2023-06-15 06:53:09 ET
Summary
- Sigma Lithium has started production and will reach full output in nearly a year.
- Lithium market is stabilizing with demand forecasted to push higher for years to come.
- SGML is set to outpace production growth of its similarly valued peers.
Investment Thesis
Sigma Lithium ( SGML ) presents a compelling investment opportunity as it steps up production to capitalize on the burgeoning lithium market. Leveraging its robust reserves and efficient operations, the company is on track to reach full production capacity by mid-2024. We take a bullish stance as we see their operational growth as undervalued amongst peers.
Company Background/Description
Sigma Lithium is a mining company focused on the production of lithium concentrate, a key ingredient in rechargeable batteries. Founded in 2012, the company has been steadfast in its mission to deliver high-quality lithium at the lowest environmental impact. With operations rooted in Brazil, Sigma's 188 km² lithium property boasts nine deposits with proven and probable reserves, a testament to the company's potential in the burgeoning lithium market. The backbone of this company is their commitment to supplying electric vehicles with sustainably sourced and high purity lithium. Sigma takes pride in their “ Green Lithium ” using 100% renewable energy, 100% recycled water and 100% dry-stacked and they expected to be net zero carbon in 2024. This is a welcomed change to the Lithium mining industry which currently has the reputation of being resource intensive and dirty. This further supports their brand because what is the point of making batteries for (EVs) if production is still damaging the environment.
Production Capabilities and Outlook
Sigma Lithium's Brazilian site, the Grota do Cirilo mine, is poised to become a lithium powerhouse. The company is set to make good on its initial production run rate target of 36,700 tons of LCE and 104,200 tons once the mine reaches full capacity in Mid 2024. Recently, Sigma Lithium prepared its inaugural lithium shipment from the Brazilian site, with materials destined for a LG Energy Solution Ltd. This is a crucial milestone, as it marks the start of Sigma's transition from an exploratory mining company to a lithium producer. Furthermore, the company has committed all of its current output for export, which demonstrates a robust demand for their product.
As a side note, Sigma is also utilizing production tailings, or waste products, by transforming them into value-added products. Specifically, 300,000 tons of ultrafine tailings from the first phase of operation will be turned into a pre-chemical input for popular car batteries, showcasing Sigma's commitment to maximizing resource efficiency.
Looking past this current project there is significant potential for continued expansion as Lithium demand accelerates into the 2030's and beyond. The Grota do Cirilo mine is just one site in a broader land package. Three additional sites have healthy mineral estimates along with five more sites yet to be estimated. Our revenue estimates do not include production from these additional sites but they do provide additional possible upside beyond our estimates.
Financial Strength
Sigma has most recently reported cash on hand of $71.2 million along with $100 million in debt financing from current shareholder “Synergy”. With development done on phase one and starting to produce revenue this is a healthy position. Looking at Phase 2 & 3, Sigma estimates the pre-production costs to finish these phases will be $154.9 million . Along with the additional phase 1 cash flow they have plenty of liquidity to get to full production. On top of that, the debt relative to revenue full production will produce is miniscule and will be easily paid off without impacting profitability for shareholders. Lastly there is no doubt that their cash flow during this project can easily be used to develop and expand to one or more of their additional mining sites.
The Bull Thesis
In our last article we went into our bullish outlook on the lithium sector. To summarize, the increasing adoption of electric vehicles (EVs) and clean energy solutions worldwide is fueling demand for lithium, the crucial element in lithium-ion batteries that power these technologies. Global lithium battery output in 2022 reached 737,000 tons, with forecasts for 2023 showing a surge to 964,000 tons. McKinsey's latest projections suggest that by 2030, the global lithium demand could escalate to a staggering 3-4 million tons. This implies an impressive Compound Annual Growth Rate ((CAGR)) of 17.6% in the bear case scenario and up to 22.5% in the bull case.
LCE Price (www.dailymetalprice.com/metalpricecharts.php?c=li&u=kg&d=240)
Since our last analysis lithium has performed rather well jumping around $10,000/ton supporting our thesis of $31k being a fair average for the year. Price will most likely continue to be volatile during this time of expanding demand while miners continue to get up to speed globally. Looking ahead, we reiterate our forecasted average price of $31k and $37k per ton up until 2028.
Valuation Analysis
Again, contrary to our peers we see the price of lithium as a major bull factor here. Analysts on Sigma’s internal finance team used a $25,500/ton average for their valuation study with peers around the industry using $24k. Again, we used an average price of $31k in 2023 growing 3.6% annually for our revenue forecast. Sigma forecasted aggressive margins with EBITDA at 89% and after-tax earnings of 75%. They report that their uniquely high-grade concentrate and low transport costs allow for some of the lowest cost product in the industry. While it is entirely possible their estimates are achievable, we reduced margins down to 83.5% and 61.4% respectively.
Target Price and Fair Value
With production already started and full production only a year away Sigma is uniquely positioned for growth in the industry. Sigma is currently valued in the same neighborhood as preproduction firms and firms with much lower future outputs. This graphic from Sigma's Investor Pitch Deck depicts this point well.
Sigma Lithium Investor Presentation
In 2025, Sigma’s first full year at max production we have revenues of $3.5 billion. We used 2.8x, 3.7x, and 4.6x revenues as our bear, base, and bull cases. We used these conservative multiples on revenues in 2025 and beyond because they do not currently have plans to increase production after those years although it is a possibility. Additionally, we discounted the revenue price targets by our calculated WACC to get 12 month price multiples as well.
Bull Case | Base Case | Bear Case | |
12 month | $85/share | $68/share | $51/share |
2025 | $155/share | $125/share | $94/share |
The 2025 price multiples may seem aggressive but that is a product of going from $0 in revenue at the beginning of this year to over $3 billion in 2025.
Our DCF model paints a promising picture of Sigma Lithium, signaling they are still undervalued. We got the following free cash flows in millions:
2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 |
$69.9 | $298.4 | $421.1 | $471.6 | $525.2 | $705.9 | $737.9 | $771.5 | $784.1 | $791.7 |
We calculated WACC and DCF as shown below:
DCF Analysis (Analysis Done by Author)
As seen in our analysis above our 12 month Target Price is $67 which lines up well with our Revenue multiple base case of $68. Comparatively the consensus among Wall St analysts is a mean target of $46 per share with a buy rating.
Discussion of Risks
Investments, however, are not devoid of risks, and Sigma Lithium is no exception. In this case risk is tied to Lithium Price Volatility. The company's performance is tied to the price of lithium, which has historically been volatile. A significant downturn in lithium prices could impact Sigma's revenues and profitability.
Operational Risks are also always present. Sigma has recently begun production but any operational issues or delays in ramping up production could impact the company's revenues and ability to scale as forecasted.
We believe the upside for Sigma outweighs these risks. Currently, spot price is well above our forecast average for the year which we estimate conservatively. Sigma has also done well sticking to their timeframes and getting production started we believe they will continue to operate within this trend in the future. Additionally we take measures such as lowering expected margins to allow leeway for commodity value or operational risks.
Conclusion
Sigma Lithium presents an exciting opportunity in the lithium market. While there are certain risks, the company's impressive reserves, low cost of production, and strong production forecasts make them stand out amongst peers in a rising industry. The race for renewable energy is on, and lithium is a critical player in this transition. With Sigma's production pipeline heavily outpacing peers with similar market caps, we rate SGML stock as a buy.
For further details see:
Sigma Lithium: A Sparkling Gem In The Lithium Market, With Unearthed Potential