Chasing the American Dream

By Barrett Seaman

It all began, appropriately, in the afterglow of an Optimist club meeting in Lafayette, N.Y., on a Thursday night in the winter of 1972. Over a couple of beers, Doug Keller was telling fellow Optimist Clay Smith about an experiment one of his Syracuse University graduate students was doing. As part of Keller's graduate class in materials science, the student was trying out various chemicals to see if there was some agent that would allow drills to penetrate coal more easily. When he applied ammonia, explained Keller, the raw coal broke down into fine particles, separating the purer hydrocarbons from rock and pyritic sulfur and significantly reducing its ash content.

There was real promise here, Keller said. Ash and sulfur are the principal pollutants in coal. Without them, the remaining fuel would burn clean, unlike the dirty coal used by many big utility plants in the U.S. If the process Keller was describing could be duplicated on a mass scale, it would provide an attractive alternative to oil.

Smith grew excited. An engineer and refrigeration expert who had installed systems for factories and ice-skating rinks, he had the engineering skills to produce such a clean fuel on an operating scale. "Let's get a patent," Keller suggested. "Start a company."

It seemed so right. Here was a convergence of skills, needs and timing. Two years earlier the nation had celebrated the first Earth Day and Congress had passed the Clean Air Act. Another year would bring the Arab oil embargo, long lines at gas stations and an unnerving sense that the industrial Western world could no longer count on endless supplies of cheap oil. Meanwhile, under American soil lay a quarter of the world's coal supply -- easily enough to power the nation into the 22nd century. If Smith and Keller -- two smart, practical fellows who cared about the environment -- could develop a process to burn coal cleaner and at a price that was competitive with Middle East oil, they could help fill a national need and win themselves a place alongside great American inventor-entrepreneurs like Thomas Edison, Henry Ford, Alexander Graham Bell and Thomas Watson. And maybe strike it rich in the bargain. After all, that's the American Dream.

Smith and Keller adopted the Iroquois word otisca, meaning "water that has gone away," as a name for their process and their company. They worked nights in a garage on a back road southeast of town, won the patent rights and sold the idea to local investors who shared their conviction that a clean-burning, coal-based fuel was potentially an economic gold mine. They interested possible customers -- big customers like Florida Power & Light, American Electric Power, General Electric, General Motors -- and they raised nearly $8 million through a sale of preferred stock.

Yet more than 20 years later, Otisca is essentially broke. Keller, in need of money to feed and educate his family, has returned to teaching at Syracuse. Smith still toils stoically in the all but abandoned laboratory the pair converted from an idle brewery on Butternut Street in Syracuse -- producing occasional fuel samples, testing equipment and working the phones in search of a big utility or any company that could offer him the chance to demonstrate Otisca Fuel. There is hope yet, but friends have begun to joke that Smith has raised tenacity to the height of insanity.

The American Dream is not so easy to achieve these days. In the century since Edison, Ford, Bell and Watson turned simple ideas into products and technologies that transformed society, entrepreneurship in America has become more complicated, less nimble. In capitalism's grand struggle between risk and reward, the forces of caution and liability have subtly, sadly, gained the upper hand. It is not enough just to have a good idea. These days one must know the intricacies of corporate finance, government regulation, patent protection, pricing strategy and sophisticated marketing. And even then, in the utility industry anyway, resistance to change, hardened under multiple layers of bureaucracy and regulation, is likely to stop even a great idea dead in its tracks. The tale of Otisca Industries is instructive and ultimately disturbing.

"Clay kicked in a couple of hundred dollars, I kicked in a couple of hundred dollars, and we rented a garage down in Lafayette for 30 bucks a month that we could use after 7 o'clock at night," recalls Keller. After the auto mechanics left, the pair would hook up the pipes and tubes and tinker into the night. Their coal came courtesy of Keller's brother-in-law Fletcher, who got it from a Union Carbide plant south of Charleston, W. Va., and shipped it up in feed bags to Syracuse on the Greyhound bus.

Those were the first heady days, when the learning curve was steep and the flexibility almost unlimited. They switched from ammonia to the refrigerant Freon as the separating agent without filing a single proposal, cost analysis or environmental-impact statement, without any of the constraints big corporations face daily. If something worked, they used it; if it didn't, they tried something else.

It would be easy to dismiss Smith and Keller as just a couple of upstate kooks with a harebrained scheme. But from the beginning, virtually everyone involved -- engineers and environmentalists, utility executives and officials at the Department of Energy -- has agreed that the Otisca coal/water slurry process is a solid idea. Acknowledges W. Henson Moore, former U.S. Deputy Secretary of Energy: "This precleaning process of theirs looked very good to the experts."

The mechanics and science behind Otisca are clear and simple. Its advantages in terms of transportation and use in various engines, including diesels and turbines, put it in direct competition with oil and gas. Coal's chief disadvantages are that it is bulky and dirty. Sulfur oxides (SOx) and nitrogen oxides (NOx) have been indicted as principal villains in the formation of acid rain. More than half the nation's electricity is produced by power plants that burn coal. By running finely ground coal through a chemical bath (currently pentane, a hydrocarbon similar to butane), the Otisca process separates out all but 1% of the mineral content, or ash, and 0.5% of the sulfur that forms sulfur oxides when it burns. Because it is half water, Otisca Fuel produces a cooler flame than straight coal does and hence about half the nitrogen oxides.

The 1970s were promising years. Soaring oil prices prompted industry to search seriously for alternative energy sources. Otisca's first pilot project was done with Island Creek Coal Co. -- a 15-ton-per-hr. operation in Bayard, W. Va., at the headwaters of the Potomac. Smith and Keller also did some early business with General Public Utilities in western Pennsylvania, until the Three Mile Island nuclear disaster thoroughly distracted GPU's management.

They didn't make any money to speak of. But on the side, Smith invented a process for extracting oil from tar sand and sold it to Amoco for $1 million. American Electric Power, one of the more enlightened utilities, signed on to build a 125-ton-per-hr. Otisca coal-cleaning plant in Beverly, Ohio. AEP, which serves seven Midwestern states, and by itself produces 3% of the nation's electricity, budgeted $6 million for the project. "We went from a bare field to a fully operational plant within 20 months," recalls Smith proudly. The product of the venture was a powdered coal fuel that was 90% free of ash, a new record for such coal.

But successful as the science was, the business at AEP was disastrous. Smith, who managed the project, chafed at the complex corporate oversight the giant utility placed on the operation. Even small changes in the engineering required approval by as many as five separate authorities, he says. Company auditors questioned his cost accounting. And though the plant was producing the coal on schedule, AEP managers were dissatisfied with the comparative costs they were achieving.

And then there was the Freon. About the time the Beverly plant was begun in 1979, scientists were speculating that chlorofluorocarbons were a significant depletor of the earth's ozone layer. In earlier, smaller facilities, Otisca had been able to recover all but 0.1% of the Freon, motivated to do so by the sheer economics of recycling the expensive chemical. But in the big plant in Beverly, it was losing as much as 5%. Smith discovered that he had installed the wrong kind of compressor to recover the Freon, then argued with AEP over how to fix it. "I tried to save it too long," admits Smith. "I think their confidence in me waned tremendously." AEP lost interest and moved on to testing other coal-cleaning technologies.

The AEP experience was not a total loss. During the early '80s, Keller was able to advance the cleaning efficiency, and Smith made the switch from Freon to pentane. The Department of Energy began taking an interest. Through its Clean Coal program, DOE was awarding matching funds to private-sector coal- powered projects that demonstrated an ability to both meet new environmental standards and compete economically.

There were new clients coming onboard as well. Florida Power & Light funded the pilot plant on Butternut Street. GE placed an order for more than $60,000 worth of Otisca Fuel to run a 4,000-h.p. coal-powered diesel locomotive. Westinghouse was interested in coal-powered turbine engines. So was GM, which developed an experimental coal-powered Cadillac, dubbed the Coal-dorado, that ran on Otisca Fuel. Five big companies -- GE, Norfolk Southern Railway, Eastern Fuels, Westmoreland Coal and Zurn Industries -- jointly invested $8 million in Smith and Keller's little outfit. In November 1984 Smith took a flight from Syracuse to New York City as president of a company with a net worth of minus $350,000. That afternoon he flew home president of a company with a net worth of more than $7 million. "That," he recalls, "was a nice trip to New York." With the money, they bought an old cement factory in Jamesville, N.Y., and converted it into a 15-ton-per-hr. production facility.

But the dream had not yet come true. Otisca began to feel the constraints of a business that had grown complicated as it sought to serve many masters. Several dozen employees, burgeoning paperwork, outside investors with varying and not always complementary interests, government requirements -- all conspired to drain the fun out of it. More troubling were the shifts in market forces beyond the company's control. By the spring of 1986, world oil prices had dropped below $15 per bbl. The impetus to seek out alternative fuels withered. Florida Power & Light cut a deal with surrounding Southern utilities to buy inexpensive power from a regional grid; it successfully completed construction of a nuclear plant and signed an enticing deal to buy cheap oil from Venezuela.

Then, in 1988, Otisca won a Clean Coal matching grant from doe -- $7.1 million, provided that a third of the money come from the private sector. The grant was to pay for the reconfiguration of several Syracuse-area boilers to use Otisca Fuel.

But the status quo in the utility business is tough to shake. "A lot of people don't want to be the first to get their toes in the water," observes William Speicher, a Zurn executive who sits on Otisca's board. Concurs Ted Rosiak, a project manager with Duke Fluor Daniels: "Utilities tend to be very conservative and try not to take a lot of risks." In fact, risk aversion in the utility business is not just a tendency, it has been a way of life. Since 1935 most of the power suppliers in the U.S. had operated a gridwork of cushy monopolies that allowed them to earn a guaranteed rate of return, limited their exposure to loss and actually punished them for experimenting with anything that didn't meet strict standards of "prudency." Under the banner of protecting consumers of electricity from being overcharged, a maze of federal, state and local regulations had built up that stifled incentive to change.

When Otisca's preferred stockholders, the five companies that had invested $8 million in the company, were asked to pony up the private portion of the doe matching grant, they bailed out. GE, the largest and most influential of the five, was more interested in the locomotive business, not in fixed boilers, which were the concern of the particular Energy Department office in Pittsburgh that sponsored the Otisca application. At Norfolk Southern, the two top corporate executives who had supported Otisca had retired and their successors were focusing on near-term marketing projects. Only one of the five, Zurn Industries, makers of boilers and pollution-control equipment for power plants, was interested in backing the grant. But Zurn was not prepared to carry the $3.5 million freight alone. In December 1990 Otisca reluctantly withdrew from the DOE Clean Coal Round No. 2 and forfeited its grant. Otisca still had contracts with clients to supply varying amounts of its fuel. But none of them was willing to put up the big stakes necessary to convert significant power plants from oil to Otisca Fuel.

Amid all this disappointment came yet another prospect for survival. CSX Corp., parent of the Chesapeake & Ohio railroad, took an interest in Otisca as a possible source of fuel for a pilot cogeneration plant it was planning at the Greenbrier Resort in West Virginia. As the nation's largest transporter of coal, CSX had an interest in promoting its use and export. Engineer Mack Shelor, an executive with CSX's energy resources and logistics division, learned through some contacts that Otisca was the only firm capable of producing a coal-based liquid fuel that would meet the specifications he was seeking. The Greenbrier was an ideal demonstration site because the venerable resort was cherished for its pristine Appalachian environment, yet required an energy supply equal to that of a small town. Shelor phoned Smith in Syracuse. "Best call I'd had in 10 years," recalls Smith.

Shelor first put the CSX Greenbrier project up for Round No. 4 of the DOE Clean Coal grants, counting on one advantage Otisca had lacked: built-in private funding. But despite solid science and engineering, the project was not one of the nine applicants selected last September. DOE had chosen to husband its funds for larger programs designed to produce new power-plant technologies for beyond the year 2000.

But Shelor and CSX did not give up on Otisca. For the past few months they have been negotiating a deal that would take advantage of a small chink in the monopoly armor of big utilities: IPPS, independent power producers, which are allowed by Congress to produce electric power and sell it to utilities. IPPS are the junkyard dogs of the energy business, producing power any way they can under the rubric of cogeneration and operating without many of the constraints placed on public utilities.

"Cogen" plants produce power by burning oil, natural gas or coal, translated into electricity or steam. The CSX Greenbrier project was designed to burn both oil and Otisca Fuel to produce electricity for Virginia Electric & Power, the local utility. Even if they don't get federal assistance, Shelor hopes to build the Greenbrier plant. Alternatively, he and Smith are discussing a deal that would use coal wastes to make Otisca Fuel as a direct substitute for No. 6 fuel oil. The prospect of making money the old-fashioned way, by earning it through the sale of cogenerated power to a utility, has given CSX reason to proceed.

There are some other distant prospects. Poland, a country rich in dirty coal, sent a team to Syracuse in February to explore a deal with Otisca. They took a lot of notes and seemed interested, says Smith, but have yet to follow up. A representative of Pakistan has made inquiries. Markets in Eastern Europe and the former Soviet Union have a lot of potential but not much prospect of immediate payoff. For Smith, who hasn't had a paycheck in two years, that's important.

In the past, Otisca was approached by Japanese companies. "The Japanese have a ton of coal/water slurries," says Keller. "They're making it in Tokyo Bay and shipping it by the tankerload to the north islands." So why not sell out to the Japanese? "I'm very interested in having this be an American accomplishment," says Smith. "One of the purposes in my wanting to start a business was to show that the American thing can be done."

Otisca is not entirely a victim of others' shortsightedness and bad timing. Customers, investors and board members acknowledge that the company has made mistakes; its marketing has been less than sophisticated, and Smith and Keller probably should have moved the company closer to the mineheads and the factories likely to buy their fuel. Some board members questioned Smith's ability to run a corporation larger than an extended machine shop. "He thinks there's only one way to do things," says board member Speicher, "and that's his way." For a time, Otisca employed a marketing specialist, but to little effect. For all its potential, Otisca is not the only alternative to oil that's out there. And some of its competitors, entrenched or entrepreneurial, have the backing of big, sophisticated companies that know which bureaucratic buttons to press and which deep pockets to pick.

"They represent something from the past in the sense that the opportunity for a couple of entrepreneur inventors to take an idea from inception to a production-level facility without major corporate support today would be almost impossible," says Shelor. "I'm amazed that they've managed to do that." Adds AEP chief engineer Jim Markowsky: "You've got to admire their tenacity."

"I would hope that business would be more experimental and more flexible," says Sidney Wertimer, recently retired professor of economics at Hamilton College and an early investor in Otisca. "Sure, we've made mistakes. I think probably somewhere along the line Henry Ford and Thomas Watson made a mistake or two."

It may be that Otisca was born at the wrong time in the wrong place. Other technologies and energy sources may leapfrog over the concept of a precleaned coal slurry. In that case, the Jamesville plant, Doug Keller and Clay Smith will be a brief, forgotten chapter in American industrial and environmental history. That would not be atypical. Nine out of 10 inventors never see a penny from their ideas. Far fewer get to be Henry Fords or Thomas Watsons.

But there is something about the Otisca story that is more troubling than mere missed chances and bad timing. Statistically, Americans are not as inventive as they used to be. And foreigners are taking a greater share of U.S. patents -- up from less than 20% in 1963 to nearly half in recent years. In 1990 the top four American patent winners were Japanese companies. Innovation is also stifled by investment bankers and venture capitalists, who all too often view start-up companies not for the long-term potential of their new products but as products themselves to be sold quickly for short-term profit.

In the electric-energy field, regulatory policies have all but stifled creativity. Utilities, says Jack Siegel, the doe's coal expert, "are not rewarded for the successful risks they take, but if they take a risk that fails, they are penalized. It's lose-lose." And yet, according to the Kessler Exchange, a small-business resource based in California, the only federal program specifically oriented toward the needs of independent inventors is the doe's Energy-Related Inventions Program, a product of the 1974 Energy Act. To be sure, energy companies take advantage of the limited governmental incentives to experiment. But in the main, the budgeting and execution of the experiments go only as far as the incentive requires.

"Management in the U.S., it seems to me, is too Druckerized," says Smith, now an experienced student of the process. The management philosophies embodied in the works of Peter Drucker, he observes, "may make mature industries work more efficiently, but that does nothing to build new engines."

Smith's engine is already built. He and Keller just need someone to buy it and put it to use. That still just might happen someday, though Otisca's 20- year record does not support such optimism. But as Doug Keller says, "If you're not optimistic, you're out of the game."