The University of Washington and the investment firm Allied Minds have launched a new company to develop algae strains for producing diesel fuel, the companies said Tuesday.

The spinoff, AXI, is setting out to commercialize research by the university’s biology professor Rose Ann Cattolico, who has spent more than 25 years researching algae physiology. The company is named after a species of Algae Cattalico calls “Algae X.”

Cattolico has published many papers on understanding and controlling algae blooms, but it will be her research on selecting and cultivating desirable strains for fuel production that forms AXI’s core technology, said Erick Rabins, vice president of Allied Minds, which as made an undisclosed amount of investment in AXI.

“The breadth of her experience and knowledge can help us become an integral part of anybody’s algae production system,” said Rabins, who is working on assembling a management team for AXI.

Allied Minds and the university signed the licensing and investment agreements a month ago. AXI lists the same address as Allied Minds’s in Quincy, Mass., and Cattolico is the senior scientific advisor for the company.

Allied Minds focuses on turning promising university research into commercial technologies. The private-equity firm has invested in more than a dozen university spinoffs from sectors such as fuel cells, computer memory, breast-cancer screening and neuro-imaging.

AXI joins a growing pool of startups working to grow algae for fuel. Algae are alluring feedstocks because they have high oil content and are able to double their masses in a few hours. Proponents say growing the aquatic plants would sidestep the “food v. fuel” debate that plagues the ethanol industry.

But algae companies have faced a host of challenges in farming and processing the plants. It has proven difficult to grow the plants cheaply while also figuring out ways to extract their oil efficiently (see Life on Mars: The Secret Ingredient for Biofuels?, Algae-Based Biofuel Could Prep for Take Off and Another Setback for Imperium).

As a result, algae companies have largely remained in the research and development or pilot-production stages (see Green Light post). These companies also have to compete with businesses working to make biodiesel from other crops.

Rabins acknowledged the challenges and noted that the promise of a profitable market has caused a mad dash by investors and companies to commercialize algae-based biodiesel, which would replace petroleum-based diesels for vehicles and heating oil.

“It’s still the wild west out there as people sort out where the industry is going,” Rabins said. “Everybody is looking around and determining what they need to make a whole system. One component that is missing is the whole biological piece.”

The U.S. biodiesel industry produced 450 million gallons in 2007, according to the National Biodiesel Board, a U.S. trade association. Market research by J.D. Power and Associates showed that diesel sales are expected to triple in the next 10 years. By 2015, the research firm projects that more than 10 percent of the new cars sold in the United States will run on diesel, up from 3.6 percent in 2005.

Like gasoline, diesel retail prices have jumped considerably in recent years, from $2.88 per gallon in 2007 to a projected $4.18 per gallon, according to the U.S. Energy Information Administration, which issued its regular short-term energy outlook Tuesday. The EIA is forecasting a price of $4.27 per gallon for 2009.

AXI will initially focus on developing algae strains with high lipid content, low carbon-dioxide tolerance and other traits.

Rabins said has initiated discussions with other companies about farming algae using AXI’s know-how, but he declined to name the companies.

AXI is also looking to establish an in-house engineering team to work on oil extraction and other technologies needed to make fuel from the algae, Rabins said.