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Cobalt 27 To Capitalize On EV Trend

|Includes: Apple Inc. (AAPL), CBLLF, NOK, TSLA
Summary

As disruptive technology trends begin to gain more favor among investors, it becomes increasingly difficult to find prospective companies with reasonable multiples and value.

Cobalt 27 (TSXV: KBLT) is one such company that follows the EV trend and offers potentially explosive growth at a discounted share price.

This article elaborates on the history of EVs, particularly emphasizing on the narrative's strength and cobalt's fundamental role in that narrative.

Cobalt 27 share price remains heavily disconnected from its market, considering its healthy balance sheet and the geopolitical concerns regarding mining operations in the DRC.

Four main catalysts/caveats for EV adoption. Ramp-up of manufacturing efficiency and charging networks. A healthy environment surrounding government support for EVs. Continued research and developments. The continuation of public procurement plans.

--Introduction--

        The successive improvements and adoption of EVs can be accredited to the rapid developments in battery technology. EVs would not be gaining momentum if it wasn’t for powerful batteries that can delivery staggering power and energy efficiency rates. Lithium batteries for EVs have been undergoing various development stages in order to overcome costs. Battery prices have been declining thanks to increasing production and interest in the industry, but there are still many worries over the supply and demand economics for some primary battery minerals.

        The most pressing mineral being "Cobalt" as it is relatively rare and currently in short supply. Cobalt is a by-product mineral primarily derived from copper and nickel mining. It’s unique in the fact that it can be magnetized, has a high-energy density, and most importantly has a high-temperature tolerance. For these reasons, Cobalt has become a popular choice for being a key component in NMC and NCA battery cathodes. These batteries are phasing out older style lithium iron phosphate batteries and have become the choice for most EV manufactures.

NMC Battery

                                    (pg64, IEA 2018 outlook)

          There is one company that is currently poised to profit from the rising demand for battery minerals in the EV market and that company is Cobalt 27 (TSX-V: KBLT). Cobalt 27 is an electric metal investment vehicle that offers a unique investment strategy away from pure service and manufacturing, cobalt serving as a proxy to speculate on the EV market momentum. 

         Like most commodities, the demand for cobalt is dependant on various external factors that can affect the EV market. This article will focus on four key elements that will drive future demand for cobalt: EV narrative strength, competitive advantage, government support, and the cobalt supply chain. 

         The first focus is the actual strength of the EV narrative, emphasizing the deep interest and history of EVs. The article briefly touches on the history of Evs to explore some possible misconceptions about the industry. Market sentiment is a force that influences trends, so it's important to determine that the EV market is not just another fad.

        The second focus is on EV's competitive advantages over alternative energies. EV's battery and drive systems must be more efficient than other energies out there in order to gain market dominance.

        The third key element is government support. Most EV sales to date have been heavily propelled by government incentives making EVs a more attractive purchase. Strong government policies are crucial in order to educate the market about the benefits of owning an EV.

         The last key element this article highlights is the cobalt supply chain. The price of cobalt is closely linked to developments in the EV market, but even more so the price of cobalt is influenced by potential shortages and supply chain issues. 

--A Brief History of EVs--

        The EV narrative is long and complicated dating back to the 1800s. The early 1900s, the American market for EV’s vehicles was bustling accounting for nearly a third of all vehicles on the road. This was in part due to EVs not having any of the problems associated with steam and gasoline vehicles; they were quiet to drive, easy to start, and were less pollutant. Evs were the most popular choice among urban residents at the time because there was a lack of roads connecting cities to each other. So, most residents had no plans to venture outside of the city. There was a high degree of interest in the electric car. Many prominent inventors such as Thomas Edison and Ferdinand Porsche firmly believed that electric vehicles were the superior technology. So, what was the deciding blow that caused the demise of EVs?

New York Times EV Publications                           1911 New York Times EV Publication )

        It all started with the rise in popularity of Henry Ford’s model T. EV’s price could not compete with gasoline-powered vehicles after Henry Ford revolutionized the mass production assembly line. Not to mention, at the time, ICE vehicles had a much greater range, oil was cheap and abundant, the electric grid was in its early infancy, and improved roads encouraged people to travel further distances. Furthermore, a series of tough economic times made consumers less environmentally conscious and supportive of alternative energies. By 1935 these cumulative conditions caused EVs to enter a long period of dormancy.

--A Renewed Interest In EVs--

In 1999 GM debuted their first electric car known as the EV1. It was initially a marketing experiment limited to “lease-only” agreements in San Francisco, Sacramento, California, and a similar program in Georgia. There was a push to produce the first mass-market electric car as various states and countries were passing mandates for “zero-emission vehicles”. The most notable state was California with the California Air Resource Board initiatives. Despite GM’s (NYSE: GM) almost eerie and overly obscure ad campaigns, (GM EV1 TV Commercial 1) the EV1 managed to garner many followers and a waiting list of potential customers. The reason why the EV1 remains a historical relic is that GM, along with other car manufacturers, at the time were not committed to pursuing this new market. The authority of “zero-emission vehicle mandates” was severely slackened when an alliance formed between the major car companies to litigate the initiatives. They succeeded and concessions were put in place to allow ICE vehicle sales to continue as long as a percentage of vehicles sold were hybrids. Despite protests, all remaining EV models on the market were repossessed by the major car companies and effectively destroyed. Death Of EV1

        Fast-forward 19 years and the future of EVs have never looked so promising. For instance, Tesla’s (NASDAQ: TSLA) model 3 managed to become one of America's best grossing sedans, surpassing previous sale records, while still selling at a premium price relative to peers. Couple this with rapid advances in the industry; EV’s now offer competitive range, faster-charging speeds, autonomous features, and more affordable pricing.

Tesla Model 3 August Sales

                                               (source)

Tesla Monthly Unit Sales (2018)

                                                (source)

        For many, it seems sudden and there’s some who speculate saying, “This is just a fad that will surely pass as fast as it appeared.” There are many variables that will affect the adoption rate of EVS, but the current growing market for EVs is not some spontaneous event or mirage. These notions are the reactions of what some perceive the near “cult-like” following in regards to the more recent disruptive EV manufacturers such as Tesla. It’s these devoted followers who reinforce the high demand for such products. People were saying the same things about apple before the prestigious tech company virtually replaced Nokia(NOKIA) and Motorola in market share. It should be noted that the birth of Tesla was the realization of a market that has been experiencing a paradigm-shift since the early 2000s.

--Why the argument for BEV’s instead of FCEV’s?--

                  (BEV's Competitive Edge) 

        Battery Electric Vehicles v.s Fuel Cell Electric Vehicles has been a long-standing debate between industry veterans. It should be noted that both serve to compliment the EV initiative. Both energy sources have their merits; however, for an alternative energy source to replace traditional internal combustion engines, the energy source must be more effective at converting power, improved practicality/convenience, and, most importantly, it must be currently economically viable/sustainable.

         In the first category, both BEV’s and FCEV’s have proven to be more effective at converting energy to a vehicle’s drivetrain. Conventional ICE vehicles only covert about 20% of the energy stored to the wheels. For comparison, BEVs convert power to the wheels at an 80% efficiency. In terms of practicality, BEV’s and FCEV’s both have their own advantages. You can charge your BEV at home for shorter commutes and not have to worry about taking detours to find a hydrogen pump. On the other hand, FCEV’s have the added benefit of faster refueling times. Where BEV’s differentiate from FCEV’s is that BEV’s are more economically sustainable. The infrastructure for BEV technology has benefited by already undergoing its growth curve and development for the past 10 years while FCEV’s have lagged behind. The most considerable argument for BEV’s is that their currently more power efficient by a wide margin. Due to the volatile nature of hydrogen, more energy is needed to produce hydrogen. There is a greater efficiency loss than BEVs when producing hydrogen through electrolysis and there is a greater efficiency loss in storing hydrogen.

                                                (source)

--Further Catalysts for EVs?--

        According to data provided by the IEA (Internal Energy Agency), their conservative estimate is for the EV market to grow to 220m units sold by 2030. That represents a CAGR of about 45%. That is on their conservative side representing a 30% global market share. Data has been reflecting that year-over-year sales of EV’s have been increasing. Prior to 2017, sales achieved 54% growth from the previous year. These are some lofty numbers and it’s easy to be infatuated by such claims. So, let’s take a closer look at some of the outlined catalyst for the EV industry.

        In order for everything to materialize to reach a 30% market share by 2030, a coordinated effort has to be made to support the industry. This primarily includes:

  1. the continued ramp-up of manufacturing efficiency and charging networks
  2. the continued support of government EV policies
  3. the continued investment into research developments.
  4. the continuation of public procurement plans.

 Company Investments

       As it currently stands, companies are drastically ramping up their EV production. Majority of car companies are now channeling a significant amount of their resources to their EV production. Tesla has been able to effectively ramp up their model 3 operations to 1000 models a day. VW is working on their first large-scale EV factory that should support 300 000 models per year. Ford is expected to spend up to 11 billion into the industry. Just recently GM announced the closure of several historic plants, part of a restructuring plan to allocate more resources into EVs. Daimler is trying to become the forerunner in light-duty commercial vehicles. Toyota expects by 2025 every Toyota and Lexus will either be EV only or Hybrid.

     Every manufacturer is scrambling to mobilize their own electric fleets and commercial vehicles. As every car manufacturer enters the EV market, competition will increase driving more investments as each manufacture risks losing valuable market share.

     There’s also the increased margins that make producing BEV a worthwhile investment. Currently, Tesla’s model boasts a GAAP and non-GAAP gross margin of around 20%. For comparison, Ford averages a gross margin of 10% on its vehicles. Considering how ford has already matured as a car manufacturer while Tesla is still growing, the model 3 has the potential to become one of the most lucrative vehicles on the market.

"Electrified vehicles, which are effective for economical consumption of fuel and promoting usage of alternative fuels, are indispensable in helping to solve current environmental issues. …Toyota aims to reduce global average new-vehicle CO2 emissions by 90 percent from 2010 levels. Today’s announcement is the main pillar of a mid-to-long-term initiative to achieve this challenge."  source

Charging Networks

      A strong charging network infrastructure is essential to the adoption of EVs. Although you can always charge your vehicle at home, there will be a need to have accessible public charging stations in dense areas of the globe. There are many competitors in this field but currently, two major players have been Tesla and Charge Point. Both companies are rapidly expanding the reach of their charging network with a central focus on America, Europe, and China. Tesla hopes to double the count of its superchargers by 2019 which is currently at over 11 thousand.

Tesla Supercharger Network (Supercharger | Tesla Canada)

Charge point has been receiving considerable investments from well-established firms and companies to expand their network reach.

“To date, ChargePoint has raised more than half a billion in funding to enable the most comprehensive smart EV charging network around the world. The company’s latest fundraiser comes just over a year from the Series G funding round that fueled ChargePoint’s introduction in Europe. In just 18 months, ChargePoint has established a team to support pan-European expansion. In addition, ChargePoint now offers a comprehensive suite of charging solutions that are being deployed across the region.” (source)

     There are many advantages to transitioning fleet operations to online networks. The data integration and analytics these online networks house can help to reduce traffic congestion and improve fleet efficiencies. This emphasis on real-time data and advanced autonomation is why so many companies- especially chip manufacturers (apple, Nividia, Alphabet)- are partnering with car manufacturers.

Government Policies & Initiatives

     In 2009, a multi-government policy was established, uniting 13 countries on an international commitment to support the development of EVs. This initiative, operating under the Clean Energy Ministerial, contains Canada, China, Finland, France, Germany, India, Japan, Mexico, Netherlands, Norway, Sweden, United Kingdom, and the United States.

     This newly formed syndicate ushered in a new wave of policies that have incentivized the growth of Evs. One of these policies is the 2030@30, an outlined plan promising to deliver 30 percent EV market share in respective countries. Currently, 10 countries have plans to meet this goal. This is not an unrealistic goal. Norway has already exceeded the goal at an impressive 52% market share this year (Electric cars reach new 52% market share record in Norway thanks to Tesla's record deliveries). If other countries remain devoted to supporting EV policies, then it won’t be long for these kinds of headlines to become more common.

    EV sales have mostly been pushed by policy. There must be a continued strong regulatory framework in support of Ev’s if the current trajectory is to continue at the pace it’s been enjoying. This includes things like government mandates to sell a certain number of EVs, taxes on co2, and fiscal incentives such as vehicle rebates. The past years, most countries have been offering an EV rebate of some kind. These rebates prove to be effective at reducing the barrier of entry to EVs. In Canada, these rebates range from 7 thousand to 14 thousand dollars. Though most of these rebates will likely continue to be encouraged and remain in place, there has been some recent public backlash.

     There are some who feel indignation over government money being used for company rebates. They argue that the rebates are unnecessary because the people who can afford EVs should not need a rebate. The purpose of the rebate was to incentivize someone who’s shopping for a new vehicle at these prices to be more inclined to purchase the EV over an ICE vehicle. Lately, governments have been conducting these procurement schemes poorly which has resulted in public outrage over what feels like “taxation on the middle class”.

    For instance, the Ontario PC government has terminated EV rebates, Donald Trump has been threatening to remove federal EV subsidies resulting in many people rushing to order a new Tesla, there have been rumors of China shifting EV subsidies, and violent protests are occurring in France over fuel tax increases (BBC article about France protests). These recent events do not fare well for the industry’s future government support. Once strong backing governments of Ev initiatives have now found precarious ground.

    Regardless, the overall primary trend is strong and underlying fundamentals are there. Many countries, like Norway, are still steadfast on their goals to cut co2 emissions. China has become a forerunner in propelling the industry forward. China understands the urgency to reduce co2 emissions as the country struggles with poor air quality. Currently, China alone makes up about 40 percent of the global electric fleet and has some of the most comprehensive EV plans. The Chinese public has been well receptive of EVs because of the increase of electric public transportation. The general public becomes more aware of the advantageous of Evs when they can concretely see how it’s transforming their public transit system in positive ways.

China EV Market Share

                        (both sourced from IEA 2018 EV outlook)

      The majority of electric buses sold to date have been made by Chinese manufacturers for the domestic market. Now, other manufacturers such as Daimler, Volvo, and Proterra are stepping into the market. Considering the United States competitive nature with China, there will be growing pressure to not lag behind in future EV development. It can be assumed for other countries as well, that if even a few countries continue on their path to EV adoption the pressure will mount for other countries to follow suit.

Heavy Duty EV trucks                   ( https://webstore.iea.org/download/direct/1045?fileName=Global_EV_Outlook_2018.pdf IEA Sources: Allison Transmission (2018); Ayre (2018); Baumann (2018); Daimler (2018a); Daimler (2018b); E Force One (2018); EMOSS (2018); MAN Truck Germany (2018); Rathmann (2018); Tesla (2018a); Volvo Group (2018))

--Cobalt Supply Worries--

         The concern for Cobalt is that most of the Cobalt supply chain is being sourced from the Democratic Republic of Congo (60%) which is known for unscrupulous business practices. Most companies like Apple (NASDAQ: AAPL) and Tesla are trying to distance themselves from the mining occurring in the Congo. The exponential demand growth for cobalt and supply worries, caused the mineral’s price to surge 129% in 2017. Such a meteoric rise caused serious questions about cobalt’s supply chain and the EV’s market dependency on the mineral.

Cobalt 5 year price                                             (source)

       Recently, the price of cobalt has dropped around 40 percent and has been hovering around 55 thousand dollars per metric tonne. The recent drop was caused by a slew of media announcements. One article claiming that Tesla plans to reduce cobalt content in batteries to almost zero.

      This currently has been a positive move for Tesla considering cobalt’s previous highs but as many readers have pointed out there are inherent concerns over removing the cobalt content in batteries. It’s possible that more energy dense NCA (requiring less cobalt) batteries will replace the need for NCM in the future but that horizon seems at least a decade away as NCM batteries prove to have better longevity and better thermal stability. The immediacy of these developments seems skeptical when you consider that Panasonic recently announced to triple its cobalt consumption in five years.

“Cobalt is the safe element in the cathode. As you reduce it, you reduce the life cycle of the cell. The current market standard for electric vehicles is an eight-year warranty to retain 80 percent of the original capacity of the battery. You need to be sure your battery can do that, otherwise, you’ll have to replace it under warranty, which is way more expensive than the theoretical savings you gain from less cobalt. And there’s a safety issue as well. As you decrease the amount of cobalt, you increase the amount of nickel. The cells can overheat and it can no longer effectively cool itself, which can lead to combustion. That’s a relatively low risk but it’s not a risk that can be taken and you need special technology to avoid that. Plus, the low-cobalt formulations need to produce in special dry environments, and so there’s a cost to making them, too. I think it’s very challenging from an engineering standpoint to solve these problems, so I think the current NCA technology is going to be the dominant technology for the next 10 years. “(Elon Musk wants cobalt out of his batteries - here's why that's a challenge)

     The IEA even accounted for the possibility of decreased cobalt usage in EV batteries and their figures still predict that the cobalt demand for EVs is expected to be ten times higher than current levels by 2030 in the New Policies Scenario in a central assessment on battery chemistries, and over 25 times larger in the EV30@30 scenario.

     Another reason why cobalt prices have been under fire is that Glencore (the largest producer of Cobalt) announced early 2018 that they would be upping production of their Katanga mine. The price of Cobalt has been deflated due to these news articles. However, the prices will not stay deflated for long as Glencore has been experiencing various setbacks and political battles that will undoubtedly cause market volatility. Just recently, the company has been embroiled in lawsuits alleging the company has been exaggerating its copper production. (Canada fines Glencore mining unit for Congo risks, WSJ reports | The Star). Not to mention, there is an overarching movement to reduce reliance on mining operations in the D.R.O.C.

--Cobalt 27(TSXV: KBLT) An Indirect Play--

      Cobalt 27 is a streaming royalty company currently in possession of one of the largest private stockpile of cobalt in the world at 2905.7 tonnes of physical cobalt. The company benefits from a unique investment advantage over traditional mining companies by not having the associated operating risks mining companies carry. Cobalt 27 offers capital to mines in exchange for a guaranteed stream of cobalt and nickel typically below spot prices (The Top Six Things You Should Know About Royalty Companies Now). Cobalt 27 is currently in excellent fundamental condition. The company lacks debt, boasts a morning star ranking of 4 stars, and is being followed by 11 analysts- 7 having a buy recommendation and 4 having a strong buy recommendation. Most recent EPS growth was at 168%. At the time of this writing, the company is selling for .4x book value (book price at $9.74), just 3.5 price-to-earnings, and is heavily discounted to industry peers.

     National Bank of Canada, Scotiabank, and Canaccord Genuity all have aggressive price targets starting from $15-$22 a share. Cobalt 27 now receives a majority of its revenue from it’s streaming deals. The company has acquired 12 stream and royalty deals. Most notably a 300 million cobalt stream on the Voisey’s Bay mine and a nickel-cobalt stream on the Papua New Guinea Ramu mine. The Voisey Bay mine produced 1,800 tonnes of cobalt, 52 000 tonnes nickel, and 34 000 tonnes of copper in 2017. Cobalt 27 will receive 32.6% of the cobalt production from the mine at a run rate of about 14 years.

“Voisey’s Bay is particularly interesting because we will actually get the physical cobalt delivered to us and we’re the agents of that cobalt,” says CEO Anthony Milewski. “We think that creates tremendous strategic value. We have the stream but we also control the product.” (source)

    The Ramu mine deal will materialize later this year and TD Securities Inc has noted that the stream will open the potential for Cobalt 27 to start paying a dividend.

    The most bullish signal for Cobalt 27 is that they announced late Nov the TSX venture acceptance to buy 8 400 000 shares representing 10 percent of cobalt 27’s outstanding shares.

Summary

    Growing optimism in the EV industry, rising demand and supply difficulties for Cobalt, a strong balance sheet, and strong management confidence, make Cobalt 27 an attractive investment opportunity to capitalize on this explosive trend. However, investors need to be extra watchful when holding this company. The company has a smaller market cap making it especially susceptible to higher market volatility. The company does not have a wide moat, making it a more speculative play. Currently, the stock has been trending downwards since June 2018. On the positive side, it now seems to be stabilizing and insiders are picking up shares at these levels. 

Disclaimer: The writer of this article, Aaron Chapman, currently owns shares of Cobalt27. The writer does not take responsibility for decisions based on this article. This article is only intended for research purposes. Please be advised of the inherent risk associated with investing in any companies mentioned in this article. 

Disclosure: I am/we are long TSXV: KBLT.