Lepidico — Coming in sight of the Rubicon

Since our last note on the company (see Big swings and small roundabouts, published on 16 February), Lepidico has continued to develop its Karibib project in Namibia and Abu Dhabi, first, by the appointment of new – and key – personnel to the project and, second, and more recently, by the pursuit of new initiatives regarding the development of its Phase 2 project (P2P).

While there has been some slippage in the overall timeline of the project – not least given the COVID-19 pandemic – the delay amounts to only a matter of months. As such, it is still the company’s intention to make an FID in the current quarter (Q3 CY22), with a board meeting scheduled for late September, when the Phase 1 control estimates, implementation schedule and revised economics will be presented along with an expected development recommendation by management.

Lepidico has recommenced exploration within the 293km2 over which it has prospecting rights at Karibib, with a view to increasing its resource to a size that is sufficient to a) extend the Phase 1 Plant project operating life to more than 20 years and b) support a Phase 2 Plant. Management’s initial target is to increase the combined resource at Helikon 2-5 from 2.2Mt to 5.0–7.0Mt, which it believes would be sufficient to support a Phase 2 Plant of approximately the same size as its Phase 1 plant of c 5,000tpa, which could be located in either Namibia, Europe or North America (note that this compares with the aggregate tonnage of 9.0Mt at Rubicon 1 and Helikon 1 currently dedicated to supporting the Phase 1 plant). Beyond this, management believes that a 10–12Mt resource inventory would support a c 10,000tpa Phase 2 plant. However, the ostensible goal of the programme is to delineate a resource of c 25Mt, which management estimates could support a full 20,000tpa Phase 2 plant. However, where before this was conceived as a fully integrated, purely owner-operated project, in recent months Lepidico reports that it has received unsolicited enquiries from as many as four junior explorers in or near the Atlantic basin that have been exploring pegmatite fields and identifying lepidolite-rich mineralisation. Several of these are reported to be in the process of being drilled and a number have sent samples to Lepidico to ascertain their material’s amenability to its proprietary L-Max and LOH-Max processes. To expedite development, therefore, rather than seeking to license its technology, Lepidico is in the process of investigating the construction of a P2P specifically designed to handle concentrate from third-party sources in conjunction with material from an expansion at Karibib.

According to its Phase 1 Plant project DFS (see Valuation update post-feasibility study, published on 20 July 2020), Lepidico will mine c 0.5Mt ore pa at an average life-of-mine strip ratio of 3.8 to produce c 60kt of concentrate pa at an average grade of 3.23% lithium oxide after a (lithium) recovery to concentrate of 80.6%. The chemical plant will then process c 56,700t concentrate (dry) pa to produce up to 5,600tpa lithium hydroxide monohydrate. As mining encounters lower-grade material in the lower horizons of Rubicon, however, the plant has been designed to accommodate a near doubling in throughput rates by the eighth year of the project via the addition of an additional leach tank. Over the life of its operation, ore mined for the Phase 1 Plant project is estimated to amount to 6.6Mt, or 73.0% of combined Rubicon 1 and Helikon 1 in-situ tonnage. By contrast, a Phase 2 plant with the capacity to produce 20,000tpa of lithium carbonate equivalent, or 22,717tpa lithium hydroxide monohydrate equivalent, would require an in-situ tonnage of 19.2Mt ore pro rata, which would be presumed to originate from Lepidico’s other deposits at Karibib (ie Helikon 2-5), new discoveries in the Karibib mining and prospecting licence areas (see below) and third-party mines.

The existing resource at Helikon 2-5 amounts to 2.2Mt at an average grade of 0.41% lithium oxide:

At 0.41% lithium oxide, the average grade of Helikon 2-5 compares well with the average resource grade of Rubicon 1 and Helikon 1 combined of 0.43% and the average reserve grade of Rubicon 1 and Helikon 1 combined of 0.46%. Current exploration work at Karibib is focusing on Helikon 4 and pushing down strike towards Helikon 3 and Helikon 2, with a target of delineating an additional 4–5Mt of ore at a grade of 0.5% lithium oxide (Li2O). Within this context, on 27 June, Lepidico announced that drilling at Helikon 4 had returned the broadest high-grade lithium intercepts to date at Karibib, while a new lepidolite-bearing pegmatite had also been identified at the Homestead prospect with a strike of at least 250m and a downhole width of up to 31m. Precise details of its drilling results are included in its announcement. However, highlights of the programme to date have been:

Preparation is also underway to start exploration activities to the east of EPL5439 on several priority lithium and gold targets. Exploration there is intended to continue throughout 2023, with the aim of expanding resources to support a significantly larger Phase 2 Plant project. However, turnaround times for assay results have been slow – which is a global issue – and it has become increasingly apparent to management that the best means of expediting the Phase 2 Plant project may be to employ otherwise redundant material at third-party sites, while continuing to expand resources at Karibib, albeit in a more structured manner.

We have provided a conceptual, risk-adjusted valuation for Lepidico’s Phase 2 Plant project on two previous occasions – the first in June 2021 when we valued the project at US$594.7m, unrisked but fully diluted (see Phase 2 coming into view, published on 18 June 2021) and the second, in February 2022, when we valued it at US$851.9m or 0.73-1.77 Australian cents per share after we had updated our long-term lithium price forecasts (see Big swings and small roundabouts, published on 16 February 2022). In formulating these valuations, we made the following assumptions:

The resulting valuations were then risk adjusted for a) their stage of development (which was deemed to be ‘scoping study’ stage) and/or b) their resources relative to those required to support a 20,000tpa LCE Phase 2 plant.

For the purposes of our revised and updated Phase 2 Plant project valuation, we have left these assumptions unchanged with the following modifications:

All other things being equal, our estimate of indicative Phase 2 Plant project economics in a typical year (relative to previous estimates), is as shown in Exhibit 2, below.

Discounting 20 years’ worth of cash flows of this order of magnitude back to present value at a discount rate of 10% and subtracting US$281.4m in initial capex (cf US$362.8m previously) yields a preliminary theoretical value for the Phase 2 Plant project of US$783.6m (cf US$851.9m previously) at the start of capex, or US$0.0919/share (cf US$0.1088/share previously), post-assumed FY23 equity funding. Readers should note that significant exploration success at Karibib or the acquisition of another in-ground asset could result in a vertically integrated Phase 3 Project, which is consistent with Lepidico’s growth ambitions. At this stage, we are choosing not to model such a concept. However, as before, there remains considerable value upside from royalties associated with process technology licensing.

As before, we have applied two methods to adjust the above valuation to reflect risk to the Phase 2 Plant project implementation.

The capital intensity estimate for the Phase 2 Plant is quoted as being performed to ‘scoping study design parameters’, while the operational cost estimates are compiled to a DFS standard – albeit there is no guarantee that either the mining or the chemical cost portions of a Phase 2 Plant project would approximate those at Karibib and Abu Dhabi, respectively. As such, a preliminary economic assessment (PEA) level risk factor applied to our valuation (above) could be appropriate in formulating a risk-adjusted valuation for a conceptual Phase 2 Plant project. Alternatively, it could be stated that we believe our valuation to be correct in the event that the assumed parameters are confirmed in a PEA or scoping-level study. In our report Gold stars and black holes, we calculated a mean enterprise value for companies with projects at the PEA or scoping study stage of development of 11.7% of project net present value (NPV). This would imply an immediate valuation for the Phase 2 Plant project of US$91.7m, or 1.08 US cents per share (1.55 Australian cents per share) post-assumed FY23 equity funding.

In order to support a 20,000tpa LCE chemical plant operation, we estimate that a 1.7Mtpa ore processing capacity would be required. Over 20 years, this would imply a required ore reserve of c 34Mt (at a similar grade to the current ore reserve) which, at the existing reserve:resource conversion ratio at Rubicon 1 and Helikon 1 of 74.3% (by tonnage), would imply a minimum resource of 45.9Mt at an acceptable minimum grade to support a Phase 2 plant. This compares with a current resource at Helikon 2-5 of 2.2Mt (see Exhibit 1) or 4.8% of that ultimately required. Invoking this percentage as an appropriate measure to apply to the valuation of US$783.6m implies a risked valuation of US$37.5m, which equates to 0.44 US cents per share or 0.63 Australian cents per share (post-assumed FY23 equity funding). In this case, however, resources contributed by third parties to the Phase 2 Plant project may increase much more rapidly than at Karibib alone under the fully integrated, owner-operator model.

Management estimates that the use of third-party ore to feed into the Phase 2 Plant could take two to three years out of a typical mine-concentrator project development timeline.

In the first instance, Lepidico will require approximately one year in which to upgrade its resource at Helikon from the inferred category into the measured and indicated categories, and thence into the proven and probable categories of reserves. As presently conceived, the Karibib Phase 1 Plant project has the following attributes:

Doubling the capacity of the Karibib concentrator earlier than originally planned will therefore require little more than the already planned expansion (see page 2) to be brought forward plus an additional ball mill, with the result that it should be relatively easy and very capital efficient.

Thereafter, Lepidico will embark on approximately two years of engineering works, which should be abundant time for a third party to delineate an appropriate resource to contribute to the Phase 2 Plant. Once delineated, the third party would then conduct a feasibility study on its mining and concentration project incorporating Lepidico’s concentrator design.

By mid-2024, therefore, Lepidico should have an appreciation of the potential resources available to contribute to the Phase 2 Plant project, at the same time as its chemical plant in Abu Dhabi is coming on-steam. As such, it would be in a position to undertake the front-end engineering and design (FEED) aspects of its own feasibility on the larger Phase 2 Plant project within the context of its actual experience of the operation of the Abu Dhabi plant. On this basis, it is possible that the development of the Phase 2 Plant project could occur as early as CY27.

The prices of both lithium carbonate and lithium hydroxide have continued to rise sharply since our last note on Lepidico, as the global economy has recovered from the coronavirus crisis from 2021 onwards and the market has been squeezed upwards as previously depleted stocks of lithium chemicals and concentrates throughout the supply chain have been replenished – especially in China – causing prices to bounce sharply.

Anecdotally, it has been reported that Tesla is paying prices for lithium chemicals that are 16–17% higher than in September last year, contributing to a 25–30% increase in its vehicle prices as its order book has continued to grow – indicating that consumer demand has, so far, proved to be relatively insensitive to electric vehicle pricing. While spot prices of lithium chemicals have stabilised since March, therefore, contract prices are continuing to rise, with a number of traders now anticipating that the two will converge in the US$30,000–40,000/t (cf our long-term lithium hydroxide price forecast of US$18,000/t – see Big swings and small roundabouts, published on 16 February).

Most advanced countries have mandated that the sale of new internal combustion engine vehicles be discontinued from 2030. Simultaneously, China has been rapidly growing its battery capacity, opening its one hundredth lithium ion gigafactory later this year (cf one in the US) and with ambitions to have 140 such facilities operational by the end of the decade. Moreover, China has also been effective in proactively securing the raw material feed for its installations, presenting both the US and Europe with an appreciable challenge in their quests to develop their ‘green’ infrastructure. As a consequence, the US Department of Energy is forecasting that demand for lithium chemicals will rise to in excess of 3Mt by 2030 from less than 1Mt three years ago. This level of growth would almost certainly require an increase in real-term lithium prices over a protracted period in order to be achieved and would therefore (all other things being equal) naturally contribute to an increase in electric vehicle prices. However, even at these accelerated growth rates, the limiting factor for vehicle production will be the availability of lithium chemicals for batteries and forecasts suggest that the supply of electric vehicles in 2030 may amount to only 30–40% of demand, with the result that prices will then have to rise further to effect demand destruction and bring supply and demand into balance.

Nevertheless, exploration and mine development was severely curtailed in 2018–20, despite the longer-term expectation that:

Set against this background of secular growth, lithium prices have thus largely avoided the cyclical downturns that have affected other, more established metals since April 2022 in anticipation of lower near-term economic growth as a result of resurgent inflation and the need to counteract rising prices with increased interest rates.

An additional recent feature of the market for lithium chemicals is that the formerly stable relationship between lithium carbonate and lithium hydroxide prices apparent until the end of 2021 now appears to have broken down. This is evidenced by the graph of (absolute) lithium hydroxide premiums relative to the lithium carbonate price since January 2013, showing notably increased volatility since late 2021:

It is also evidenced by the disruption to the erstwhile statistically significant relationship between lithium carbonate and lithium hydroxide prices in percentage terms since the start of 2016 (below), strongly indicating that the prior relationship has either broken down or shifted to a new level:

A possible explanation for the apparent shift in the observed relationship between the lithium carbonate price and the lithium hydroxide price premium is that, historically, the bulk of lithium was produced from South American brines, which were typically processed into lithium carbonate. This could then be further processed into lithium hydroxide, albeit at a cost which was recouped in the form of the lithium hydroxide price premium. Hence, lithium hydroxide almost invariably traded at a premium to lithium carbonate to reflect the cost of conversion. At present, however, the majority of new lithium capacity is in the form of hard rock mining to produce spodumene concentrate and thence to lithium hydroxide without the need for a lithium carbonate intermediate product. Hence, in future, unlike the past, there will be no (or, at least, a reduced) expectation of a causal relationship between the price of lithium carbonate and the price of lithium hydroxide.

In the future (and with the benefit of hindsight), it may be seen that 2022 represented a point of inflection for the lithium price, at which it moved to a permanently higher level. Our mining valuations are typically conducted in real terms, which has the result of negating the effect of general inflation on both product prices and costs. For the moment, we are leaving our forecast, (real) long-term lithium price unchanged at US$18,000/t. However, we recognise that this is a relatively conservative price even in the context of just current spot prices and likely real term price rises and we therefore provide a sensitivity analysis of Lepidico’s valuation to changes in the long-term, real price of lithium hydroxide in the Sensitivities section below.

With the following three appointments in April, Lepidico has successfully completed the recruitment of its core executive management team. In addition to the below three roles, Lepidico reports that it has also appointed a project director for implementation to start in September, with extensive experience in constructing mid-sized projects, globally. As a result, 25–30% of Lepidico’s senior positions have now been filled by women, with only the appointment of the company’s general counsel remaining to be filled.

On 19 April, Lepidico appointed Hans Daniels as general manager of operations, UAE. Mr Daniels has spent the last 13 years of his career in general manager roles in the UAE, the most recent 10 of which were with the Songwon group of chemical companies of South Korea. In 2013, he set up the Songwon-Polysys joint venture in Abu Dhabi and led the construction and subsequent operation of its first chemical manufacturing facility in the region. From 2018, he become the global manager for Songwon International’s Physical Forms Manufacturing Division where, from his Khalifa Industrial Zone Abu Dhabi (KIZAD) manufacturing base, he successfully led projects in Asia, Europe the Middle East and the United States. Prior to his time at Songwon, Mr Daniels was employed by the Cabot Corporation (with expertise in alkali metals), spanning the UAE and Europe . He holds a chemical engineering degree from Haagsche Hogeschool in the Netherlands. All told, Mr Daniels brings 30 years of experience working in the chemicals industry to Lepidico, of which a large portion has been spent in the UAE. As general manager of operations for the region, he will now lead the implementation and operation of Lepidico’s Phase 1 chemicals process facility within the KIZAD.

On 20 April, Lepidico announced that it had appointed Benedicta Uris as general manager of sustainability and country affairs, Namibia. Ms Uris brings more than 20 years of experience in senior management sustainability roles within the natural resources industries in Africa and the UK to Lepidico. As general manager of sustainability for Lepidico, she will be responsible for designing and implementing the company's sustainability strategy, with an emphasis on environmental, social and governance (ESG) matters, reporting to the managing director, Joe Walsh. Based in Namibia, she will also be responsible for country affairs in the region.

Prior to joining Lepidico, Ms Uris spent the last five years as director of ESG with Dundee Precious Metals at the Tsumeb smelter in Namibia, leading a 65-strong team accountable for corporate social responsibility, health, safety, the environment, community and communications. The role involved the definition and management of corporate social responsibility (CSR) policies and goals and ensuring organisational accountability to itself, stakeholders, the government and the broader community. Prior to her time at Dundee, Ms Uris worked in various health, safety and environment (HSE) roles for Rio Tinto in Africa, including the Rossing mine in Namibia, and for Shell International Petroleum in both Namibia and the UK. She has a master’s degree in management with HSE specialisation from the University of Southern Queensland, an MBA from Steinbeis University, Berlin, an advanced diploma in project management from Cranefield College, South Africa and is currently studying an MSc in sustainable development at the University of Sussex.

The next day, on 21 April, Lepidico announced that it had appointed Timotheus (Timo) Ipangelwa as general manager of operations, Namibia. Mr Ipangelwa has 16 years of experience as a mining engineer. As general manager of operations for Lepidico in Namibia, he will lead the re-development of the two open pits at Rubicon and Helikon, as well as implementing Lepidico’s Phase 1 mineral concentrator. Most recently, Mr Ipangelwa was employed as mining head for the 120Mtpa Husab open pit mine in Namibia, leading a 520-strong team in a role that involved operational readiness for start-up, recruitment, commissioning and ramp-up to design capacity. Among others, his responsibilities at Husab included management of the earthmoving contracts to a value of approximately US$300m as well as effective, efficient planning, training and risk management. Prior to joining Husab, Mr Ipangelwa was mining manager for Skorpion Zinc, where he was responsible for mining and technical services.

In the light of the above considerations, we have made the following adjustments to our financial model of Lepidico:

Project

Lepidico’s DFS (see Developing to the (L-)Max, published on 29 May 2020) calculated a project NPV8 for the integrated Karibib mining and chemical plant operation of US$221m, or A$318m (4.9c/share on a pre-funding basis and 3.6c/share on a post-FY23 equity funding basis) at the current foreign exchange rate of A$1.4391/US$.

In our report Gold stars and black holes, published in January 2019, we calculated a mean enterprise value for companies with projects at the DFS stage of development of 30.9% of project NPV, ranging up to 133.5%. This alone would imply a pre-funding valuation for Lepidico of 1.5c/share, ranging up to 6.5c/share.

Company

Our valuation of Lepidico varies from our value of the integrated Karibib mining and chemical plant project in that it takes into account Lepidico’s 80% interest in the Namibian mine (but 100% of the Abu Dhabi chemical plant), which will give rise to both a tax-paying position in Namibia and a minority interest in the profits generated from mining operations. It also assumes ongoing corporate costs in the order of A$3.1m per year.

In our last note on the company, we calculated a value for Lepidico’s shares of 6.41c plus 0.23c for the value of an envisaged loan to the minority shareholders in the upstream Namibian operation to give a total valuation for the company of 6.64c/share. In the wake of the changes discussed above, our (discounted) valuation of Lepidico’s future (maximum potential) dividend stream to shareholders has now increased, albeit modestly, from 6.41c/share to 6.45c/share, rising to a peak of 8.58c/share on the cusp of the company’s first material dividend in FY26, as shown in the graph below:

To this valuation of 6.45c/share should then be added the value of Lepidico’s envisaged future loan to the minority shareholders in the Namibian mining and concentrating operation, which we estimate at 0.22c/share (fully diluted), to result in a total value for Lepidico’s shares of 6.66c/share (cf 6.64c/share previously), based solely on its Phase 1 project. A ‘bridge’, showing the major components in the evolution of the valuation from 6.64c/share to 6.66/share is provided in the graph below.

To this valuation of 6.66c/share may then be added an (updated) potential risk-adjusted 0.63–1.55c/share (fully diluted) for a conceptual 20,000tpa LCE Phase 2 plant, to take the total aggregate conceptual valuation to 7.29–8.21 cents per share.

Two of the principal risks to which our valuation of Lepidico is exposed are: 1) the long-term price of lithium hydroxide; and 2) the price at which it raises future equity. The effects of variations in the long-term price of lithium hydroxide from the one currently assumed (US$18,000/t) are shown in the table below:

Within this context, readers should note that our valuation of Lepidico, based on its Phase 1 Plant project alone, is significantly more sensitive to changes in the long-term price of lithium hydroxide than it is to changes in capex assumptions. For each 10% by which capex increases above our base case scenario, our valuation of Lepidico declines by 0.19c (or, initially, 2.8%), whereas for each 10% by which the lithium hydroxide price exceeds our base case scenario, our valuation increases by 0.50c (or, initially, 7.5%).

In the meantime, our financial model assumes that Lepidico will raise US$41.8m/A$56.5m (gross) in FY23 at a share price of 2.8c (cf 3.4c previously) and Exhibit demonstrates the sensitivity of our valuation to variations in this assumption, as follows:

Note that it is possible that Lepidico may choose to source all (or a portion) of this future equity funding requirement from a strategic partner after debt funding has already been secured, in which case it is possible/likely that a higher equity price than that currently prevailing could be supported. Alternatively, it may raise less than our assumptions suppose. Our financial model is currently calibrated to achieve a future (project) maximum net debt:equity ratio of 70:30, which corresponds to a (company) maximum net debt:equity ratio of 54:46. However, in FY22 Lepidico raised c A$7.4m via the exercise of warrants, which was not originally incorporated into our model and could conceivably contribute to the company’s equity funding requirements. In addition, the US Department of Energy will now perform due diligence on any projects to be located in the United States (complementing the work currently being undertaken on Lepidico by the US International Development Finance Corporation) which, if successful, could open up the possibility of debt funding up to 80% of the project’s total. Within this context, we calculate that: