Financing has closed for the $425 million ASAlliances Biofuels project. The mixture of private equity, mezzanine debt, and bank loans illustrates some of the advances made in the financing of ethanol projects. The deal is the first for an ethanol project to be syndicated to commercial banks, the first entirely greenfield portfolio financing, and one of the largest to come to market to date.

WestLB completed the $275 million senior debt financing for the project, which closed on 6 February, at the same time as the mezzanine and outside equity. The deal brings together a start-up developer, strategic players in ethanol, private equity, agricultural banks and commercial lenders. It is a diverse mix, but since ethanol has become such a divisive issue in the lending community, such a fundraising strategy is a necessary one.

The lead developer of the portfolio is American Strategic Alliances, formed in January 2004 by David Black, president, (formerly head of corporate finance at Deloitte), Steve Durham, co-chairman, (formerly head of his own investment company), and Mike Slaney, (formerly a partner at Akin Gump). ASA is also pursuing investment opportunities in Mexico, but ethanol is its main focus, and this portfolio is its principal investment.

The principals, like several other developers, are part of a new breed of investor that is looking to build bigger plants, and make greater returns than the farmers that have dominated ethanol until recently. Nevertheless, ASA was looking to link up with established players whose input would be essential if its ambitious plans were to be realised.

It teamed up with Cargill, a large agricultural products combine, to supply, and market the output of, its ethanol projects. And it teamed up with Fagen, probably the largest specialist ethanol plant construction firm, to build them. Affiliates of Fagen and Cargill own small equity stakes in the portfolio.

The portfolio consists of three projects, each with a capacity of 100 million gallons per year. They are located in Linden, Indiana, Albion, Nebraska, and Bloomingburg, Ohio. They will also each produce 315,000 tons of dry distillers grain per year, and cost $125 million each to build. The projects will be able to sell ethanol on both the east and west coast markets – the fuel's version of the portfolio effect.

Ethanol has grown in prominence as an alternative fuel, although until recently it had largely been marketed as a fuel additive that could replace MTBE, a methanol derivative that had been linked to groundwater pollution. George W. Bush, however, is now behind an explicit push for ethanol to be used as an alternative fuel. High oil prices have increased its attractiveness, and the recent energy bill has made its incentive support even stronger.

The issue with ethanol, however, is that producers have to grapple with an output price that is volatile, and occasionally derived from the price of gasoline, and an input price – corn – that is volatile, but does not correlate with the price of oil. The price of ethanol is bolstered through an excise credit on blended gasoline, as well as a renewable fuels mandate. But at one point in 2005, the price of ethanol slipped below that of gasoline, troubling both lenders and producers.

However, prices have since recovered, and while some lenders remain wary of taking on such commodity risk, several are coming round. In 2005, CSFB arranged two B loans – for Hawkeye Renewables and Abengoa – while Morgan Stanley has issued two high-yield bonds for Aventine (with JP Morgan) and for VeraSun (with Lehman Brothers).

However, the above deals, with the exception of Abengoa, were for existing assets. And Abengoa's Nordic Biofuels deal struggled with adverse B lender sentiment, so that the sponsor had to make up for lower than expected appetite for the senior debt with sponsor subdebt. Project finance lenders, while cool on commodity risk, are much more comfortable with construction risk, even though Fagen's construction contract is not as comprehensive as those for a typical power project.

The sponsors did consider a B loan, as well as a traditional agricultural bank lender. It did work for a while on a solution that involved First National Bank of Omaha, but decided that the complexity, and size of the deal, as well as the desire to build a group of relationship banks, worked in favour of a wider commercial bank solution.

However, while the deal ultimately did not go out to the B loan market, the financing package resembles one split into bank and B loan tranches. It breaks down into an A tranche of $175 million, which traps 40% cash (100% if the excise credit is not renewed from 2010) towards prerepayment, and is priced at 250bp over Libor, and a B tranche. This B tranche is priced at 425bp over Libor, and amortizes minimally over the early years of the deal. Both pieces have a maturity of construction (18 months) plus 6.5 years.

Key factors in the banks taking up the deal were the above cash sweeps, some debt service reserve accounts, the strength of the offtaker and contractor, and the market's improved perception of the fundamentals of the ethanol price. The best efforts syndication was 2.5x oversubscribed. WestLB brought in lead arrangers and underwriters First National Bank of Omaha, CIT, Standard Chartered and ING.

Syndication launched on 16 November and closed on 5 December. The intervening period has been consumed with finalising documentation. ASA has already started some work at the Nebraska and Indiana sites, using a bridge loan from Midwest First Financial, and will start work at the Ohio site shortly.

Of the non-senior portion of the financing, roughly $50 million is in the form of subdebt, and roughly $100 million is equity. The three subdebt and outside equity providers are American Capital Strategies, Laminar Direct, and US Renewables Group. They are believed to be providing roughly $80 million of the equity.

ASAlliances Biofuels
Status: Closed 6 February 2006
Size: $425 million
Location: Nebraska, Indiana and Ohio
Description: Three 100 million gallons per year ethanol projects
Developer: ASAlliances
Strategic service providers: Cargill, Fagen, United Bio Energy
Lead arranger: WestLB
Subdebt and outside equity: American Capital Strategies, Laminar Direct, and US Renewables Group
Equity and mezzanine placement agent: Challenger Capital
Owners' engineer: HDR
Independent engineer: RW Beck
Corn consultant: Informa
Ethanol consultant: Muse, Stancil
Outside equity legal: Patton Boggs
Developer legal: Locke Lovell & Sapt
Project legal: Dorsey & Whitney
Lender legal: Chadbourne & Parke