In one of the most memorable moments in cinema, a middle-aged businessman whispers to a young and perplexed Dustin Hoffman one word of advice: "Plastics."

In a 21st-century remake, the word might one day be algae.

Plastic was the new gold when The Graduate was filmed in the 1960s. In the summer of 2008, as oil prices soared to frightening levels, dozens of little companies managed to bring in a sudden gusher of funding for a technology that has long been relegated to the fringe of alternative energy: turning the green scum that grows in ponds and waterways into fuel.

In just six months, investors pledged more than $1 billion to 30 or 40 algae-fuel companies, many of them new. Now with oil prices less than half of what they were in the summer, the fledgling algae industry isn't likely to see more big investments anytime soon, and the credit squeeze will also hamper development. But the companies hope they've raised enough cash to move the technology to the next step and prove that the watery weed can be a viable alternative to petroleum.

The fact is, algae contains an abundance of natural fatty oils that don't need much refining to power cars and jets. Nevertheless, making algae into a cost-effective fuel source remains a highly speculative venture. The process has been tried only on a small scale; so far, just a few thousand barrels of fuel have been made from algae. Large-scale cultivation takes place in huge metal tanks or open ponds. According to a 2004 University of New Hampshire study, the pond method would require 30 million square acres-an area equal to the size of South Carolina-to grow enough algae to satisfy the U.S.'s transportation needs. Whatever process is used will require the building of massive new infrastructure for water management, feedstock supplies, nutrients, and transportation, even if algae oil can be refined at existing facilities. If algae companies can't increase production while maintaining prices that can compete with petroleum's, they will fail.

Still, the prospect of replacing petroleum with a plant-based fuel that has a high energy yield compared with other plants has led some major investors to take the algae plunge-including Bill Gates, whose venture fund Cascade Investment pledged a reported $50 million to Sapphire Energy, a San Diego startup, in a financing round completed in September 2008. The Rockefeller family's Venrock Associates fund has also made a substantial investment in Sapphire, and the company has attracted other blue-chip venture funds, including Arch Venture Partners and the V.C. arm of Britain's huge life-science nonprofit the Wellcome Trust. "We are investing in this because algae is basically the most efficient photosynthetic process on the planet," says Arch's Kristina Burow.

In the fall, the U.S. Department of Energy's National Renewable Energy Laboratory in Golden, Colorado, launched a $200 million effort to fund innovative biofuel technologies and projects, including some using algae. Barack Obama mentioned algae several times on the campaign trail, and his advisers expect algae will play a role in his administration's plans for a massive infusion of federal money into alternative fuels. If it does, the money might come just in time to offset the recent fall in oil prices and credit crunch, which could otherwise imperil algae's prospects. Meanwhile, GreenFuel Technologies of Cambridge, Massachusetts, is developing a system that would use a coal plant's carbon dioxide emissions as a carbon source to feed algae that would be converted into fuel. Near South Padre Island, Texas, PetroSun is converting a shrimp-research facility into an algae pond. Big oil companies like Chevron are also committing resources to pond scum. "Algae still needs to be proven at scale," says Chevron spokesman Alex Yelland, "but we have a real sense that this will seriously augment the world's biofuel supply in the future."

One sunny afternoon in South San Francisco, I find myself investigating the nascent algae revolution from behind the wheel of a Jeep running on biodiesel made by Solazyme, an algae-fuel company founded in 2003. The ride and feel are no different from those of a gas-powered car-no green smoke from the exhaust pipe. In the passenger seat is Harrison Dillon, Solazyme's co-founder and chief technology officer. Before we start the engine, the other co-founder, C.E.O. Jonathan Wolfson, shows me a liter of algae fuel-a clear, slightly viscous liquid that he says is the first algae diesel to meet the highest standards of ASTM International (formerly the American Society for Testing and Materials) for use in engines. The company also recently had its algae jet fuel ASTM-certified.

Wolfson and Dillon won't say how much their green crude costs to make or how the company-which recently closed on a $50 million funding round and cut a major deal with Chevron for an undisclosed amount in January 2008-plans to go from the few thousand gallons in its warehouse to the millions needed to satisfy even a tiny fraction of the U.S.'s yearly oil habit of 7 billion barrels. "The problem with algae isn't so much the science," says David Kurzman, an independent biofuels analyst, citing the challenge confronting most alternative fuels. "It's developing what has to be a major industrial process and whether this is cost-effective."

When Wolfson and Dillon co-founded Solazyme, oil was selling for $25 a barrel, and the company struggled to find investors. A few years earlier, the Department of Energy had abandoned an algae-fuel program because it expected the fuel to cost consumers more than $4 a gallon. "We were sure we could make oil more cheaply than this and that algae would be big one day," Wolfson says.

The impact of plunging oil prices on the viability of algae fuel is unknown. Wolfson believes that his company will hit its goal of producing a barrel of algae oil for between $40 and $80 in the next two to three years. (At press time in mid-December, petroleum crude was at $44 a barrel after rising to more than $147 in the summer.) "Unless oil falls to under $40 a barrel, we think we will be competitive," he says. Jason Pyle, C.E.O. of rival Sapphire, says he's aiming to make a barrel of algae oil that could be priced at about $60. The truth is, no one really knows what's possible.

Algae is only one of many crops that entrepreneurs hope will challenge petroleum, which remains subject to fluctuations in both price and supply as cartels talk of cutbacks and oil-producing regions remain politically volatile. Money has also poured into ethanol and biodiesel made from so-called first-gen biofuels such as corn, soy, and sugarcane. In fact, $1 billion in private investment for algae is small change compared with the billions of dollars in investments and congressional subsidies that have been aimed at these terrestrial biofuel sources, from which more than 9 billion gallons of ethanol were produced in 2008, an increase of 28 percent from 2007.

But most scientists contend that algae fuel-from cultivation to consumption-has a smaller carbon footprint than other biofuels, though no one will know for sure until algae-fuel production is ramped up. By the barrel, algae fuel provides three to four units of energy for every one unit used to make it, a ratio that approaches petroleum's golden 5-to-1 level of efficiency. Corn's ratio is a mere 1.2 to 1, according to some studies. That's a paltry net output for a crop that, given the spike in global food prices this past summer, is already a controversial energy source. Cellulosic plants like switchgrass also score better than corn, having a 2.5 to 1 ratio.

In the wake of the energy crisis in the 1970s, the Department of Energy spent hundreds of millions of dollars investigating the fuel potential of algae and other plants, but it dismantled the program in 1996. Since then, scientists have continued to work with algae to better understand its genetics and how it produces oils. "It's hard not to get excited about algae's potential," Paul Dickerson, chief operating officer of the Department of Energy's Office of Energy Efficiency and Renewable Energy, told the first Algae Biomass Summit, which was held in San Francisco in 2007 and attracted 350 scientists, technologists, entrepreneurs, investors, oil company representatives, and policymakers.

In Solazyme's headquarters, Wolfson shows me labs filled with flasks of goo ranging in color from lime to forest green. The company's scientists are testing different species of algae in search of optimal ones, both natural and bioengineered, for extracting oil. More than 30,000 algae species exist, but only a few hundred have been studied. Solazyme produces its raw algal material in huge metal fermentation tanks through a process that Wolfson says can rapidly generate large amounts of biomass. Inside the vats, algae is bathed in sugars in a pressure- and heat-controlled environment. It's a little bit like making beer, Dillon says. To produce millions of barrels of algae crude, however, this method would require heaps of sugar and cellulosic material as well as a vast area to house the vats, which themselves could be challenging to build and maintain.

About 500 miles south of Solazyme's headquarters, San Diego-area startup Sapphire Energy-the algae firm that won Bill Gates' backing-is betting on the open-pond method, taking advantage of sunlight, which is directly converted into lipids, algae's oily store of energy. The company claims that it can refine its open-pond algae into not only diesel but also high-grade gasoline-an industry breakthrough. Sapphire executives are staying mum about this method. Pyle says only that it makes use of sunlight, algae, and bioengineering. Sapphire is building a 20-acre pilot farm in New Mexico to experiment with scaling up, he adds.

The open-pond system is currently more expensive than one using fermentation tanks, says Department of Energy biofuels expert Fred Gerdeman. And expanding production from a few greenhouses and pilot ponds to the millions of acres of ponds required to make even a modest dent in the world's consumption of fossil fuels would pose a considerable challenge for Sapphire and other open-pond advocates. Gerdeman believes that both enclosed-tank systems and open ponds will be part of the mix in a future algae-fuel industry. Within five years, Sapphire aims to be producing 10,000 barrels of algae oil a day. By 2022, it hopes to reach 200,000 barrels a day-about what an offshore oil platform produces. By comparison, Chevron's worldwide operations produce about 2.5 million barrels a day. Sapphire aims to raise $1 billion to fund the expansion. "We want to build an oil company," says Sapphire backer Burow. "This is not just a short-term play."

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