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Orocobre - Reiterating A Strong Buy Recommendation

Mar. 15, 2018 9:29 AM ET
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About: Orocobre Ltd. (OROCF), Includes: AVLIF


Livio Filice


Long-term horizon, Growth, momentum, Deep Value


(1,368 followers)
Summary

Shares in the early stage lithium producer have tumbled in recent trading activity representing a strong buying opportunity for both short and long term investors.
Toyota Tsusho, the strategic trading arm of Toyota Motors has completed an investment of A$282 million at A$7.50/share; stock has recently traded below A$6.00/share.
An overview of current business development activity, company growth outlook and the impact of the Toyota investment.
Over the past five years, I have been pushing investors to focus on the lithium chemicals market as there have been strong indications that the electric vehicle and stationary energy storage markets would begin to take flight. In hindsight, these markets have taken a few years longer than expected to develop. However, the tide has finally turned and it is much more significant than originally expected. During this period of time, I have been calling for investors to support Orocobre (OTCPK:OROCF) as it was well positioned to bring the newest lithium brine chemical facility to market in over 20 years. Although I have been an investor in the company since 2012, I completed my first public reporting on the company in May 2014 (See: Toyota Projects 20% Market Share of Hybrid Vehicles - Buy Orocobre). At that point, shares in the company could have been had for $2/share, representing a major discount to the recent high of $7.50/share. Along the journey to production, the company faced many challenges - it went to the gates of hell, but they wouldn't open. Rising lithium prices, a global mega-trend towards the electrification of the automotive industry, and a growing level of interest from the investment community have ensured that shares in the company trended higher over the past years. It is now safe to say that the company has moved beyond what I refer to as the "dark days" and is probably best positioned within the lithium junior exploration and early stage production markets. For the most part, my position on Orocobre has been bullish simply because I understand what is happening on the demand side. In fact, the lithium exploration and processing market is my venture into the mining industry, which probably shows the tight correlation between the supply of strategic energy metals and the development of the end-user markets such as electric vehicles and stationary energy storage.

In late November 2017, after returning from a site visit to the Olaroz-Cauchari basin ( Here and here and here), I produced a three-part series on my experience and significantly increased my position in Orocobre and Advantage Lithium (OTCQX:AVLIF). Since then, shares in Advantage Lithium have more than doubled, moving from around $0.60/share to $1.40/share with significantly more upside to come. Shares in Orocobre have also done exceptionally well, rising from $5.50/share to $7.50/share, representing an increase of around 35% since December 2017.
Update on business development activities

In late 2017, Richard Seville, CEO of Orocobre, gave an investor presentation that provided some insight into the company's developments. I followed up on this presentation by producing a document, entitled "Orocobre Provides Update On Expansion Plans In Argentina And Japan", that provided additional insights into what this information meant to shareholders and what could be expected from the company. Only a few days after the material was published, the company delivered a formal update to the market on its directional strategy moving forward.

The three-pronged growth strategy was outlined by the company in late 2016 and built upon as a key corporate theme throughout 2017. The management team had outlined an aggressive path forward, which drove shareholder value and cemented the company's position in the global lithium supply chain. First, the company will expand the Olaroz project by more than doubling the current lithium carbonate annual production to 42,000 T LCE. Second, the company will construct a 10,000 T/year lithium hydroxide plant in Japan with its current project partner, Toyota Tsusho. It is expected that the lithium hydroxide will be exported primarily for use in the manufacture of lithium batteries, strengthening the company's position within the global lithium supply chain. Third, the proposed annual product mix of lithium carbonate will be 17,500 T battery-grade from its existing operations and 17,500 T industrial-grade, of which 9,000 T will be allocated to supply the upcoming hydroxide plant in Japan. Both the expansion of the Olaroz project in Argentina and the hydroxide plant will construct in parallel with each other with meaningful production expected in calendar year 2019.

The key takeaways from the January 2018 update include:
Confirmation that the company has permits in hand to expand the Olaroz project and that long development efforts, such as pond expansion, are underway; An increase in production expansion to 42,000 T LCE per year, up from the initial projection of 35,000 T LCE per year; A game-changing investment of approximately $300 million by Toyota Tsusho in Orocobre in consideration for a 15% stake in the company; Confirmation that the Japanese lithium hydroxide facility is moving forward with a financial decision expected in H1 2018; and Outlined the cost of the Japanese facility, which is around $6 million to the company with the balance being financed or assisted through government incentives.
The Toyota Tsusho investment

As noted above, the game changing component of the update for both Orocobre and the lithium supply chain was Toyota Tsusho's direct equity investment of A$282 million in Orocobre in exchange for a 15% stake in the company at a 17% premium to the 30-day VWAP. As a follow on, Orocobre completed a capital raise of A$63 million through a 1-for-20 entitlement offer at $6.55. Both transactions have since been completed.
The investment made by Toyota Tsusho puts the current market valuation at $7.50/share, which was a premium to the trading price in shares of the company over the recent months. The current valuation likely does not take into consideration increasing lithium carbonate prices, 25% ownership in Cauchari, approximately 30% ownership in Advantage Lithium, or the Japanese lithium hydroxide facility. In addition, over the mid-term, as I have previously speculated, there is a unique opportunity for the company to enter the Chinese lithium supply chain by actively participating in the domestic production of lithium chemicals.


It is obviously important to note the risk associated with any investment. Today, the risks with Orocobre are many, including the ability of the company to: reach production nameplate capacity at Olaroz Stage 1, successfully raise the necessary debt capital for Olaroz Stage 2 and the Japanese lithium hydroxide facility, effectively communicate the unique value proposition to the investment community, to combat outrageous and unjustified heavy short-selling in the company, and to produce a sales and marketing strategy that will position the company for long-term success as a value-added player. There are macroeconomic factors, such as a potential lithium oversupply scenario, which would have a material negative impact on the company. However, the sheer size of the Toyota Tsusho investment into Orocobre does not align well with a potential oversupply scenario in the years ahead. Another important macroeconomic trend is Toyota Motor's shift to the electrification of their automotive fleet, a topic that I have previously covered in depth.
The underlying theme is that Toyota Tsusho's investment is a benchmark when determining the present valuation for shares in the company. All things being equal, shares in the company could recover to at least the investment price level and further escalate as the company continues to move forward with its aggressive strategy.
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Disclosure:I am/we are long AVLIF, OROCF.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.