LAC - Lithium Americas: I Intend To Wait For Company To Split

2023-08-25 00:47:04 ET

Summary

• Lithium Americas plans to split the company into two, offering investors new options with different investment profiles.
• The Argentine segment will have a faster production ramp-up but carries geopolitical risks, while the American segment will take longer but has government support.
• Investors should hold off on buying or adding more to their positions to better tailor their investments in the two different companies.

Investment thesis

The plan of Lithium Americas ( LAC ) to split the company in two, offers investors two brand-new options, each with potential positives and negatives. The Argentine segment has a much faster production ramp-up schedule, with the first production shipped this summer. The American segment will take a few more years, but it is arguably free of geopolitical risk considerations, and it is also arguably also set to see more government support. Given the radically different investment profiles, it might be wise for investors to hold off on buying or adding more to their already-existing positions. It might be worth waiting to better tailor one's position in what is set to be two different companies, based on one's investment preferences. The current selloff in lithium miners may seem like a tempting time to buy, but the odds are that the favorable conditions for those who are looking to add to their lithium mining stock positions will persist beyond the fall split of the company.

Lithium Americas Finally Delivers Lithium Carbonate From Its Mining Projects

Given that it is still a company in the early first production phase as of the latest quarter , there is yet to be a solid indication in terms of this company's current and future profitability profile. There was $19 million in profits reported for the quarter, but it is not a true reflection of where the company stands in terms of profitability. The quarter included $320 million in gross proceeds as a result of the company's deal with GM ( GM ), which will provide it with exclusive access to the phase one production volumes that will come out of Thacker Pass.

The Cauchari-Olaroz project, where Lithium Americas has a stake of just under 45% has commenced its first production and delivery in June, and the project is set to produce 5,000 tonnes of lithium carbonate this year, which at current spot prices has the potential to bring in about $175 million in revenues for the year. $78 million of that will be attributable to Lithium Americas, assuming that current lithium market pricing will prevail. There is still a long way for this company to grow into a market cap of over 2.5 billion.

As we wait for Lithium Americas to grow into its market cap in terms of revenues, earnings, and so on, we have to consider what this wait means for us shareholders. The main question perhaps is how much share dilution we might expect in the future, or how much debt issuance. Based on debt trends, it may seem that the company is doing alright, with a decline in its convertible senior notes, from $204.5 million at the end of 2022, to $197.4 million as of the end of the second quarter of this year. The GM cash infusion may distort the true picture in terms of the company's true needs in terms of raising cash through debt issuance. Cash & equivalents on hand increased by $30 million every quarter, to $522 million.

The stock dilution issue is also currently distorted by the GM cash infusion. The number of shares outstanding as of the end of June 2023 was 161.8 million, versus 134.5 million shares outstanding at the end of June 2022. It should be noted that in the future, the two new companies will have drastically different needs in this regard because one has production ramping up, while the other is still a few years away from being able to finance itself internally.

The October Split Creates Two Companies, One With Assets Mostly In Argentina, And One Mostly In The US

Investors need to understand in my view the implications of the coming split.

With each new company, stockholders will get a different investment opportunity, with very different profiles. For instance, the Lithium Argentina half already has production going, as I pointed out, while the new Lithium Americas will take a while longer to reach that stage.

While production will take a lot longer to commence, there are some potential advantages. Current US policies in place will provide the new company with significant support. There is also the concept of political & geopolitical safety. As we saw with Chile, where its president proposed the nationalization of the lithium industry, things can take a negative turn for investors pretty fast these days. There is no reason to assume that similar political trends may not come into play in Argentina. There are also global geopolitical considerations to be considered, where the US & China are increasingly butting heads, with collateral damage potentially hitting US or Western assets in South America in the future.

Contemplating The Future Of Lithium

There are various global lithium demand forecasts currently, and most of them expect exponential growth this decade, mostly driven by the EV trend.

I find this particular forecast to be very instructive regarding the structure, magnitude, and overall geographical composition of lithium demand growth in the battery sector, which is the overwhelming deciding factor regarding overall global lithium demand.

In geographical terms, I have some doubts about Europe in particular seeing the increase in lithium demand that is illustrated in the chart to the end of the decade. It looks to be equivalent to the total current global demand for lithium. The forecast probably inserted the assumption that the EU will go through with its plan to ban ICE vehicles starting in 2035. Given that resistance to that plan is building across the EU now that the costs to society & the economy are being added up, it seems the plan will not happen. The EU would have to see sales of about 10 million EVs per year by 2030 for the forecast to come close to being accurate, which I find to be very unrealistic. 10 million EVs is what global sales were in 2022 , which accounted for most of the demand for lithium we saw last year.

Though many such overly optimistic forecasts are being baked into the global lithium demand modeling that mostly reflects the current massive wave of optimism on global EV adoption this decade and beyond, it does not mean that lithium demand will not continue its current robust rate of growth. The EU might not see 10 million EV sales/year by 2030, but EV sales will rise significantly nevertheless.

Perhaps total European EV sales will be more like 5 million or 7 million instead of the 10 million/year which will be the minimum needed to fulfill the demand levels that the above forecast envisions. Perhaps China, with its increasingly sluggish rate of economic growth will disappoint as well in terms of lithium demand growth. There is plenty of room for disappointment. Even so, lithium demand is set to continue growing at a robust pace. Perhaps we will not see a seven-fold increase, but only a five-fold increase. Lithium miners may suffer a great deal of lithium market volatility as a result of production will overshoot. Lithium Americas offers two investment options in the future, and investors have to decide which option might better serve their investment needs, keeping in mind global market trends, as well as the political and geopolitical risk that we have to increasingly factor into our risk assessments.

Investment Implications

I currently hold a relatively small position in Lithium Americas as a percentage of my portfolio, or as a percentage of my overall lithium mining position in the portfolio. Albemarle ( ALB ) and SQM ( SQM ), which are well-established companies that dominate the lithium mining space make up the core of my lithium mining positions, which makes up about 5% of my overall portfolio. The recent slump in lithium mining stocks makes it tempting to start looking at adding to my current position. If I add to my positions in the next few weeks or months in the lithium mining space, it will probably be SQM for reasons I stated in a recent article .

If the slump in lithium miners persists beyond the company split, I will then consider adding to my positions in at least one of the successor companies. My temptation is to lean towards the Argentina-focused company, where the commencement of production arguably makes it a more secure investment opportunity, despite the political & geopolitical risks involved. Having said that, there is an argument to be made in favor of the US-focused segment having some attractive features that make it a good potential investment opportunity. There is the US government's effort to shore up the EV supply chain, which will favor US-based lithium mining projects. There is also arguably the overall higher political & geopolitical factor that needs to be considered. Unfortunately, it will be a few more years before production will commence, and that might be a very long wait for investors. Given all these considerations, I might wait for the split and then, wait some more for the dust to settle a bit, before looking for a buying opportunity in this stock as well as in its two successors that will take its place in the fall.

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