Around 10 a.m. ET on Monday, Jan. 14, I read a news flash that Molycorp (MCP) was up 2.2% on heavy volume. A breaking news story gave rise to another takeover rumor; the fact that the company was trading at a discount to its book value made it a prime acquisition target. The stock finished up $0.35, or 4.2%, to $8.78. According to the source of the story, Rare Earth Investing News:
Even after rebounding from a record low in November, Molycorp shares are still trading at a 19% discount to their book value, according to data compiled by Bloomberg. With the company currently trading well off its one-year high of $35.79 per share, many are of the impression that its currently depressed valuation could jump-start interest from potential takeover candidates ... The company's current valuation could very well result in manufacturers, such as Nissan (OTCPK:NSANY) putting in a bid, according to a Bloomberg article that cites information from Byron Capital Markets ... Robert W. Baird & Company's recent analysis outlines that after expanding its refining and processing operations with the purchase of Neo Material Technologies, Molycorp may even appeal to private-equity firms.
Takeover interest in Molycorp has surfaced as the bottom has fallen out of rare-earth prices, and there are no signs that the deterioration will abate anytime soon. As I wrote in "Molycorp: 'The Pain' Is Here," price changes for third-quarter 2012 vs. third-quarter 2011 were as follows:
- Resources (10% of revenue): Average prices for the primary products in this segment (cerium, lanthanum, neodymium, and praseodymium) declined 80% in comparison to third-quarter 2011.
- Chemicals and Oxides (45% of revenue): Average prices declined 13% vs. third-quarter 2011.
- Magnetic Materials and Alloys (34% of revenue): Average prices declined 23% vs. third-quarter 2011.
- Rare Metals (12% of revenue): Average prices increased 78% vs. third-quarter 2011, partially offsetting price erosion in other segments.
While the decline in rare-earth prices has ravaged Molycorp's revenue, its gross margin, and net income have fallen in lockstep:
- Revenue was $35.1 million, $396.8 million, and $527.6 million for 2010, 2011, and the last 12 months ended through Sept. 30, 2012 ("LTM12"), respectively. 2010 results occurred before the company's Mountain Pass mine was modernized.
- Gross margin: Sales minus cost of sales (excluding amortization and depreciation) as a percentage of revenue was -6.9%, 55.2%, and 22.3% for 2010, 2011, and LTM12, respectively. LTM12 gross margin reflects cost allocated to inventory acquired as part of various business acquisitions.
- The company achieved net income of -$50.8 million (2010), $117.5 million (2011), and -$63.4 million (LTM12). Even more alarming is that LTM12 results, after Mountain Pass was reopened, was were worse than the 2010 performance.
Molycorp's share price has declined as financial results have turned negative. The company's stock price has ranged from $35.79/share in April 2012 to $5.75/share in November 2012. Based on Monday's close, its market capitalization was $1.2 billion or a 26% discount to its $1.6 billion book value. As of Sept. 30, 2012, Molycorp had intangible assets of $479.2 million related to the acquisition of Molycorp Canada and Goodwill of $505.0 million. That said, the company was trading at 1.95x its tangible equity of $637 million.
In my September 2012 article, "3 Reasons Why Molycorp Will Not Be Acquired," I highlighted the company's valuation gap, valuation ceiling, and uncertain economic climate as impediments to a potential deal. The "valuation gap" between a potential buyer's and shareholders' expectations are still relevant, making a deal at this juncture improbable, if at all:
A buyer would value Molycorp based on its current operating performance, while management and shareholders would most likely want the benefit of past performance. The valuation gap between the two negotiating postures would be difficult to close.
The Big Picture
Though Molycorp may appear cheap in relation to its discount to book value, it is still trading at almost 2x tangible book. Given management's guidance that 2013 revenue and cash flow will be lower than anticipated, the company's operating losses may not subside anytime soon and its GAAP equity will most likely continue to decline. To put it bluntly, "the pain is here" for Molycorp and I advise investors to focus more on the company's fundamentals and less on market-moving noise.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.