aug. 18, 2011, http://www.inpbioenergy.net/news/view.html?id=25.

36 Id.

37 Coskata, Inc., Coskata Completes First Close of Series D Financing, Aug. 21, 2011, http://www.coskata.com/media/index.asp?story=B0130A68-DD3A-41A7-9999-EAD446171209.

38 Food, Conservation, and Energy Act of 2008 § 9001(a), 7 U.S.C. § 8108.

39 Energy Policy Act of 2005 § 210, 7 U.S.C. § 8108.

40 See Food, Conservation, and Energy Act of 2008 § 9001(a).

41 Department of Energy, DOE Announces Nearly $800 Million from Recovery Act for Biofuels, May 5, 2009, http://apps1.eere.energy.gov/news/daily.cfm/hp_news_id=164.

42 Mary Meehan, UK gets $6.9 Million Federal Grant to Help Reduce Reliance on Foreign Oil, Lexington Herald-Leader, May 6, 2011, http://www.kentucky.com/2011/05/06/1731563/uk-gets-69-million-federalgrant.html.

43 USDA Office of Communications, Agriculture Secretary Vilsack Announces Major Investments to Spur Innovation and Job Creation in Research, Development and Production of Next Generation Biofuels, Sept. 28, 2011, http://www.usda.gov/wps/portal/usda/usdahome?contentid=2011/09/0425.xml.

44 H.R. 1473, 112th Cong § 1425 (2011).

45 Biofuels Interagency Working Group, Growing America's Fuel: An Innovation Approach to Achieving the President's Biofuels Target, Feb. 4, 2010.

46 Id. at 1.

47 H.R. 1473, 112th Cong § 1425 (2011).

48 Id.

49 USDA, Agriculture Secretary Vilsack to Sign MOU to Support Continued Development of Biofuels and Related Products, Feb. 25, 2011.

50 Steven Mufson and Joe Stephens, Solyndra Executives Will Invoke the Fifth at House Hearing, Washington Post, Sept. 21, 2011.

51 Carol D. Leonnig and Joe Stephens, Chu Takes Responsibility for a Loan Deal that Put More Taxpayer Money at Risk in Solyndra, Washington Post, Sept. 29, 2011.

52 See, e.g., Jenny Mandel, EPA ruling lowers 2011 targets for cellulosic ethanol, Environment & Energy Daily (Nov. 29, 2010) (quoting a biofuel industry group as stating that "the lack of access to the market" is what is preventing cellulosic ethanol use, and suggesting that federal payments for ethanol use should be redirected to support infrastructure development to support the industry).

53 See Fine Maron, supra note 15 (stating that EPA's lowering of cellulosic biofuel requirements "cools interest from private investors).

54 Jenny Mandel & Elena Schor, Senate defeats Coburn amendment to strip federal subsidies, Environment & Energy Daily (June 14, 2011). Though the measure sought to strip current federal tax credits for ethanol blenders, the amendment did not include any provisions to redirect these funds to other programs, such as infrastructure improvements, to benefit the renewable fuel industry.

55 Id.

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