Canadian biotechnology firm Iogen has already built a demonstration production facility in Ottawa that uses a selectively bred strain of the fungus Trichoderma reesei.

The fungus has an extremely high output of digestive enzymes that break down vegetable matter such as straw for processing into cellulosic ethanol.

The demonstration plant, designed with a production capacity of three million litres of cellulosic ethanol per year, began commercial production in 2004.

According to Iogen, cellulosic ethanol is even better for the environment than most biofuels as it produces less carbon throughout the product lifecycle, due in part to the lower energy requirements of growing feedstock that doesn't have to compete with food crops.

Researchers at a US non-profit organisation called the Natural Resources Defense Council said the use of microbes to improve the efficiency and cost of ethanol production was becoming a much more feasible option due to recent advances in biotechnology.

Iogen said its Trichoderma reesei fungus was the product of 25 years of research, funded in part by the Canadian Government and with the assistance of Royal Dutch Shell.

Earlier this month, Iogen announced that it would be working with Shell and Volkswagen to conduct a joint feasibility study to assess the economic feasibility of producing cellulose ethanol in Germany.

All three parties said the study was significant, demonstrating the need for vehicle manufacturers and fuel producers to work together to find suitable fuel solutions.

Volkswagen chairman Dr Bernd Pischetsrieder said the agreement would help the company anticipate future fuel and vehicle compliance requirements likely to be implemented in the European Union.

"The availability of high quality, synthetic biofuels manufactured to stringent specifications is a prerequisite for the deployment of advanced-generation engines," he said.

"The combination of second-generation biofuels and advanced fuel/powertrain represents a quantum leap in environmental compatibility.

"An integrated approach encompassing engine technology and fuel properties as well as consumer behaviour is the only way to comply with future, more stringent requirements such as those set by the European Union," commented Pischetsrieder.

Shell executive director for downstream oil products and chemicals, Rob Routs, said next generation biofuels were an important part of Shell's long-term strategy.

"As a company, we are now turning our focus to those renewable fuels and technologies that complement our fuel business by leveraging our existing assets, infrastructure and expertise in developing the world's most innovative and advanced fuels," Routs said.