Another Fill-Up For Paper Co’s?

An IRS memo released June 28th, 2010, concludes that Black Liquor sold or used before January 1, 2010, meets EPA registration requirements for fuel and fuel additives in section 40(b)(6). Part of this finding appears based on an argument black liquor is not required to be registered as bio-fuel by the EPA. This move would mean that qualifying companies are eligible for a $1.01/gallon subsidy for biofuel, rather than the $0.50/gallon that companies garnered thru much of 2009 for black liquor mixed with diesel fuel in their recovery boilers.

* If viable, the credit only applies to black liquor produced in 2009

It appears the EPA does not qualify non-motor fuels as cellulosic biofuels. Black liquor is not considered a motor fuel. As stated in its June 28th memo, the IRS has applied the same requirements used to qualify motor fuels, and concluded that for purposes of the cellulosic biofuel credit, black liquor does qualify for the $1.01/gallon credit. The credit only applies to black liquor produced in 2009, as recent legislation exempts black liquor from eligibility for the cellulosic bio-fuel credit in 2010.

* We are still digging to understand the full ramifications of this move

It appears that the cellulosic biofuel credit cannot be received in cash, only as an offset to income taxes. Thus, companies would only be eligible for the biofuel credits to the degree they didn’t collect cash for black liquor or were willing to return cash to take advantage of income tax credit.

* Implications for Paper Companies?

Paper companies who received the $0.50/gallon black liquor credit in 2010, can (1) become a registered cellulosic bio-fuel producer, (2) return cash received from the $0.50/gallon alternative fuel credit, and (3) apply for the $1.01/gallon cellulosic bio-fuel credit for black liquor produced in 2009. The alternative fuel credit was mostly delivered to paper companies as a cash excise tax payment (or subsidy). The cellulosic bio-fuel credit is a non-refundable offset to income tax payments. Details are still unclear, but it appears paper producers would have to return the cash received from the first credit in order to receive the tax benefits from the (larger) second credit. These credits could only be used over time as firms have cash taxes to be offset. Among our coverage International Paper, Smurfit-Stone, Domtar, MeadWestvaco, Temple-Inland, Glatfelter, Rock-Tenn, Weyerhaeuser and Wausau Paper are producers of black liquor, a bi-product of their pulp and paper making operations. Non-coverage names like NewPage, Boise, Verso Paper, Sappi and Graphic Packaging are also producers of black liquor.

* Will It Happen?

We remain skeptical, but the IRS memo opens the door. We understand that some companies are in the process of becoming registered as cellulosic bio-fuel producers. In our view, the political risks surrounding this issue remain difficult to ignore. We would be cautious about assuming full value for the credits.