CA - Lithium Americas: Valuation Starts To Look Attractive So I Took A Cautious Nibble

2023-04-10 08:50:05 ET

Summary

• Lithium Americas is a good prospective mining company, in the early production ramp-up stage. Its market cap arguably got too far ahead of realities on the ground in the past year.
• With the pullback we are seeing this year, it is now starting to approach valuation levels that are beginning to look more attractive.
• One of the new developments that work in its favor is the US IRA plan for green energy, including EVs, which favors US production along the entire supply chain.

Investment thesis: Lithium Americas ( LAC ) is a pre-production lithium miner with some attractive projects in the pipeline. Given its lack of production and the uncertainty that goes with such situations, where it remains to be seen how profitable such projects will be, it is a speculative investment choice to some extent. At the same time, lithium prices that are now well off from recent all-time price records brought Lithium Americas stock price down significantly, making current levels a potentially attractive entry point. The trend towards deglobalization, with an emphasis on more self-sufficiency, can potentially mean that Lithium Americas may benefit from enhanced support levels in the US for the entire lithium mining industry, with the IRA act being perhaps just the start of potential policies that Lithium Americas could benefit from going forward. I, therefore, decided that it is worth taking a cautious nibble at current stock price levels, with an eye on potentially adding more if it goes down further from here.

LAC is set to see a significant ramp-up of lithium output.

There is nothing like a pre-production company finally seeing production commence, with revenues finally flowing in, leading to further expansion of production, as well as other operating costs being partially financed through internal resources stemming from a company's own cash flows. It also provides a glimpse in terms of where things may stand in terms of profitability and so on.

Based on the latest Quarterly report released, the Cauchari-Olaroz project in Argentina is set to reach production of 40 ktpa of lithium carbonate by the beginning of 2024, and LAC has a 45% interest in the project, meaning that it will see as much as 18,000 tons of production next year. At the current market price of about $29,000, per tonne, it means it will see revenues of about $520 million next year.

Beyond 2024, we will see far more production growth, with the Thacker Pass project commencing in a few years, as well as the projected phased expansion of production in Argentina.

It will take a few more years for its production levels to reach volumes that justify the company's current market cap.

The hope is always that a startup company on the verge of producing revenues will more than grow into the expectations that are baked into its already existing market cap, and of course, stock dilution will not outpace the increase in its future market cap. As of the end of Q3 , Lithium Americas had 135 million common shares outstanding, while by the end of Q4 , it had 151.1 million common shares outstanding.

Short-term lithium market moves should not play an overly important role in the stock performance of Lithium Americas. A longer-term outlook is more important.

Even though current lithium market prices do not affect the company's financial results, and will not have a very significant impact for yet another few quarters, Lithium Americas stock nevertheless tends to move in tandem with much of the rest of the sector. It responds to daily moves in the lithium market as if the next quarterly report will be reflected in its financial results, which is not the case.

As we can see, starting with November of last year, lithium carbonate prices declined significantly from the all-time highs reached last fall. The stock price of Lithium Americas dropped from $28/share in November to just under $19/share currently.

Fundamentally speaking, the market is not acting rationally in this regard, because lithium prices will only start to impact its financial results perhaps in the last quarter of this year, or the first few quarters of next year. Given the sharp downturn in lithium prices, it can be expected that a return to upward price momentum will not take long to materialize. After all, global EV sales growth continues at a robust pace and it is forecast to continue growing rapidly for the foreseeable future.

As a side note, I find the forecast EV sales projections presented below to be wildly overly optimistic. For instance, it sees 16 million EVs sold per year in the EU by 2040, while current total auto sales in the EU do not amount to that much. Given the increasingly dire economic situation in Europe, I do not believe that there is a chance for total vehicle sales in the EU to ever reach 16 million per year, therefore EV sales will not ever reach that high either.

It goes without saying that with the meteoric rise of lithium demand, mostly driven by the EV trend, production is also surging, which is why we are currently seeing a steep decline in lithium prices, namely, the market perceives a period of a supply glut whereas just a year ago, the market seemed convinced of a shortfall. At this point, the steep recent decline in lithium prices should have any garden variety supply glut situation baked in, while any news of a tightening supply/demand balance should help to trigger a rebound in prices. Perhaps by the time Lithium Americas will see some significant ramp-up of production and lithium sales will actually start having an impact on its financial results, it is probable in my view that we will revert back to a market sentiment that will once more see a supply shortfall.

The IRA act benefits Lithium Americas long term, with details yet to be fully determined.

Aside from this being perhaps a very good opportunity to gain some lithium mining industry exposure, there is the IRA program , which is set to directly impact miners who produce materials for the EV industry in the US, rather than elsewhere. The exact magnitude of the impact that it will have long-term on Lithium Americas is not entirely clear yet. The very obvious immediate impact will come in the form of tax breaks which will affect US producers exclusively, which should benefit the Thacker Pass project. Beyond that, measures meant to help mining projects along, such as reducing red tape may also benefit its US project. overall, it is impossible to quantify the positive impact, but it seems to be substantial.

Investment implications:

Back when the Lithium Americas stock price was around $25/share late last fall , I deemed it to be at an unfavorable price level, given that lithium prices seemed to have significant downward momentum. The fact that interest rates have been moving higher, makes any startup company a somewhat inopportune investment choice, given that high-interest rates can make it hard to access debt markets for ramp-up capital needs. In the absence of debt financing, the burden may be borne by stock investors who are likely to see continued stock dilution.

At the same time, we are likely to see the beginning of actual revenues starting to appear in the next few quarterly reports, meaning that the need to finance the ramp-up costs from external sources will start to decline from the current 100% level, hopefully on the way towards becoming 100% dependent on internal resources. The path to self-sufficiency may take a few more years, at least until the Thacker Pass project ramps up. The stock price decline we have seen in the past months, of about 25% since I wrote my article on Lithium Americas with a "sell" rating, helps to price in the recent stock dilution, even though the market sees this as a reaction to the recent decline in lithium prices.

Lithium prices are probably going to stabilize at or near current levels and we will then see a rebound, perhaps right around the time when Lithium Americas is set to start selling lithium in financially significant volumes, which should be bullish for the short term. The IRA stimulant to domestic US lithium miners should be seen as a positive long-term factor for Lithium Americas which should be factored into its long-term financial performance expectations. Keeping these factors in mind, I decided to very cautiously take a first nibble at the Lithium Americas stock, with the intent to potentially buy more if its stock price declines significantly from current levels.

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