The potential of vehicle electrification hinges on the supply and price of lithium. Essential for battery manufacturing, lithium is a key cost component in EV production. The history of lithium battery costs reveals a dramatic collapse due to a quick surge in lithium supply, leading to a glut in the market and causing turmoil for miners such as Lithium Americas Corp. (NYSE:LAC), which has seen substantial erosion of its gains over recent months.

After experiencing a shortage around 2021, lithium demand has dwindled following a surge in production, resulting in a massive price collapse.

This decline in lithium prices by approximately 85% from its late 2022 peak to today has left the prices back within the “glut” range, resembling the temporary 2020 declines in EV demand.

The breakup of Lithium Americas Corp. (LAC) into two companies at the end of 2023 – Lithium Americas Argentina (LAAC) has outperformed LAC due to its holdings in key mines operating in developed areas with lower breakeven prices. On the other hand, LAC’s ownership of the Thacker Pass lithium mine in Nevada has raised concerns.

LAC estimates that its Thacker Pass mine can potentially substantially increase global lithium production, contributing to the chronic glut in the market.

The Earth Has Far Too Much Lithium

Studies show that the earth’s lithium reserves are estimated at 88 million tons, a quarter of which is economically viable to mine, pointing towards an estimated supply lasting approximately 40 years. However, technological advancements in mining and exploration might indicate even greater lithium resources.

Lithium market forecasts predict an imbalance in supply and demand, possibly leading to a significant glut. This historical trend has caused stagnation for the lithium miner ETF (LIT) and its constituents.

The high supply elasticity of lithium, combined with low production costs and a historical chronic glut, indicates the likelihood of lithium miners facing continued oversupply rather than a shortage.

What is LAC Worth Today?

LAC’s Thacker Pass mine is projected to produce 40K tons of lithium in its first phase, with a total capacity of 80K tons per year over a 40-year lifespan. General Motors (GM) holds exclusive rights to the mine’s phase 1 production for ten years, potentially significantly impacting the global lithium supply.

Analysts expect global lithium output to increase to around 500K tons annually by 2030, with demand projected to be approximately 245K tons per year, further exacerbating the potential glut in the market.

Considering a long-term average price of $17.5K per ton of lithium carbonate, LAC’s projected operating profit from its estimated production could position it with a fair valuation of around $3.25B, with a potential doubling in value post its phase two completion, contingent on production estimates materializing.

Delving into LAC’s Financial Prospects and Valuation

In its recent quarterly report, LAC has showcased a net positive working capital of approximately $197M. Concurrently, the company’s total CapEx stood at $46M, hinting at an additional investing requirement of roughly $2.22B for its first project phase. Correspondingly, if we factor in the projected needs for the second phase, the total figures ascend to a staggering $3.75B. This substantial financing need entails a pivotal decision for the company, whether to opt for the sale of significant equity or utilize alternative external financing modes.

When we couple these financial requisites with LAC’s existing $896M market capitalization, the resultant “phase one” EV projection lands at approximately $2.92B. Ideally, this would yield a $430M EBIT or an “EV/EBIT” of around 6.8X. Shifting focus to the projected phase two needs and subsequent price estimations, the prospective EV stands at about $4.65B, generating an $860M EBIT, with an “EV/EBIT” projection of roughly 5.4X. It should be noted, however, that these estimations are fraught with uncertainty, primarily due to the fluctuating nature of lithium pricing, regulatory challenges, and the inherent pitfalls characteristic of mining endeavors.

Assessing the Numbers

On careful evaluation of the company’s projections and a concomitant consideration of a standard lithium price, it appears that LAC is reasonably valued at present. Despite the seemingly muted “EV/EBIT” targets of 5.4 to 6.8X, akin to prevailing industry standards, there looms the pervasive risk of these estimates falling short, particularly in view of LAC’s US-based production, which grapples with regulatory hurdles and cost inflation. Notably, the Thacker project, while beset by regulatory obstacles, is strategically positioned to leverage the burgeoning demand for lithium, a critical component in the shift towards sustainable energy sources.

In my assessment, the current valuation does not warrant an investment in LAC at its prevailing price point. While the company’s valuation could be justified in the event of a spike in lithium prices, the likelihood of a persistent glut in lithium supply suggests a “lower for longer” pricing scenario. Moreover, the valuation fails to adequately account for the myriad risks germane to the project, encompassing potential delays, cost overruns, and escalated operating expenses. Consequently, my stance on LAC gravitates towards neutrality, although a favorable outlook may transpire should the company tangibly demonstrate the project’s viability by 2024.