MP Materials: Making Progress

Summary

• Shares in MP Materials have sold off sharply and are now down for the year.
• The company is continuing to execute its plans to re-shore the rare earth supply chain in North America and vertically integrate.
• Pricing concerns are short-term in nature, and MP Materials is well-positioned to benefit from the green energy transition over the coming decades.
• The company is trading near its lowest PE multiple since the SPAC merger.
• We believe the recent selloff is overdone, and the risk/reward is favorable at these levels.

temizyurek/E+ via Getty Images

Thesis

The stock of MP Materials (NYSE:MP) has sold off dramatically and is now down for the year. The company is making progress on their long-term vertical integration plans and pricing concerns are short-term in nature. We believe that the selloff in MP Materials is overdone and investors who are bullish on the company's future can use this as an opportunity to pick up shares.

Price Action

MP Materials' stock has had a rough 2023, with unfavorable pricing for rare earths pressuring their financials. The stock is trading at levels not seen since shortly after the SPAC began trading under the MP ticker symbol.

In our opinion the selloff is overdone and the company is well positioned to take advantage of long-term economic and societal trends, and is taking proactive steps to differentiate themselves within the marketplace.

Data by YCharts

Progress on Supply Chain Re-Shoring

MP Materials CEO James Litinsky had this to say about their vertical integration and re-shoring plans in their Q1 press release:

MP continued to advance the multiple streams of our business during the quarter despite weaker recent commodity pricing," said Chairman and CEO James H. Litinsky. "At Mountain Pass, we sustained strong production and sales volumes while simultaneously commissioning additional Stage II circuits and moving closer to producing separated rare earth materials. In addition, construction and engineering of our Stage III magnet facility continues at a rapid pace, bringing the restoration of the full magnetics supply chain closer to fruition."

For those of you who are new to the company, MP Materials is seeking to vertically integrate the rare earth/magnetics supply chain in North America. They are making continued progress towards this goal. The company used a slide in their earnings presentation to highlight new developments in each stage.

MP Materials Earnings Presentation

Re-shoring the rare earth and magnetics supply chain is of strategic importance to the United States. For this reason the government has been willing to provide support to MP Materials both directly with a $35 million contract, and indirectly through the passage of the Inflation Reduction Act.

In 2021 General Motors Company (GM) and MP Materials entered a long-term supply agreement, and in 2022 MP Materials began construction on their Texas rare earth magnetics factory and finalized their agreement to provide GM with rare earth alloys and magnets.

Over time there will likely be more companies that are also interested in securing a domestic source of inputs that are critical to their business such as rare earths. MP Materials vertically integrating in North America helps to differentiate themselves from competitors and makes them strategically important. This ensures that they likely continue to get government support and support from manufacturers based in North America who rely on the output of MP Materials.

Pricing Concerns

MP Materials saw a sharp decline in both revenue and net income for their first quarter.

MP Materials Q1 10-Q

This is due primarily to declining realized prices for rare earth products in the quarter.

MP Materials Earnings Presentation

One thing that concerns us is the 24% increase in production cost per REO MT. MP Materials should have the same scale as the year ago period because their production volume barely declined, and yet their costs increased. Investors should monitor this metric going forward for signs that the company is facing sustained cost pressures.

MP Materials Q1 10-Q

In their 10-Q MP Materials highlights the degree of impact that rare earth pricing has on their financial results. This sensitivity to price swings can also lead to sharp swings in the stock price over the short term, as pricing switches from periods of being high to periods of being low and vice versa.

MP Materials Q1 10-Q

The Long-Term View

MP Materials has a strong balance sheet and is well positioned to take advantage of long-term economic and societal trends. Chief among these trends is the green transition. MP Materials may have a decade plus of growth ahead of them. Their strategic positioning within the supply chain is being cemented by their vertical integration plans, and they will likely continue to have the support of the U.S. government and domestic businesses. As geopolitical tensions heat up MP Materials becomes more valuable. The same can be said about competition between automakers heating up, as they will be highly incentivized to secure supply and will compete with other firms for rare earth/magnetics capacity. Although nothing is certain, the future looks bright for MP Materials.

Valuation

The PE ratio for MP Materials has never been lower. Now represents a good time for bullish investors to take a position, as long as they can ride out the wild swings that are typical for many commodity linked companies. We believe that the risk/reward is favorable at these levels, but if the stock ran back above a PE of 30 we would view the company as being fully valued and look to sell.

Data by YCharts

Risks

A risk to this bullish thesis is the potential for rare earths to become less economically necessary or substituted with another input. This is a difficult risk to gauge but the prevailing wisdom is that demand for rare earths will increase over time due to the green energy transition and population trends. While this long-term increase in demand may not materialize, we believe the risk that demand falls off a cliff is low.

Another risk is that low-cost producers flood the market which would further pressure pricing and the profitability of MP Materials' business model. While this remains a possibility, the company is doing well to differentiate themselves through vertical integration and proximity to their North American end customers. Their strategic importance to the United States will give them a leg up over competition. It's also possible that vertical integration allows them to compete on price with even the lowest cost producers.

We view the overall risk/reward as being favorable at this valuation, but commodity linked companies generally carry risks that are different than a "typical" business and consequently require more attention from those invested in the stock.

Key Takeaway

MP Materials' stock has been beaten down but the company is well positioned for the long-term. Their eventual vertical integration/re-shoring efforts and domestic importance are key differentiators that will drive value in the coming years. Current prices represent a buying opportunity for investors who are bullish on the company.

Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, but may initiate a beneficial Long position through a purchase of the stock, or the purchase of call options or similar derivatives in MP over 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.

Comments

[gbfraser]

Regrettably, I have to say that your article is substantially incomplete. It misses even mentioning two issues, either of which might turn out to be crucial to the ultimate commercial success of MP and its stock. First, you don't discuss the composition of the basket of rare earths that MP produces. Without going into too much detail, MP's basket is much more composed of the "light" REs than the "heavy" REs. It's the "heavies" where the real scarcity and value lie. In its post-bankruptcy incarnation, MP has been able to derive more revenue from the heavies than pre-bankruptcy; however, it's still probably fair to say that its basket is predominantly light. Secondly, you don't mention at all the special relationship that it has with the Chinese related company which buys most or all of its output. This relationship could become crucial for any number of reasons, and there have been some allegations over time that the transfer pricing mechanism was not reasonable which creates potential taxation and transparency risks. While I have no current view on the current investment merit of MP, for those who want to speculate on the creation of a North American rare earth supply chain, the recent news from METC about its heavy-rich RE deposit seems like an interesting speculation. Of course, it's very early days and the information is limited, so caveat emptor!

[gcbrock44]

@gbfraser Maybe the "heavies" are more scarce but it's the NdPr (light RE) that is needed to make the magnets for EVs. And EVs are the future that we're all betting on as MP investors. One additional fact that most seem to miss is that MPs ore content is much higher than most RE deposits found around the world, so their inherent mining costs will be lower as well. And as with any commodity the low cost producer wins in the end. Especially, ones that are vertically integrated.

[gbfraser]

@gcbrock44 I'm not sure why you think MP's ore is rich. The graphic on this press release, and others that I have seen, would argue otherwise.

finance.yahoo.com/...

[bobsar]

Isn't iron going to replace RE for batteries. That might be a bit of a change.

[Jack Harkness]

@bobsar iron replaces nickel and cobolt in batteries. RE is used in motors. Tesla has a new motor that doesn't use rare earth's, but that doesn't mean the demand won't still increase.

[Burt Rothberg]

@Jack Harkness Tesla is going to use a non-RE motor in their new sub-25K version. It will have efficiency and range tradeoffs, but they are working to a price.