Pole position for the lithium super-cycle'
- new research on LKE by Orior Capital
Clean lithium developer Lake Resources NL (ASX:LKE; OTC:LLKKF) released today new research by Orior Capital analyst Simon Francis, who previously released research on Lake when it traded at A$0.04 with a target of A$0.30.
The research highlights the "incredible value" offered by Lake, with Orior noting Lake is well positioned to benefit from the start of the lithium "super-cycle".
Research summary:
1. Lake offers incredible value, with NPV of A$5.90/share a year from now
Revised NPV and earnings estimates reflect Lake's recent decision to build Kachi to 50,000 tpa LCE, amid higher lithium prices. Chinese spot market lithium carbonate prices have soared 805% since the start of 2021 and are almost five times the level used in the PFS study.
Factoring in a selling price of US$30,000/t LCE suggests a post-tax NPV8 from the Kachi project of US$5.9 billion (A$8.2 billion). The market is valuing Lake at just 12% of attributable NPV8, which looks incredibly cheap. Valuing Kachi at NPV8 could support a valuation a year from now of A$5.90/share, more than six times the current share price.
2. Valuation of A$12.70/share to A$21.47/share as production commences
The Kachi project's annual EBITDA is estimated at US$1,225m pa in 2027-2050. Applying an EV/EBITDA multiple range of 15x to 25x suggests Lake could be valued at A$12.70/share to A$21.47/share. This represents 14x to 24x the current share price.
All of Lake’s product is expected to be high-purity, ‘battery grade’ product. This cannot be said for current producers who sell a mixture of different grades. This 100% high-purity product is reflected in superior anticipated margins. Lake is expected to achieve an average EBITDA margin over the life of the project of 82%.
Kachi is expected to be financed with 70% debt from UK Export Finance (UKEF) and 30% equity. The company already holds a substantial cash balance and should benefit from further conversions of outstanding options. Lilac Solutions, now well-funded, is expected to contribute its 25% share of the equity.
3. Lithium ‘super-cycle’ is just kicking off: Lithium prices are going to remain far stronger for longer
The run-up in lithium prices over the past year has been reminiscent of the Chinese commodities super-cycle from the 2000s. Two decades ago, Chinese economic reforms let the brakes off the economy. What followed was a period of staggering economic expansion with an enormous impact on commodities markets. Chinese crude steel consumption grew by 15% pa in 2001-2013. By 2008, iron ore prices had quintupled from levels five years earlier. Higher prices have turned out to be far more sustainable than expected at the start of the super-cycle; in the 18 years from 2004 to 2021, iron ore prices averaged more than three times the level they were at before the super-cycle commenced.
Similar to the super-cycle two decades ago, the lithium market is being propelled by a new and substantial structural driver of demand. This time, electric vehicles and energy storage could have an even bigger impact on small markets such as lithium. Global EV sales are expected to grow by 25%-30% pa this decade, as much as twice the rate of Chinese steel demand in 2001-2015. Electric vehicles are expected to account for about 80% of lithium demand by 2030. Further, lithium demand is expected to grow 9x this decade; global crude steel demand “only” doubled in 2001-2015.
Experience of the super-cycle suggests that lithium prices are going to remain far stronger than previously anticipated. Lake stands to be a key beneficiary of this. Commodities analysts may be initially hesitant to call for a new super-cycle; as confidence that the cycle is sustainable grows, investors can look forward to continual price and earnings upgrades. Expect continued upgrades.
A common way to forecast commodities prices is to assume that prices return to a level around the top end of the cost curve at some stage. After a sudden run-up in prices there is a tendency to assume prices will retreat back to ‘normal’ levels relatively quickly. There are two issues with this. One is that the demand side is being legislated globally, somewhat subsidised, and supported by consumers. Another is that bringing new capacity to bear usually takes several years. Analysts are likely to continue raising forecasts for lithium prices over the next several years as they gain confidence that the cycle is sustainable.
4. Lithium supply issues are likely to revolve around ESG concerns
Once again, supply is struggling to keep pace with demand. This time the issues are likely to revolve around ESG concerns and financing. New lithium projects will be subject to stricter environmental hurdles. Environmental scrutiny is being increasingly legislated. For example, under the German Supply Chain Act, which comes into effect in 2023, companies will be held accountable on social standards across their entire supplier network. Lake is well placed to deliver ESG outcomes in line with future demand.
5. New supply takes time. Demand represents about 70 Kachi projects at 50,000tpa LCE
In order to meet demand, lithium capacity will need to reach about 4.0m tpa LCE by 2030. This increase in required capacity through the rest of this decade represents about 40x Albemarle’s production of lithium products in 2021. It represents about 70 Kachi projects at 50,000tpa LCE. This is going to be very challenging. Evaporation ponds are slow to establish, not readily scalable, and are being subjected to increasing environmental scrutiny. In terms of financing, the sector needs an estimated US$50bn in investment for new capacity this decade; global lithium revenues were about US$4bn last year. Delaying funding will inevitably prolong the cycle.
6. Direct lithium extraction (DLE) is perhaps the only viable way of balancing the market
Over the next few years, DLE is expected to become the primary method of lithium extraction. The chemical techniques employed are already well-established in the water industry, which is why companies involved in water treatment such as Suez Group, Schlumberger, Veolia, Adionics, and others are entering the lithium space. Direct extraction is also widely used in the uranium sector.
As project financing becomes increasingly tied to ESG credentials, new lithium projects will need to adhere to strict ESG standards. DLE offers substantial benefits in terms of environmental footprint, water use, and carbon emissions. It is high time lithium producers stopped relying on inefficient 1st Century technology and started to embrace 20th Century chemical extraction techniques.
7. Targeting 100,000 tpa LCE to become major independent producer
In addition to Kachi, Lake owns four other projects, three of which, Olaroz, Paso and Cauchari are located in Jujuy Province, northwest Argentina. In December 2021, Lake announced an initial 4,000m 10-hole drill program aimed at testing these projects, with the first drill holes targeting the northern parts of Olaroz. The aim is to generate sufficient brine to provide large samples for testing with a number of parties, including Lilac. Lake’s aspirational target is to reach capacity of 100,000 tpa LCE; this would underpin Lake’s position as a leading lithium producer globally.
8. Share price catalysts
A number of factors are expected to drive the stock over the few months. Lake is aiming to move the Kachi project to DFS (pushed back by the decision to expand it). This will involve completing the current drilling program (final hole underway), upgrading the resource (targeting end 2Q22), publishing an initial Mineral Reserve, completing an Environmental and Social Impact Assessment (2Q22), and undertaking brine extraction and reinjection tests. Discussions with export credit agencies and regarding offtake agreements are ongoing. A final investment decision is targeted around 3Q22. Positive developments at other projects could also drive the shares.
Conclusion
The lithium market is entering a new ‘super-cycle’ in which prices are expected to remain at much higher levels than previously anticipated. With five lithium projects, Lake Resources stands to be a major beneficiary. The stock looks incredibly undervalued at current levels.
Expand
