2023-08-18 05:43:51 ET
Summary
- Sigma’s Grota do Cirilo Project has a Reserve of 54.8Mt (P&P) and a Resource of 85.6Mt (M&I&I).
- Sigma’s stock is reasonably priced at current levels relative to other lithium producers.
- Impending macroeconomic risk may bring lithium price volatility in the coming months.
For several months now, Sigma Lithium (SGML) has been the subject of takeover speculation. Numerous media reports have been published , discussing how Sigma was being shopped around to companies both inside and outside the mining world. I wrote an article ' Sigma Lithium May Be For Sale' about the subject when news initially broke. However, since February, Sigma has been linked to Tesla (TSLA), Rio Tinto (RIO), Tianqi Lithium (TQLCF), Ganfeng Lithium (GNENF), as well as China's Cnooc Limited and Saudi Arabia's PIF sovereign wealth fund. It's made for some interesting reading, but, so far, a deal has yet to materialize.
But despite being at the center of all this media noise, the company's mining operations have kept chugging right along. Sigma started commercial production this year and has very ambitious plans to grow total production in the years to come. Its management is clearly aiming to make Sigma one of the world's top lithium hard rock producers, and given how things are going, that goal seems to be well within their eventual reach.
So, given all of these positive factors, one would expect to see Sigma's stock price trading at or very near all-time highs. But, as most investors are probably well aware, that's not the case. Sigma has been unable to escape the effects of broader macroeconomic trends that have been impacting the whole industry. In this article, we'll discuss why Sigma's stock price has been trending downward since mid-July.
Sigma Lithium
Sigma's Grota do Cirilo Project has had a rather smooth ride over the last few years. The company has been able to bring the project to completion without any major operational, jurisdictional, legal, or financial challenges slowing down the process. And although Sigma's recently released Q1 numbers, for the quarter ended March 31st, don't yet show any revenue, that should all change when Q2 numbers are eventually released.
In May, the company reported its first revenue when it sold 15k tonnes of tailings and 15k tonnes of 5.5% battery grade lithium concentrate to Yahua International Investment and Development Co., Ltd., a China-based company which is one of the largest lithium chemical refiners for EVs in the world. Sigma also announced that it had signed an offtake agreement with Yahua to cover the sale of up to 300k tonnes of tailings per year for 3 years. These will be upcycled into battery grade lithium concentrate for use in electric vehicle battery production.
Since then, the company has continued to ramp and expects 2023 total production to be 130kt and to hit an annualized run rate of 270kt by Q3 of this year. And, as discussed in previous articles , this is only the first of a multi-phase project that will eventually see production grow to 766ktpa when Phases 2 and 3 are eventually added on. Sigma filed a PFS this past January and is currently working on the Definitive Feasibility Study for both Phases 2 and 3. It hopes to complete both phases sometime next year, a very ambitious target indeed.
Sigma's management often points out the disconnect between its current $3.7 billion market capitalization and the market caps of other large producers when each companies' total production is taken into account. Intuitively this makes sense; if Sigma, which is now guiding to a production number of 130kt this year, produces as much as Livent (LTHM) and Allkem (OROCF) combined and half as much as Albemarle (ALB), should it really be valued at a fraction of what these companies are valued at?
However, that valuation method takes an overly simplistic view. Sigma has yet to show a profitable quarter, has one property, operates in one country, has no refining capacity, and is a relatively young company. Albemarle and Livent on the other hand, have been around for decades, have been profitable for quite some time, have well-developed downstream capacity, have numerous properties in many countries giving them geographical diversity and long production lives, have diversified revenue streams (in the case of Albemarle), have both hard rock and brine experience (in the case of Livent/Allkem), and have deep and long-standing relationships with clients. Investors are clearly assigning some value to these factors and that seems very reasonable.
If Sigma can continue to ramp up production without any major problems and if it can bring its other projects online successfully it will eventually be able to somewhat narrow the price gap between itself and other senior producers. But given Sigma's current stage of development, it seems fairly valued at these prices relative to the others. But its price, however, may continue to pull back in the short term due to factors that are completely out of its control.
The Lithium Market
Over recent years, the lithium narrative has become very well known. The rise of EVs has prompted many investors to wonder how auto OEMs will ever be able to source the battery metals required for the assembly of all these new vehicles. Graphs projecting the growth in lithium carbonate demand, such as the one below, have become very common and can be found all over the Internet.
Amongst many investors the lithium thesis has become received wisdom, and, in my opinion, it is 100% correct. Barring some revolutionary technological breakthrough which allows for the assembly of effective batteries without lithium, lithium consumption will continue to increase for many years to come. However, it is also highly unlikely that growth in demand will be as smooth as the graph above suggests. Lithium, like all other commodities, will be subject to the ebbs and flows of the global economy.
China currently accounts for the lion's share of the global EV market. In June, EVs held a 38% share of the Chinese passenger car market and China accounted for 57% of global plug-in car sales. And, as can be seen in the exhibit below, year-over-year sales growth continues at a very healthy clip. The North American and European markets are also growing quickly but it's clear that, at present, the global EV industry is quite dependent on the Chinese market. And that's a problem.
It's becoming increasingly clear that China's economy is in real trouble. Over recent years, the Chinese government has had to lower its GDP growth target from 8-9% per year a decade ago to 5% this year, and that's just the target, the real number is probably much, much lower. Youth joblessness in the country has become such a problem that the government now refuses to publish youth jobless data. And the real estate crisis that began several years ago has also grown much worse and now threatens to engulf some of the country's largest developers such as Country Garden Holdings (CTRYF).
It appears that the deteriorating economic situation has not yet reached the car market, but, in all likelihood, it eventually will as long-term unemployment and plunging property values are not conducive to a buoyant car market. And if that occurs, the impact is likely to be felt all the way up the EV supply chain, causing lithium prices, which over recent months had already begun pulling back, to fall even further.
Takeaway
The Chinese car market will eventually recover from any pullback, and even if it were to enter a long and dawn out economic recession, growth in the US and European EV markets would eventually offset any long-term loss of demand in China. But the current rapid deceleration of the Chinese economy may mean that lithium prices are in for a bumpy ride over the next couple of quarters. Sigma Lithium is being downgraded to Hold for those reasons.
Sigma is a solid, well-run company, and its share price will probably get some support from the takeover speculation currently swirling around it. Over the long term the stock may have promise, but over the next few months it will probably have limited upside due to the macro factors impacting the lithium space as a whole.
For further details see:
Sigma Lithium: Emerging Producer In A Volatile Lithium Market (Rating Downgrade)