Peter Epstein, CFA, MBA @peterepstein2 Linked-In Skype: peter.epstein3
It all started with Tesla Motor’s announcement of its battery giga-factory in February 2014. That news has been discussed endlessly with breathless excitement. The news sparked a revival in lithium, cobalt & graphite juniors. For example, Western Lithium USA Corp. (WLC.TO) based in Nevada, more than doubled that month. At the time, I wrote a few articles saying that the giga-factory was great news for select graphite companies. I didn’t mention lithium or cobalt, simply because I was less fluent in those.
Today I’m better prepared to articulate the lithium story, one of the hotter sectors in the natural resources space. Why now? I think that lithium-ion batteries might be reaching a, “tipping point,” the phrase made famous by Malcolm Gladwell. Please note, I don’t use catch phrases loosely, lithium’s spike in demand is no, “black swan” event, and we’re not near, “Peak Lithium,” although we could suffer supply shortages on the horizon. Not only did Tesla’s giga-factory catch everyone’s attention, the idea caught on so well that today there’s 5-6 announced, or in construction, giga-factories, (Tesla’s the largest).
Lithium demand is spiking for several reasons, again heavily influenced by the $5 billion dollar Tesla facility. Interestingly, the original concept was that the giga-factory would be completed in 2020. Now conventional wisdom says 2017-18, another bullish data point. Tesla’s giga-factory may be old news, but Tesla’s fully Electric Vehicles, “EVs” are not. Simply put, these EVs were way too awesome for their own good. It guaranteed that new competition would enter the space, and it already has in a significant way. Get ready for it, an abbreviated list of 15 automakers in the plugin-EV (hybrid) or fully EV market…. BMW, Mitsubishi, Toyota, Nissan, Honda, Tesla, GM, Ford, Kia, Fiat, Mercedes, Porsche, Volkswagen, Audi and Hyundai.
This list probably doesn’t even contain all of the well known brands. Many of these automakers had no offerings of plugin-EV (hybrid) or fully EVs until after Tesla’s. Here’s another fact, not my opinion, there are dozens of less well known brands diving into the race in places like China, Europe, Korea, Japan and Scandinavia. Yes, China and Europe alone have plenty of them. China is trying mightily to cut air pollution and European cities are small enough to be especially amenable to EVs. Check out this article if you don’t believe me! And, just wait until today’s hybrids become full EVs. A certainty in my mind. We are already witnessing new entrants skip the hybrid phase, revealing full EV concept cars, models on the road within a few short years.
So many uses, hard to follow demand, harder to forecast
So far I’ve mentioned Tesla’s new paradigm shifting introduction of a, “real” EV. And, it attracting MANY competitors. Next, I pointed to multiple giga-factories spurred by Tesla’s. But wait, there’s more. About a week ago, Tesla announced a much ballyhooed home lithium-ion battery storage system. This product is particularly attractive to homes with solar panels. Home storage is yet another shot across the bow, warning of another leg up in lithium demand. I guarantee that Elon Musk’s home storage units will attract a lot of competition, (in fact, a number of private companies supersede Tesla in this segment). Will home storage require even more battery giga-factories?
Tipping point or not, lithium demand is moving meaningfully higher month after month. By the time analysts come around to forecasting a 12%-15% CAGR from 2015-2025, I argue that the growth rate could be 20%-30%. I have no scientific backing for that 20%-30% projection, but extrapolating 2010 – 2015 growth rates forward will not work, not even close. Don’t make me mention the 200 million electric bikes in China alone, an estimated 80% – 90% of which are still lead-acid dinosaurs. Another far less mentioned factoid is widespread adoption of hybrid and full EV buses, taxis, garbage trucks, firetrucks (they can charge all day!) police cars and the like. Is anyone contemplating the vast number of replacement batteries that will be required to service existing and new products?
Earlier, I mentioned Western Lithium, a junior with a well deserved market cap of C$105 million. Lithium Americas Corp. has a C$70 million market cap. Before moving down the list, please also consider Australian-listed Orocobre Limited with a market cap of A$425 million for a pure-play, producing lithium company. Of course, Orcobre is several years ahead of small cap companies like Dajin Resources (DJI.V) (DJIFF) (which trades a combined 550k shares per day) and Pure Energy (PE.V) (HMGLF. However, we’ve seen this movie before. When a commodity is in high demand, this is what happens. Small companies acquire or option prospective property, they stake new ground, explore and develop as available capital allows.
Time is money. Do new entrants really want to start a green field project? Or, might they prefer to save 2-3-4 years time, money and leg work that could be provided by a junior? In fact in today’s morbid market, juniors have market caps 1/4, 1/3, 1/2 that of capital deployed. I believe in a stronger market, dare I say a bull market, lithium companies with the cheapest valuations, solid management teams and highly prospective deposits will be keenly sought after. Those with market caps of C$5 million to C$25 million today, are stocks more likely to double, triple, quadruple, quintuple, sextuple, septuple or octuple than larger juniors. (Sorry, I had to use the word, “septuple” at least once in my career)
For Dajin Resources, a 6x-8x return on its market cap would still place it at a discounted valuation to larger non-producing peers. Don’t get me wrong, Dajin has considerably more risk, but also considerably more upside, if one shares my bullish view on lithium. Even though Dajin & Pure Energy are behind peers in potentially reaching production, they’re well ahead of new entrants in terms of permitting, environmental studies, seismic, exploration drilling, community relations, loving down access to infrastructure, etc.
I wonder if pundits looking at lithium demand are capturing all of these booming markets and replacement battery needs, or if it’s even possible. Make no mistake, industry experts are better equipped than me to opine. A key to the question of a tipping point is not necessarily when lithium-ion batteries reach some critical penetration rate, but when it becomes or appears that it certainly will become, the go-to standard. At that stage it’s a self-fulfilling prophecy. Penetration will quickly follow.