JP Morgan today, Sept 20, 2011, downgraded Molycorp (MCP) from overweight to neutral. The market reacted by selling off one billion dollars of MCP’s market capitalization as the share price lost 20% of its value in just one day. The other two rare earth juniors listed along with MCP on the AMEX, Avalon Rare Metals (NYSEMKT:AVL) and Rare Element Resources (NYSEMKT:REE) each lost around 10% of their market capitalization in the same blood bath.
JP Morgan’s (JPM’s) analyst further pronounced that ”We continue to believe that most announced rare earth supply projects beyond Molycorp and Lynas (OTCPK:LYSCF) will not enter the market on schedule or if ever due to financing and permitting hurdles.”
JPM is wrong about “most announced rare earth supply projects beyond Molycorp and Lynas” not entering the market, if ever, on schedule due to financing and permitting hurdles. The right sized mines with proven metallurgies and the best mix of critical rare earths will enter the market on schedule. JPM has been using its client, Molycorp, as a benchmark all along and this has blinded the financial institution to the realities of the rare earth market and to the requirements for an ideal producer, which are the lowest costs, the best mix of critical rare earths, and the right size-a size small enough to be able to supply the market and remain profitable even with reduced production (It’s called having a low overhead and a low breakeven in case those who have never run a business don’t know).
JPM is basically saying that even though it has downgraded Molycorp to neutral it, Molycorp, is still the only game in town and you can still buy it but don’t expect it to go over $66/share. Thus sayeth the same JPM that was a major player in bringing both MCP and LYSCF to the market and reaping more than $50,000,000 in fees without any real risk to itself.
The great fear among the rare earth juniors was that Molycorp would crash and burn taking them down with it. This crashing and burning now seems underway but only to those rare earth juniors that sought out listings on the AMEX have really suffered anything that cannot be attributed to generally lousy overall market conditions.
I urge everyone to decouple Molycorp from the rare earth junior sector in their portfolios for the reasons that JPM and I give below.
I have been told that the JPM mining analyst who issued JPM’s coverage of MCP today is a nice guy. Be that as it may his job is to advise JPM’s trading clients not to spin for Molycorp. He is doing his job by pointing out that:
1. JPM’s analysts and Molycorp’s planners overall have analyzed recent rare earth price increases poorly, or not at all, as to their root causes, which now seem to JPM to be primarily due to the hoarding for speculation of rare earth materials within China rather than the massive supply deficits spun by Molycorp from a widely used “chart” that supports the Molycorp story. This is correct; the prices of the rare earths in China are much lower than those quoted by Metal-Pages and used by JPM and Molycorp,
2. Molycorp’s business model must now, as it always should have, be judged by performance to objective. This requires that not only consistent objectives but also a timeline and benchmarks for reaching those objectives be established and, if a benchmark is missed, it, the miss, must be clearly due only to a reasonably unforeseeable consequence and, at the same time, missing the benchmark must not place the company in a loss making position, which will continue even if it recovers adherence to the timeline.
Judged in this way, which is how lenders and corporate bond buyers judge any company seeking strategic or credit line financing, Solyndra, for example, never would have received taxpayer guarantees. Molycorp also doesn’t qualify by the performance to objective metric (as I discuss below), and
3. MCP has key personnel the departure of any of which would derail MCP’s business model says JPM’s analysis.
What the JPM analyst has not pointed to are:
1. MCP’s sharp recent deviations from its original business model, as delineated in its IPO filing with the SEC. These changes included most prominently taking on the ownership and management of a company with 550 employees in a foreign country that is running a business with an output that MCP had stated that it, Molycorp, could and would produce with less than 10% of that number of workers. Note that Molycorp has even announced that it will ship ore concentrates to Estonia for processing. Besides not asking why material must be shipped 7,000 miles from Mountain Pass to Tallinn, Estonia, for processing that we were assured was best understood by Molycorp from its direct experience with its own world class facility now being enlarged and improved to a planned enormous (largest in the world) capacity JPM also forgot to ask how that shipping could be done economically and legally without extracting the metal values from the ore concentrate and removing thorium and uranium from them until a level was reached that would allow intra-California shipping, export from the US, traversing of the Panama canal and import into Estonia. I might point out that Chinese processors who are short feed stock are just as close to Mountain Pass as is Estonia and that they are scouring the world for feedstock, but that feedstock cannot be imported into China unless it meets Chinese standards for radiation levels,
2. JPM also didn’t touch on the repudiation by Hitachi, announced as a suspension of negotiations, of Molycorp’s spin on a Hitachi-Molycorp magnet producing joint venture, which from the very beginning was a low level supplier – manufacturer relationship from Hitachi’s perspective not a merger of equals as Molycorp and its backers such as JPM spun it, and
3. JPM barely touched on the termination of an investment offer in Molycorp by Sumitomo, which Molycorp spun that it no longer needed anyway since high prices insured profitability and in any case it was fully funded! Yet the fully funded Molycorp continues to seek Dept. of Energy loan guarantees.
The JPM coverage today got one thing very wrong. There are rare earth junior mining companies that have very advanced projects with regard to financing and permitting and many of these are well into the completion of their metallurgies and of their marketing of their production to end users.
Additionally there are two new groups of rare earth juniors:
1. Polymetallic deposits where rare earth concentrates can be produced at very low cost as byproducts of other profitable production, and
2. Deposits resembling China’s absorption clays where rare earth values can be extracted very simply and in which like the Chinese deposits heavy rare earths are significant components of the deposits.
I wrote about most of the best of the juniors that are on time and on target last week in a piece published by The Gold report at www.theaureport.com/pub/na/10875 as “Jack Lifton; Profit From Really Critical Rare Earth Elements.” I stand by my selections in that article.
I do think that if Lynas can overcome the political issues in Malaysia it will come on line as the first large scale producer of high quality light rare earth forms, and I do think that Great Western will be producing a mix of critical rare earths for its own magnet alloy operations according to its published time table. However Great Western cannot with present resources provide enough dysprosium or terbium to the market to fuflfill current or projected demand.
Some of the juniors I mention in my Gold Report Interview will come into prodcution to fill the gaps in demand for neodymium, europium, terbium, dysprosium, and yttrium that exist already or will shortly.
The key missing component in the non-Chinese supply is the lack of separation and refining facilites for the rare earths outside of China. Until there are such facilities producers without them or without access to them can only providing feed stock for Chinese refiners.
Molycorp could fool all of us and accelerate the construction of a separation and refining complex in California and easily construct it in a modular fashion in order to separate and refine rare earth ores as a jobber as well as a producer. That would have been a great and profitable business and would have been my choice for the property.
Disclosure: I am long OTCPK:GWMGF.