“Lithium” is an opaque, nuanced and secretive industry. It is also quite small. To simplify, in 2019, lithium chemical sales approximated 300,000 metric tons at approximately $10,000/t or about $3B in revenue.
But, if you believe in the disruption of the transportation industry from electric mobility, and to a lesser extent the utility industry from wind and solar storage, “little lithium” could grow some 15-20% per year for as far as the eye can see. Over the next 10-years – by 2030 – demand for lithium could reach 2M metric tons per year, requiring approximately 1.7M new tons of production. At $10,000-$15,000 average lithium price, lithium industry revenues may growth 7-10X to $20-30B.
Lithium’s phenomenal growth trajectory is predicated on a “killer app” – the lithium-ion battery. First introduced in the early 1990s, lithium-power has proven its (base) mettle and is now ubiquitous in nearly every consumer electronic device and power tool the world craves. The lithium-ion battery has become a sufficiently cost-competitive technology that the vast majority of the world’s electric vehicle infrastructure – Gigafactories, and soon to be Terafactories — is being built up on it.
Source: Piedmont Lithium, Corporate Presentation, May 2020
Volkswagen, the incumbent auto OEM most determined post-Diesel-gate to catch up to Tesla and making the biggest bet on future e-mobility, has famously declared lithium to be the “irreplaceable element for our electric future”.
This article is geared to those in Tesla and VW’s camp. Those who fundamentally believe the transition to high EV penetration rates is a question of how fast, not if. And those who further believe that, despite some short-comings, the light weight, energy dense and abundant attributes of lithium – and the vast sunk costs, and long investment cycle of lithium battery manufacturing plants in operation and under construction – will ensure lithium will not be displaced in any portfolio equity investment time horizon that matters.
My purpose here is to argue that institutional and retail capital allocation and mindshare to the lithium investment thesis is as or more worthwhile a human endeavor as is similar time and money spent on gold, copper, oil or any other cyclical material extracted from earth. Profit-seeking providers of equity capital who also aspire to help save the planet with sustainable, impact and ESG-focused clean energy investment strategies, should view upstream lithium producers and developers as a means to play the emerging EV economy – in a similar way oil & gas investment was a means to play the century-old ICE age. A noble pursuit.
Specialty commodity lithium
Commentary about the lithium industry – and lithium equities – is filled with passionate proponents and determined detractors. Bears see it as just another “commodity,” like iron ore or coal, smelted copper or aluminum, or refined petrochemicals. And worse, one which is not scarce, hence there is no structural impediment to meet the massive new demand with abundant, low-cost supply. Hence, Economics 101 teaches us; there is no fundamental reason for lithium prices to rise beyond the marginal cost of production or producers to earn disproportionate economic returns. Countering “hair on fire” 2016/2017 lithium bulls (Lithium 2.0) – just like its 2009-2011 predecessor (Lithium 1.0) – loud, and bullying “Big Short” calls were made in 2018 by Alliance Bernstein, Morgan Stanley, BMO and Macquarie.
Meanwhile, white metal protégés parroted equally pungent protagonists – current and former lithium executives who toiled for years with the obscure “industrial metal” few cared about, bristled at commodity comparisons and sold instead “nuance” for their beloved “specialty chemical”. You can’t just dig up and ship lithium. It’s not easily refined to standardized specs nor stored for long periods in warehouses and tradeable on exchanges like the LME. Lithium industry professionals are highly skilled with advanced chemical engineering degrees. Unlike carbon-based organic chemistry, lithium scientists struggle with the flow sheet and processing challenges of hydrogeology and inorganic chemistry. It is lithium, one could argue, with its litany of PhD practitioners, that is more deserving than copper of the “Dr.” moniker. All true. But Mr. Market followed the “China spot price” these experts advised investors to ignore.
Lithium’s ascent from $5,000/t in 2015 to $25,000 in 2017 – albeit for tiny volumes but tracked as “China spot” – and the ensuing financing and M&A speculation it engendered, proved unsustainable. As will today’s low-quality China spot south of $6,000 – below most producers marginal cost. Those who “make the grade” i.e., Tier One lithium producers selling to Tier One cathode and battery makers selling to Tier One Western Auto OEMs who are guaranteeing their customers 8 to 10-year battery warranties, are getting today, and should continue in future to get $12-15,000/t long term for the privilege. Identifying those that can produce Tier One quality for Tier One customers for $5-6,000/t AISC is where the lithium (rubber) meets the battery (road) – and should stimulate hand-to-wallet reflex at today’s deeply discounted equity prices.
The bears miss this nuance, and their 2018 short stories were “right for the wrong reasons” – Trump’s 2018/19 trade war, China’s significantly reduced 2H/19 subsidies and now COVID-19 resulted in a sharp demand hiccup. This “under-demand” caused the price collapse, not a surfeit of low cost, qualified supply for western OEM EV batteries that the institutional sell-side predicted.
Of the 2Mt forecasted 2030 demand, the vast majority will be for higher priced “battery quality” chemicals – on balance, “specialty hydroxide” for range-conscious Europe, USA and Japan/Korea. “Commodity carbonate” will be primarily for China and India and other emerging markets whose consumers, often buying any vehicle for the first time, have little concept of “range anxiety”.
Professional equity market investors believing the specialty chemical narrative argue lithium shares should trade at higher EV/EBITDA multiples – say, 10-15X – than perhaps 5-7X for commodity copper and iron ore equities, for example. I pushed this thesis for many years assuming incumbents with quality assets and quality managements operating in a market in which they held Oligopolistic market power inherently understood their end markets and would deliver sustainable, high quality earnings from both steady volume growth and stable to rising prices enabling predictable, high 30/low 40’s EBITDA margins.
And yet. Little lithium proved to be just like Big Mining. A successful “trade”: 5-20 baggers in some names for the most astute timers. But a poor “investment”. Lots of pain and remorse for long-term buy and holders. Persistent operational failures and shareholder value destruction – on balance, euphorically overpaying for assets and/or delivering projects late, over budget and over cost. Mistakes by established players and juniors alike. By Western incumbents and their Chinese brethren. The jury is still out on what is the appropriate multiple that de-rated lithium equities should ultimately trade. Mr. Market lithium is messy. A roller coaster. Like other commodity equities. And non-commodity equities.
Long-time lithium equity investors, like me – have now experienced 2 cycles. After the joy and pain of Lithium 1.0’s false start in 2009-2012, it was easy to believe that a super-cycle began with 2014’s Gigafactory 1 in Nevada. Tipping Point Tesla and its S3XY vehicles would unleash a long Lithium 2.0 ride. And yet. Today, hair no longer on fire, but still standing on end, from a post 2016-18 electric shock.
But, as Rick Rule says so eloquently in his recent Crux Investor interview, in cyclical sectors – and lithium, whether commodity or specialty has proven without a doubt to be highly cyclical – the seeds of every bull market are sown during bear markets like that underway in lithium. For investors high on lithium, then high on cannibas, and now depressed by both, it’s time to revisit the former. If you’re looking at lithium for the first time, the below Mr. Market Lithium Scoreboard – RK Equity’s universe of publicly listed lithium equity plays – is a good place to start to evaluate the seeds of Lithium 3.0’s boom.
Before EVs, lithium was and still is used therapeutically – a treatment for bipolar disorder. But in today’s post COVID-19 EV world, in which supply chain resiliency is as big a tailwind thematic as is sustainable clean energy, equities and projects that counter today’s China/non-China Disorder Bi-Polar are paramount.
The Geopolitics of Lithium
Some 65% of lithium chemicals today are processed in China, including 80% of highest value battery quality lithium hydroxide. Much of this processing comes from hard rock spodumene supplies in Australia, though exports of lithium carbonate chemicals from Chile and Argentina also account for a significant minority supply.
Note. China, Argentina and Chile are “emerging markets” jurisdictions with attendant supply chain risks including poor infrastructure, coal-fired electricity, unpredictable macroeconomic and tax policy and high inflation. Additionally, draining South America brine ecosystems at low 30-50% recovery rates in dry deserts often conflict with tourism and indigenous population sensibilities. Each lithium brine is unique and technically challenging, challenges often exacerbated by rain events and operating at high altitude. Further, a lithium molecule travelling 5,000-25,000 miles around the world on fossil-fueled transport – whether from South America or Australia to China then Korea/Japan and then to Europe or USA – is not an ideal carbon footprint.
In combination, the current industry production spread for lithium is unsustainable. Fortunately for little lithium – like any toddler – it can grow up to be almost anything it likes, really, in contrast to aging copper, steel, aluminum and oil to name just four, that have entrenched constituencies and sunk costs that are hard to unwind. Localized lithium – in closer proximity to #2 and #3 North America and Europe end markets – is the future.
In the 1950s, similar to today, lithium became relevant for national security of supply considerations. Its use in the hydrogen bomb meant that importing lithium from Canada became untenable in Dwight Eisenhower-led America. It’s for this reason that North Carolina developed nearly 100% of the world’s lithium industry from hard rock similar to that currently produced by China and Australia. Before South America’s “Lithium Triangle” became a thing, The “Charlotte Quadrangle,” the “Carolina Tin-Spodumene Belt” was where lithium was at.
This legacy remains today with the #1 (Albemarle) and #5 (Livent) lithium producers globally processing the remaining 20% of the world’s battery-qualified hydroxide near the Queen City of the South, Charlotte. And a new, partially permitted PFS-stage developer (Piedmont) is focused on going “Back to the Future” recreating a Hard Rock to Hydroxide Hub in what is America’s #2 solar and seventh biggest mining state.
In addition to North Carolina, the USA and Canada have promising projects in Nevada, California, Utah, Arkansas, Alberta, Quebec and Ontario which could supply North American and European markets. Mexico, Brazil and perhaps Peru as well. Europe too, to a lesser extent, has some home-grown aspirants in Portugal, Spain, Germany and the Czech Republic, to name four that have attracted more attention and capital than others.
A sweet spot size for a battery quality lithium chemical plant is 10,000-25,000t capacity. Assuming 20,000t, more than 75 new plants will need to be built globally, alongside accompanying precursor lithium material that must be mined from conventional hard rock sources and new innovations in clay/sedimentary deposits. Likewise from evaporated brines from salt lakes, or using direct lithium extraction technologies, which can potentially unlock as well unconventional brine resources in which low concentrations of lithium are contained within geothermal power or bromine plants, or in old oil fields.
At an average capital intensity for mine and chemical plant of $25,000/t, 75 plants at 20,000t capacity will require nearly $40Bn in capital investment over the next 4-5 years to meet 2030 lithium demand forecasts. This is an enormous amount considering the collective equity market cap on the Mr. Market Scoreboard is less than $25Bn. But it is a trifling sum when juxtaposed to Big Oil companies like Exxon or Chevron with capex budgets for $25Bn PER YEAR, or Big Auto who each spend $4-5Bn each year on advertising alone. Those industries are suffering at present. Will Big Mining will step up to a good Li Fe? Or will it be Terafactory-talking Tesla “getting into mining” to cause lithium FOMO?
Listen to Dr. Lithium: it’s a great time not just to chase archaic relics, but to embark upon equally noble pursuits with the irreplaceable element – for a cleaner, more optimistic future.
If you want to find more on the lithium market from Howard Klein who publishes a newsletter at www.libull.com and on Twitter @LithiumIonBull. Howard Klein is a shareholder and paid consultant to Piedmont Lithium.
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