2023-08-22 18:20:22 ET
Summary
- The company booked a $6 million loss for Q2 2023 due to weak vanadium prices and high cash operating.
- However, Largo kept its production and cost guidance for the year unchanged, and I’m optimistic that unit costs could decrease in Q3 2023.
- I think that Largo could get back in the black in Q3 2023 as vanadium prices seem to be finding support from improving global steel production.
Introduction
I've been closely following Brazil-focused vanadium producer Largo ( LGO ) ( LGO:CA ), and I've written a total of eight articles about this company on SA. The latest one was in late May when I said that the next few quarters were likely to be challenging as declining global steel output put pressure on vanadium prices.
Well, Largo released its Q2 2023 financial results on August 9 and margins were pressured by weaker vanadium prices, but I was surprised that the company booked a net loss as cash costs per pound remained high. I think that unit cash costs could improve in Q3 2023 and vanadium prices seem to be stabilizing and Largo is starting to look cheap as the market capitalization stands at $225 million as of the time of writing. In view of this, I'm upgrading my rating on the stock to speculative buy. Let's review.
Overview of the Q2 2023 financial results
If you aren't unfamiliar with Largo or my earlier coverage, here's a brief description of the business. The firm's main asset is the Maracas Menchen vanadium mine in the eastern Bahia State of Brazil which has a nameplate capacity of 13,200 tonnes and is responsible for some 7% of the vanadium supply in the world. Some 70% of global vanadium is created as a co-product from Chinese steel mills. The life of mine (LOM) of Maracas Menchen is two decades, and Largo's products include high-purity vanadium pentoxide flakes, high-purity vanadium pentoxide powder, and high-purity vanadium trioxide powder among others. The company has just built a 150,000-tonne ilmenite concentration plant at Maracas Menchen, with commissioning expected to be complete in Q3 2023 . The maiden ilmenite concentrate sales are expected to take place in early 2024 and most of this by-product is set to be fed through a titanium dioxide pigment chemical processing plant that will have an output of 30,000 tonnes per year. In 2021, Largo published an updated life of mine plan for Maracas Menchen according to which the latter had an after-tax net present value ((NPV)) of some $2 billion at about $8 per pound of vanadium for the majority of the mine life. However, the total CAPEX until 2027 was estimated at more than $350 million which means that low vanadium prices over the coming years could create liquidity issues.
The company's other assets include vanadium redox flow battery (VRFB) solutions firm Largo Clean Energy and a 65.7% stake in physical vanadium investment firm Largo Physical Vanadium Corp ( OTCPK:VANAF ) ( VAND:CA ), which has a market value of C$21.5 million ($15.9 million) as of the time of writing.
Looking at Largo's Q2 2023 financial results, revenues slumped by 37.4% year on year to $53.1 million as sales decreased by 22.3% to 2,557 tonnes of V2O5 equivalent, while the revenue per pound of V2O5 sold declined by 19.4% to $9.42. This resulted in a loss of $6 million and Largo has now been in the red for four consecutive quarters.
The effective grade of ore milled remained low as it seems that issues related to reduced massive ore inventory following heavy rainfall in December 2022 and early 2023 continued to affect the company. And with prices of critical consumables remaining high, cash operating costs excluding royalties inched up to $5.18 per pound. I was expecting to see an improvement here, but it seems it will come in Q3 instead as Largo mentioned in its financial report that it's starting to see a softening in consumable prices (see page 5 here ). Looking at the effective grade of ore milled, I expect an improvement in Q3, but it's worth noting that just 644 tonnes of V2O5 equivalent were produced in July as a result of process restrictions following an accident at the chemical plant at Maracas Menchen that resulted in a fatality (see page 9 here ).
Largo
Largo has started implementing cost-cutting measures and its production and cost guidance for 2023 remained unchanged, which is why I'm optimistic that the company will be able to make up for the low production in July over the coming months.
Largo
Looking at the balance sheet, I think that the situation looks good as Largo's net debt decreased by $2.4 million quarter on quarter to $1 million as a $9.8 million decrease in receivables helped fund CAPEX for the ilmenite concentration plant. Cash provided before working capital items for the quarter was $3.8 million.
Largo
Looking at what to expect for the future, I think that Largo could be back in the black in Q3 2023 thanks to lower cash operating costs per pound as well as a stabilization in vanadium prices. Spot V2O5 prices in Europe have recently surpassed $7.50 per pound and I think they are likely to remain above $7.00 per pound over the coming months.
Investing.com
You see, the steel industry accounts for about 90% of global vanadium demand, and data from the World Steel Association showed that crude steel production in its 63 member countries rose by 6.6% year on year to 158.5 million tonnes in July which should provide support for vanadium prices in the short term.
Looking at the major downside risks, it's possible that I'm underestimating the extent of Largo's ore inventory issues and the effective grade of ore milled remains low in Q3 which could keep cash operating costs excluding royalties above $5.00 per pound. Also, global steel output could soften over the coming months as a result of weak construction activity in China which could drive spot V2O5 prices in Europe below $7.00 per pound. The property market in the country accounts for about 40% of its steel consumption.
Investor takeaway
Largo remained in the red in Q2 2023 due to weak vanadium prices and high cash operating costs. In addition, production in July was low due to an accident at Maracas Menchen. Yet, the company kept its production and cost guidance for the year unchanged, and I'm optimistic that it could get in the black in Q3 thanks to lower unit costs as well as vanadium prices finding support from improving global steel production. That being said, it could be best for risk-averse investors to avoid this stock.
For further details see:
Largo: Underwhelming Q2 2023 Results But I'm Optimistic About Q3 (Rating Upgrade)