Backdoor U.S. Lithium Play: NACCO

Sep. 27, 2021 9:13 AM ETNACCO Industries, Inc. (NC)LAC, LAC:CA14 Comments9 Likes
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Paul Franke
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Summary

  • NACCO will be the main mine builder and operator of Lithium America's Thacker Pass in Nevada.
  • The company is exiting the coal mining business over time, in favor of more environmentally friendly, higher-growth operations.
  • Profitable operations (12% net profit margin on trailing results) and a solid balance sheet are noteworthy.
  • The stock may be mispriced as a dying coal business, as other segments will provide the bulk of sales and all the growth into 2023-24.
  • Underlying technical strength is evident on NACCO's chart.

Design concept of coal mining industry.
Evgeny Gromov/iStock via Getty Images

NACCO Industries (NYSE:NC) is a company formerly focused on coal mining and production, undergoing a major revamp in business operations favoring greener solutions - lithium mining, basic rock quarrying for the construction industry, and environmental reclamation efforts for others. If you think about it, the rapid growth coming in lithium development globally, expanding infrastructure spending in America, and a quickly escalating clean environment push may lead to dramatic growth in company sales and profits over the next 2-5 years. And, you can purchase this future growth name today, while it's still valued as a dying coal company! This disconnect in outlook may mean NACCO is completely mispriced for smart long-term investors.

The company just announced a rebranding effort in July, as its units transition from a small coal company with less than 500 employees, to an underfollowed ESG growth selection.

Image Source: Company Website

NACCO/Lithium Americas Update

The main fundamental business attraction for me, NACCO is effectively the mining subcontractor for the Lithium Americas (LAC) Thacker Pass development in Nevada. I wrote an article several months ago here about Lithium Americas' bright future producing lithium for New Age batteries (especially electric vehicles) in the U.S. and South America. Thacker Pass has most of its Nevada projected permitted, with several fanatical groups fighting in the courts to stop the creation of a mine. However, judgements the last month have been in Lithium Americas favor, and most everyone agrees the U.S. needs to mine lithium domestically to feed fast-growing green energy solutions. Thacker Pass is expected to be in operation at least 20 years, and stands as one of the largest lithium deposits inside the U.S. that can be economically mined.

What the average LAC investor may not understand is NACCO has been hired to do the heavy lifting in terms of building the infrastructure and operating the earth digging at Thacker Pass. If both phases of the mine plan are executed the next 2-3 years, hundreds of millions in annual sales could be coming in the not-too-distant future. Plus, if the Thacker Pass partnership works out well, other lithium mines in early development could come calling.

Taken from Lithium Americas press release in September 2019:

Lithium Nevada and Sawtooth Mining LLC ("Sawtooth Mining") executed a long-term contract mining agreement (the "Mining Agreement"). Under the Mining Agreement, Sawtooth Mining will act as Lithium Nevada's contract miner for Thacker Pass. By engaging with Sawtooth Mining and The North American Coal Corporation ("North American Coal") during project development, Thacker Pass will be able to leverage over 100 years of sedimentary mining experience and one of the best safety records in the industry, which may help to further de-risk Project execution.

Sawtooth Mining has exclusive responsibility for the design, construction, operation, maintenance and all mining and mine closure services of the Thacker Pass surface mine which will supply all of Lithium Nevada's lithium-bearing ore requirements. North American Coal, through its many subsidiaries, operates nine surface coal mines and provides services at twenty aggregates quarries in the United States, with annual total deliveries exceeding 70 million tons in 2018.

The Mining Agreement is effective immediately and Sawtooth Mining will play an active role assisting Lithium Nevada with Thacker Pass' permitting and development. In addition, Sawtooth Mining will provide Lithium Nevada i) US$3.5 million (of which, US$1 million has already been received) and ii) engineering services related primarily to mine design and permitting. During construction, Sawtooth Mining has agreed to fund up to US$50 million to procure all mobile mining equipment required for Phase 1 operations. Excluding these Sawtooth Mining investments, Lithium Nevada bears all costs of mining and mine closure.

Lithium America

Image Source: Lithium America's Thacker Mine - Nevada Map

Lithium's price has been skyrocketing again during late summer. Prices have DOUBLED since July. Expert estimates are calling for huge shortfalls in supply vs. electric vehicle battery demand in 24-36 months. You can reread my LAC article with additional supply/demand data, if you like. Below is a 5-year chart of prices in China (Yuan per ton), the main marketplace today.

Lithium Carbonate

Image Source: Trading Economics Website

Outlook Beyond Coal

NACCO is selling one of its coal assets located in North Dakota during 2021, and several coal-burning electricity providers have notified the company of coming closures. Effectively, the enterprise is shuttering coal mines and related facilities over time, while transitioning into other earth moving and reclamation fields with its one-of-a-kind experience and expertise. From the June Quarter Earnings Release:

In the second half and for the full year of 2021, the Company expects coal deliveries to decrease moderately from the respective prior year periods based on current expectations of customer requirements.

Despite the anticipated decrease in tons delivered, the Company expects operating profit for the Coal Mining segment to increase significantly in both the second half and for the full year of 2021 due to the anticipated cash receipt of approximately $24 million related to the termination of the Falkirk and Bisti customer contracts previously discussed. In addition, the fourth quarter of 2020 included charges totaling $4.6 million that are not expected to reoccur. Excluding the impact of these items, operating profit in the second half and for the full year of 2021 is expected to decrease from the respective prior year periods. The decrease is primarily attributable to substantially lower earnings expected at Mississippi Lignite Mining Company and reduced earnings at the unconsolidated Coal Mining operations.

Another business model change to consider is NACCO may be a significant indirect beneficiary of increased U.S. government spending on infrastructure and construction. The $1 trillion bipartisan infrastructure deal, if passed in coming weeks, will fund numerous new road and airport construction projects requiring sand, rock and gravel inputs. The same Q2 press release explained the rapid growth in NACCO quarry revenues:

During the first quarter of 2021, North American Mining entered into a 15-year mining services contract with a new customer at a limestone quarry in Central Florida. North American Mining is operating a smaller dragline at this quarry for the next two years while it relocates and commissions a larger dragline that will increase production capacity. Deliveries are expected to be approximately 1.5 million tons annually once mining commences with the larger dragline, which is anticipated to occur in 2023. North American Mining also amended a contract with a current customer to operate an additional dragline at an existing limestone quarry in Florida. Early in the second quarter of 2021, North American Mining entered into a one-year mining services contract with an existing customer for a sand and gravel quarry in Indiana. This customer, which is among the largest aggregates producers in the United States, is hopeful that this new quarry will operate for multiple years providing aggregates for a multi-year transportation infrastructure project near Indianapolis. Deliveries are expected to be between 0.6 million to 1.0 million tons during the term of the agreement. North American Mining anticipates that these new or revised contracts will be accretive to earnings in the second half of 2021. North American Mining has a substantial pipeline of potential new projects and is pursuing a number of growth initiatives that, if successful, would be accretive to future earnings.

In late July 2021, North American Mining signed two contracts with a new customer to perform all mining operations at two sand and gravel quarries located in Texas and Arkansas. The initial term of each contract is two years, and one of the contracts automatically extends an additional two years provided North American Mining is not in default under that contract. This customer is a leading supplier of construction materials in North America. These contracts are expected to be accretive to future earnings, but due to the timing of contract execution are not included in the Company's discussion of outlook for the 2021 second half or full year.

North American Mining originally forecasted capital expenditures of $10 million for 2021. North American Mining now expects full-year capital expenditures to be $25 million, with approximately $19 million expended in the second half of 2021. In addition to capital expenditures for the acquisition, relocation and refurbishment of draglines, forecasted capital expenditures now include the acquisition of other mining equipment to support the expansion of contract-mining services beyond North American Mining's historical dragline-oriented model.

Trading Below Tangible Book Value

Coal asset sales will result in $24 million in cash received later in 2021. This sum will help finance expansion in growth-oriented, more environmentally friendly operating activities.

I currently rank the balance sheet with an "A" grade. The company held only $22 million in debt and $158 million in total liabilities at the end of June. Measuring these IOUs against $85 million in cash (not counting the $24 million in payments coming shortly) and $189 million in current assets (adding receivables and inventory to cash), NACCO sports a liquid, flexible and conservative balance sheet ready to fund future growth.

NACCO Balance Sheet

Image Source: Q2 2021 10-Q

The company has a tangible book value of $282 million vs. a total equity market capitalization of $195 million at $27 per share. Who would want to own a small coal company today, when coal is being phased out of existence? That's the Wall Street view of NACCO, ignoring the major changes in its business model taking place.

How Should We Value NACCO?

The price you are paying for its exiting coal business is the same now as a few years ago. If you didn't know anything about the business model transition of 2019-21, NACCO can still be argued as having sound fundamental value at $27 a share. Price to trailing earnings, sales, cash flow, and book value are not much different than 5-year averages.

NACCO stock valuation

Honestly, most coal companies are reporting operating losses in 2021. So, NACCO compares well with the leading coal enterprises for net profits. However, the stock's valuation is incredibly low vs. the leading lithium producers reporting profits today, and substantially undervalued vs. the sand and gravel quarry sector. Below is a chart of enterprise value (total equity + debt - cash assets) vs. EBITDA (earnings before interest, taxes, depreciation, and amortization) against a variety of current and future peers. My message for investors: if you bought out NACCO and paid off all debt, its base income generation could be a bargain today. A more diversified operating business in 2022-23, transitioning to strong growth away from coal thereafter, could be quite valuable.

NACCO vs. peers valuation

Technical Momentum

Over the last week, one of my proprietary sort formulas has highlighted NACCO as having limited overhead supply, with steady buying trends. If investors keep purchasing shares this week and next, something of a breakout move could be approaching. Its equity price peaked at $30 last December, and a series of higher lows have stair-stepped price since March. A quote above $29 may represent the beginning of a sizable upmove, as investors begin to realize the new NACCO is not a coal company.

Below you can review a 12-month chart of daily price and volume changes, alongside some of my favorite momentum indicators. The Accumulation/Distribution Line, Negative Volume Index, and On Balance Volume indicators are in long-term advances. The last few months have been particularly bullish. Basically, consistent buying during each intraday session; strong demand on lower volume, quieter days; plus, outsized purchasing power on high volume days are now part of the technical picture since June.

NC stock technical momentum

Final Thoughts

Expanding technical momentum is an important factor for me to consider NACCO in my portfolio. I already own shares in Lithium Americas, and am planning to buy NACCO soon. With lithium prices bolting to the upside in the last couple of weeks, these two names may prove to be solid multi-year gainers going into 2023 (maybe even multi-baggers). I am modeling the "potential" for $500 million in revenues and $50+ million in earnings annually by 2024. Given a valuation of 2x sales and 20x EPS, this result would be equal to a stock quote near $140 per share, assuming no share dilution appears to fund its growth endeavors.

What could go wrong? Two major risks stand out for NACCO Industries. My primary concern is the Thacker Pass project is delayed by U.S. courts. The second risk is lithium quotes collapse. Can short-term issues stop the relentless ramp in lithium demand? Perhaps, but the old saying "you cannot stop progress" may apply to the long-term direction of green energy development. And, lithium is far and away the lightest metal, with conductive traits for modern batteries. My thinking is the argument for greater lithium mining in America has become an almost unstoppable refrain, with global warming and fossil fuel pollution in the news daily.

A final risk to consider with a NACCO investment is the real-world chance of a large bear market on Wall Street. Record overvaluations in U.S. stocks are nothing to ignore. Spiking inflation rates (from excessive central bank money printing to combat COVID-19 disruptions) will lead to rising interest rates and a slower economy into 2022. If we do experience a 20-30% drop in U.S. equity averages, extra selling pressure will also be part of the NACCO supply/demand balance setup. Will price succumb to general liquidations or will the share quote be able to fight a market downtrend are open questions. You can always establish a stop-sell order around $23-$24 a share, to limit losses. I do not expect a drop under $23, based on the chart.

Thanks for reading. Please consider this article a first step in your due diligence process. Consulting with a registered and experienced investment advisor is recommended before making any trade.

This article was written by

Paul Franke profile picture
16.34K Followers
Nationally ranked stock picker for 30 years. Victory Formation and Bottom Fishing Club quant-sort pioneer.....Paul Franke is a private investor and speculator with 35 years of trading experience. Mr. Franke was Editor and Publisher of the Maverick Investor® newsletter during the 1990s, widely quoted by CNBC®, Barron’s®, the Washington Post® and Investor’s Business Daily®. Paul was consistently ranked among top investment advisors nationally for stock market and commodity macro views by Timer Digest® during the 1990s. Mr. Franke was ranked #1 in the Motley Fool® CAPS stock picking contest during parts of 2008 and 2009, out of 60,000+ portfolios. Mr. Franke was Director of Research at Quantemonics Investing® from 2010-13, running several model portfolios on the Covestor.com mirror platform (including the least volatile, lowest beta, fully-invested equity portfolio on the site). As of May 2022, he was ranked in the Top 5% of bloggers by TipRanks® for stock picking performance on positions held one year. A contrarian stock picking style, along with daily algorithm analysis of fundamental and technical data have been developed into a system for finding stocks, named the “Victory Formation.” Supply/demand imbalances signaled by specific stock price and volume movements are a critical part of this formula for success. Mr. Franke suggests investors use 10% or 20% stop-loss levels on individual choices and a diversified approach of owning at least 50 well-positioned favorites to achieve regular stock market outperformance. The short sale of securities in overvalued, weak momentum stocks as pair trades and hedges is also a part of the Victory Formation long/short portfolio design. "Bottom Fishing Club" articles focus on deep-value candidates or stocks experiencing a major reversal in technical momentum to the upside.
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Disclosure: I/we have a beneficial long position in the shares of LAC either through stock ownership, options, or other derivatives. 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.

Additional disclosure: I may initiate a long position in NC over the next 72 hours.

This writing is for informational purposes only. All opinions expressed herein are not investment recommendations, and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisor capacity and is not a registered investment advisor. The author recommends investors consult a qualified investment advisor before making any trade. This article is not an investment research report, but an opinion written at a point in time. The author's opinions expressed herein address only a small cross-section of data related to an investment in securities mentioned. Any analysis presented is based on incomplete information, and is limited in scope and accuracy. The information and data in this article are obtained from sources believed to be reliable, but their accuracy and completeness are not guaranteed. Any and all opinions, estimates, and conclusions are based on the author's best judgment at the time of publication, and are subject to change without notice. Past performance is no guarantee of future returns.

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