You may not realize it yet, but the bioeconomy is at a historic crossroads. The world's largest agricultural companies are on the cusp of developing genetically engineered crops capable of producing novel ingredients for animal feeds, which are currently sourced from supply-constrained production systems.
We have 10,000 years of experience growing crops, supply chains are firmly in place, and there are multiple market needs. There's a $22 billion-per-year bounty up for grabs -- and it figures to be a layup for the industry.
That's what looking backward at the technology landscape would predict, anyway, but new technologies may keep GMO crops from running away with the multibillion-dollar market opportunity. What happens in the next few years may force investors to readjust their long-term outlook for grain logistics experts such as Archer Daniels Midland (NYSE: ADM) and crop technology specialists such as Monsanto (NYSE: MON).
The first test for the industry is the relatively small $2.4 billion market for high-margin omega-3 fatty acid ingredients, also known as fish oils. But make no mistake: They could be the gateway ingredients for the much larger $22 billion opportunity.
Our fish-eat-fish world
Fish oils have two primary applications: fish-feed nutrients for aquaculture, and human nutritional supplements. The latter has received the lion's share of the attention in recent years, but the former comprises 75% of the fish-oil market. That's a problem. Why? As the name implies, fish oils come from fish, usually of the wild-caught variety. And aquaculture, which now accounts for more than half of the world's seafood production, continues to grow at a furious pace.
Our fish-eat-fish world is unsustainable both economically and environmentally. Fish-oil prices hit record highs last year -- near $3,000 per metric ton -- as supply struggled to keep pace with demand. Meanwhile, experts think there may be a link between "record numbers of starving sea lions and the nesting failure of brown pelicans" and "collapsing Pacific sardine fisheries from California to Peru." Aquaculture production growth will and should continue, which means alternatives must be found. Enter biotech.
The biotech showdown
Biotech is poised to step up and meet the omega-3 market challenge, but there are two competing production routes. Agricultural biotech companies are racing to develop GMO oilseed crops such as canola, soybean, and camelina that will produce some combination of the three most important omega-3 ingredients -- DHA, EPA, and ARA -- that farmed fish need.
Cargill and BASF have partnered to engineer canola crops with genes from marine microbes that can make them a new source of land-based "fish" oils. The pair have set a deadline of 2020 and have ambitious plans to quickly commercialize the technology. In fact, Cargill wants to pay farmers in Montana to plant up to 500,000 acres of the canola variety once it's available. That could yield 159,000 metric tons of fish oils per year -- about 20% of global demand, and eight times more canola than currently grown in the state. Dow Chemical, now part of DowDuPont, has a similar plan for farmers in Canada.
Not to be outdone, Monsanto is developing GMO soybeans that will result in vegetable oils containing omega-3s for human nutrition applications. However, given that soybeans are a top protein source for both aquaculture and animal feeds, additional applications don't require much imagination.
Yet, while agricultural biotech represents the "keep it simple, stupid" approach to production, it's not the only biotech production route available. And if we decide agricultural land is more valuable growing food for humans, not animals, then we'll need more efficient and higher-yield nonagricultural production routes. That's why a growing list of companies has invested in industrial biotech platforms capable of producing omega-3 ingredients, proteins, and other potential animal-feed additives via large-scale fermentation.
For instance, Archer Daniels Midland and Synthetic Genomics use non-GMO algae to grow DHA Natur, a fish-feed ingredient that provides both protein and DHA. It's one of the grain trader's highest-growth products and is produced in a facility that could churn out up 20,000 metric tons per year. That level of production -- small by industry benchmarks -- would require 63,000 acres of Cargill's GMO canola.
Cargill is certainly aware of the power of industrial biotech: It operates the largest fermentation tanks in the world (producing the food ingredient lactic acid). It also seems to be at least partially hedging its bets. The grain trader has partnered with start-up Calysta to build a 200,000-metric-ton per year facility that will feed methane from natural gas to algae, then harvest the resulting biomass for fish-meal protein. The facility is expected to begin initial operations in 2019.
There are more than 10 companies taking aim at the opportunity in fish meal and omega-3s -- all of which could beat competing GMO-crop products to the market.
In other words, by 2020 investors will have a pretty good idea about which biotechnology will win the battle for alternative sources of omega-3 ingredients. While industrial biotechnology faces unique economic and scaling hurdles, it may eventually become the dominant and preferred production route. Why?
- Fermentation is inherently more predictable than harvesting crops. Production occurs relatively steadily over the course of the year, whereas most oilseeds are harvested once or twice per year, increasing the market risks from droughts and pests.
- Fermentation allows for much higher yields than agriculture. Even when factoring in the corn grown for fermentation inputs, the land footprint of industrial biotech platforms beats agriculture by a wide margin.
- The research and development (R&D) cycle to produce a new industrial microbe for a new fermentation process, and therefore ingredient, is much shorter than that to develop a new GMO crop -- and getting still shorter. It's a matter of months versus years. Plus, there's no need for costly field trials.
- On paper, a single fermentation facility can produce multiple ingredients using roughly the same equipment. In the long run, that could allow Archer Daniels Midland to produce protein, fatty acids, and other animal-feed additives from one facility.
What does it mean for investors?
There are many ingredients included in the animal-feed additive category. Therefore, at least initially, GMO crops and industrial biotech will likely win markets on a case-by-case basis. But over time our understanding of biology will improve and costs will come down, likely making industrial biotech the hands-down winner. Eventually. That said, omega-3 fatty acids should be in the win column for industrial biotech by the beginning of the next decade.
That will have major implications for all companies involved. Direct investments aside, grain traders such as Cargill and Archer Daniels Midland are far enough downstream to benefit from the opportunity no matter which production route wins.
Those investing in GMO-crop R&D that targets novel ingredients may soon discover that those hundreds of millions of dollars are better spent elsewhere, such as biopesticide and agricultural-nutrient technologies. That could affect their valuations in the next few years, at the same time as Wall Street expects megamergers to live up to their promises, especially if large R&D programs and potential product portfolios are written off. It could get messy.
Meanwhile, industrial biotech companies could finally find solid footing with this class of high-margin ingredients, although the investing opportunities remain few and far between. It's best to wait on these technology leaders, even if they're on the cusp of bringing an end to the fish-eat-fish world as we know it.
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