Pressing for a Good Season

Fall has arrived, and pellets are moving off the shelves. Meanwhile, producers play the annual wait-and-see game.
By Anna Simet | September 30, 2017

A combination of strategy, luck, and perseverance is the typical recipe for a U.S. wood pellet producer’s long-term success. The influence each one of these components have on a bottom line varies from one year to another, and even more so, from region to region.

Most manufacturers in the Northeast U.S. have experienced consecutive weak heating seasons the past few years, while industry colleagues across the country have reported the opposite. “It’s all driven by the cost of energy, fossil fuels being extremely cheap and plentiful, the weather, and whether there are incentives for people to make the switch to adopt the new technology,” says Stephen Faehner, CEO of American Wood Fibers, which operates three plants in Ohio, Virginia and Wisconsin. “It’s been a couple of tough years, but that’s just the nature of the business when it goes through the cycle that it does.”

Those factors, coupled with excess capacity that the Northeast hasn’t yet been able to balance out quite yet, have resulted in a bit of shake out and acquisition, Faehner says. “There will be some more going forward, I think. But there are plenty of pellets out there.”

Faehner believes part of the overcapacity problem stems from a lack of good data on pellet production and consumption. “There isn’t a lot of historical perspective on it, so it’s tough to compare it to anything,” he says. “But, it’s been lacking, an industry shortcoming for quite some time. Good data—what we can produce, what’s been sold and what there is for inventory—allows people to make good decisions. People have put plants in bad places, because they didn’t due their due-diligence. It’s unfortunate, but hopefully, we won’t keep making those kinds of mistakes as an industry.” 

Now, with the U.S. EIA’s mandatory reporting requirements, the tide is changing a bit. “It’s generating some pretty interesting data,” Faehner says.

While the West doesn’t necessarily face the excess capacity problem that the Northeast does, growth has been slow over the years. Stan Elliot, vice president of sales and marketing at Pacific Coast Fiber Fuels, which operates a plant in Shelton, Washington, says over the past decade, the market there has grown by around 1 percent each year. “It’s stable, but not a lot of growth opportunities because of the low cost of electricity and natural gas, and now propane has dropped,” he says. “It takes a little bit of incentive away from the pellet market, but there are people who love pellet heat. Unlike the East, we haven’t had that growth in manufacturing capacity, but it’s much more stable out here. Their highs are higher, but their lows are lower.”

Another component to that stability is more consistent weather patterns. “We don’t get the cold swings that the Northeast does,” Elliot says. “We’re going to be dark and rainy for a good part of the winter. In the West, we figure that the weather can influence our business about 20 percent.  If normal is 100 tons, a dealer could do 80 tons if unseasonably warm, or 120 tons if really cold.”

The past two seasons have been solid for the West, especially appreciated after a couple of soft seasons. “Most, probably 90 percent of manufacturers on the West Coast—especially in the first quarter of 2017, when we had extended winter conditions—were sold out, and struggling to keep up, from January to late March,” Elliot says. “Our sales were double in the first quarter of 2017, than what they were in Q1 2016. A lot of retailers, especially the big boxes, stop issuing purchase orders at the end of January, as they are transitioning into garden and don’t typically have the room, but they were ordering through March.”

A strong winter has led to an above-average summer sales period. “Summer sales aren’t a huge part of retailer sales volume, but any time we follow a shortage winter, it keeps the consumer a little more aware of stocking up,” Elliot says. “No retailers or consumers had much of any carryover inventory—we stayed cold for so long—so that resulted in August being a strong month in the West, as people are restocking and reloading. Typically, that’s the pattern. Everybody will stock up in August and September, and then in October, wait to see if the weather will hold through, or if people will wait a little bit longer to buy more.”

In the Northeast, the past couple of seasons haven’t seen those early sales, a ripple effect from the consecutive warm winters. American Wood Fibers’ Virginia plant is able to service the Midwest, mid-Atlantic and some of the Northeast, flexibility that has proved valuable. But that scenario isn’t common, and producers and consumers have had above-average inventory the past couple of seasons, and how much has been anyone’s guess. This winter, however, should be different. “It’s lower than in the past few years, when it was excessive,” says Bill Bell, executive director of the Maine Pellet Fuels Association. For producers in Maine, strategy has been at play in the off season. “Producers have become very strategic about days and hours of operation, including shutdowns on days when demand-sensitive electric rates are predicted to spike,” he says.

For western producers, paying down some debt, repair maintenance or postponed equipment purchases were likely done with some of their surplus cash, but in the case of Pacific Coast Pellets, it went to production of pellets throughout the summer. “It’s much less expensive in the West to produce pellets in the summer than fall or winter,” Elliot says. “You might save 5 to 10 dollars a ton in production costs. Material is typically drier, so running conditions are so much easier. Some companies will just take some of that excess cash flow from a good year and build up inventories heavily in the summer. We kept running full-out when the season ended, building inventory for the coming year. If the winter isn’t great, we’ll throttle back in December or January, when it’s more difficult and costly to produce pellets, and give our guys some time off during the holidays.”

To solve inventory problems, some will lower prices, which also has impacts across the board. “It seems that every year, someone will set the bar a little lower in the marketplace—they might have the mindset that they have to sell those pellets no matter what, to pay the bank and their employees, and that puts a lot of downward pressure on price,” Faehner says.

As far as market share gains go, there’s not much activity, according to Faehner. “It’s not necessarily great quality or differentiation of the product, just commoditization and dropping of the price,” he explains. “Folks respond to that. People do what they have to do, but it’s not sustainable.  There will be continued shakeout, I think, and probably a few more consolidation moves, and maybe this supply and demand cycle will kind of even out.”

According to Bell, some producers in Maine have lost a little market share to Canadian imports. But in the West, new competition is nearly nonexistent. Aside from one company purchasing out of bankruptcy an existing plant and moving it elsewhere, Elliot says he believes Pacific Coast Pellets may be the last new build to date, and that was seven years ago. “But who would build a plant in a market that is currently satisfied, and has a one percent growth rate?,” Elliot says. “It doesn’t make economic sense.”

As for the upcoming season, there are some bright spots that proceed the unknown. One is that pellet quality—albeit slowly—is starting to catch on, at both retailer and consumer levels. “We’re still a relatively new company—our brand is five or six years old, but we’re definitely beginning to benefit from brand awareness,” Elliot says. “People know us. In the West, the Douglas fir pellet is desired, and we’re getting increased interest even from folks in the Northeast who want to bring in a really premier pellet that their high-end customer won’t mind paying the difference for. If you have a consistent, quality pellet, the market is very good. The high-end producers are gaining a little market share from those who don’t have access to the same quality fiber that others do. Beyond that, it’s just trying to maintain your position in a fairly average market.”

Faehner reiterates Elliot’s stance on high-quality pellets. “Diversification of our product is a major thing we’re working on, and others are, too,” he says. “It’s not just a fuel product anymore—it’s much more than that. We have an ultrapremium pine pellet, which has a 10 percent higher Btu value and half of the ash, and it’s on par with these West Coast pellets that are just fantastic.”

Getting retailers and consumers to bite is requiring a hard push from the producer end. “We’re trying to get across good, better and best,” Faehner says. “We’re telling retailers that they don’t always have to sell at the cheapest price for that customer who is only going to buy on price. You can differentiate your retail, and put some different price points in. At the pump, some people put in 87, some people choose 89, some want 93 or 91—it’s a personal preference, so why not offer a differentiated product that has better attributes? I preach that from the mountaintops to every retailer I can talk to. Some premium products out there are better, and they could take advantage of that—attracting a different clientele that might put those products in their basket. People buy premium dog food, people buy a better gas grill. People buy on value as much as they do on price.”

There aren’t as many manufacturers in the West as there are in the East, and overall volume isn’t as large, so consumers there are beginning to develop strong brand preferences, according to Elliot. “In the past four or five years, there are brands that have gained strength,” he says. “Those in high demand sell out almost annually. Those of a lesser quality have a harder time. There is definitely a settling out amongst the players that can access consistently good fiber.”

Another potential driving force behind the upcoming season is the active hurricane system the U.S. is seeing—Harvey, Irma and Jose, so far—which has and could continue to cause a spike in fossil fuel prices. “The effect out West will be less, but it could have a significant and beneficial impact for us,” Elliot says. “We’re somewhat removed from the direct impact, but if natural gas and propane prices go up, it will encourage people to use pellets more often. Potentially, it could be a nice ripple effect for us.”

Hurricane Katrina had that effect in 2005, and fossil fuel prices jumped dramatically, Faehner recalls. “Pressure as a result of hits to oil refiners and distribution channels after Harvey and Irma, these could have an influence.”

And finally, stores like Tractor Supply and Coastal Farm and Ranch are rapidly expanding, strong proponents of pellet heat that may help get distribution in areas that otherwise wouldn’t.

But regardless of quality, distribution, incentives or strategy, weather continues to be the king dictator of a heating season’s success. Odds point to a normal winter, but for now, producers can only watch and wait. “Whether it’s global warming, climate change or a cycle, it just doesn’t seem we would have four years of [warm winters], but you can’t predict it,” Faehner adds. “We just can’t have our heads in the sand—we need to pay attention.”

Author: Anna Simet
Managing Editor, Pellet Mill Magazine