Why Core Lithium Should Be Worth More Than This But May Not
Mar. 20, 2023 7:19 AM ETCore Lithium Ltd (CXOXF)5 Comments
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Tim Worstall
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Summary
Or at least there's a decent argument that Core Lithium should be worth more than it currently is.
It has a decent lithium mine, it's ramping up production, it has offtake contracts, why's it not soaring?
The one detail that I see is those very offtake contracts. We want to see the details of those.
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Atom of Lithium with detailed Core and its 3 Electrons with Atoms
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Lithium mines should be really valuable around now
Especially lithium mines that are just coming into production but which are also likely to have only a short lifespan. Those should be really valuable right now.
As I've noted about Piedmont Lithium, it's entirely possible to be both bullish on lithium miners right now and also bearish. It's a matter of the mining cycle. For people who are producing right now, or imminently, prices are very good indeed - even if lower than they were 6 months back. My read of the mining cycle is that in three or four years those prices are going to come down markedly. Simply because the current recent excitement is going to lead to many more mines and producers coming to market.
That view may be right or wrong of course but it does explain why it's possible to be both bull and bear, dependent upon the length of the cycle.
That makes this a bit of a puzzle
Core Lithium (OTCPK: CXOXF) should, by this standard, be rather more valuable than it is. The Finniss Lithium Project looks an entirely viable little mine. It's fully funded, it has offtake agreements for the production, it looks like it will be shipping concentrate in the immediate future (it has already shipped a small amount of ore) and it's got a short mine life.
That is, production looks like it will come to market at a high price point. Production costs are said to be in the $500 to $600 tonne range and market prices are perhaps 10x that. So, wildly profitable at current market prices. The short mine life (7 or 8 years) means that even if I'm right and the mining cycle catches up with lithium demand we're not so worried. For any valuation of Finniss and thus Core doesn't depend upon unknowables far off into the future.
This is a puzzle, why is this so lowly rated? As The Methodical Investor tells us in the absence of other information this should be more highly rated. So why ain't it?
Offtake agreements
We need to go through some little details about this type of mining.
So, the mineral is spodumene, which rates 1 to 2% lithium (or so, roughly). This can be and usually is upgraded to a 6% Li concentrate at the minehead. This then goes off to a processor to be converted into battery material (hydroxide, say).
Mines tend to be of a certain size. Those converters of the spodumene concentrate into the battery material are economic at a much larger size. It doesn't make sense for the mine to build its own conversion (as opposed to concentration) plant. This same fact means that those conversion plants are dependent upon some to many mines to keep themselves running.
This is just what it means when we say that the economic size (ie, where the process is running enough material to be profitable) of the conversion plants is multiples of the mine size. We have few conversion plants, many mines. So, the mines are reliant upon contracts with the conversion plants to take their material, the conversion plants are reliant upon the mines to deliver material to be converted.
Mine financing
This duality leads to a usual and specific type of contract. Once a mine has got to the stage of defining a reserve (again, there are variations, but this is a useful description) and is then ready to actually build out and start producing then one or other of the conversion plants owners is likely to step in and aid with that financing.
In fact, getting a spodumene concentrate processor to invest in a spodumene mine is now taken as one of those signals that other investors should complete the financing. It's almost a necessary but not sufficient event in order to gain access to the full financing. This is why so many spodumene mines have arrangements and equity ownership from those giant Chinese processors.
OK, that's great. That a Chinese processor (Yahua) did invest is that comfort to us that the mine is both viable - not proof, comfort - and also financed. Great.
Except, those contracts
There's one more stage of those contracts though. So the processor invests in the mine, gets an offtake agreement in return. Offtake means *will* buy material if it is produced. But to gain that agreement requires an agreement upon price.
The usual way this works is that the concentrate is priced as, well, concentrate. So much per unit of Li in concentrate. But, again this is standard, there's usually a cap and a collar upon that price.
Say, just to imagine, the concentrate price is $700. Then the contractual agreement for the offtake might say no lower than $500, not more than $900. Or maybe $1,000.
Please note that I do not say that this is what Core's numbers are. Only that those numbers are around and about what historic contracts have been signed at. What I do say is that the structure of Core's contracts are like that. On the grounds that Core tells us they are:
The Offtake Agreement provides for attractive pricing linked to the market for 6% lithium concentrate, but subject to a price floor and ceiling.
This point is made throughout reports about that deal.
That's just the way such deals are constructed. Capital upfront in return for an offtake contract with a cap and collar on the price.
The effect of this contract
Well, the effect of such a contract is that if the price soars after the contract has been signed then the price cap means that it's the processor, not the mine, gaining the value of the soaring price.
So, it matters hugely - given the lithium price volatility - what the cap and collar on that offtake contract is. Which is something that Core doesn't tell us but we can have a little guess at likely ranges.
Note this is a guess. An informed one but no more than that at all. The offtake contract - with the cap and collar, recall - was signed in early 2021. When the lithium price, therefore the lithium concentrate price, was at a very low level.
And that, I think, is the story of why Core Lithium seems not to have benefitted much from soaring lithium prices. Because much of its production is presold at pre-soaring prices.
From what I can see that contract with the processor covers about half the mine's likely output, and possibly the whole of early production, possibly just a majority of those first few years
The effect of all of this is that the profits from the soaring lithium price are collected by the processor, not the mine, because of that cap on the offtake contract. Core Lithium is left with a nicely profitable contract - the cap will allow for a nice, but not excessive profit to be made.
My view
There's nothing wrong with Core Lithium that I can see. What I'm trying to explain though is why the share price hasn't soared along with the lithium price. As best I can make out the reason is that the price to be paid for Core's output is capped and capped at the low prices of a couple of years back. Not for all production but for a significant part of the entire mine run and for possibly all of the initial few year's output.
Why I might be wrong.
We know there's a cap on the concentrate price. We don't know what it is. If that cap is much higher then Core should be much more highly rated than it is. As they've not made those contract terms public we simply don't know. So, my reasoning above could be wrong.
Equally, there might be some manner of breaking that offtake contract but I'd rather doubt it.
Why I think I'm not wrong
If Core didn't face a low price cap - by current market prices - under that offtake contract then I think they'd be telling us. They're not so I assume they are.
The investor view
As I say, I don't think there's anything wrong with Core. An actual mine, fully funded, going into production, why not? It's just that it's not going to be, at least in these early years, part of the excitement of the volatile lithium price. Therefore don't trade it expecting it to track that lithium price.
This effect will, I think, diminish as the terms of the offtake contract are worked through - the tonnage to be delivered in what timescale and so on. I expect by the second half of the mine's working life that concentrate will be sold at something much closer to market values rather than under the current cap.
So, the advice is not that there's something wrong. Rather, if investors want to play or trade the lithium price then it's best to find some other miner to do so with. One without offtake contracts with such a cap on the price that can be charged.
Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.
A detailed look at the nuts and bolts of lithium mining contracts
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