Tesla’s foray into commodities is a buying opportunity

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During Tesla, Inc.’s (TSLA) first quarter earnings call on April 20, CEO Elon Musk said:

So we are carefully looking at all the raw materials and trying to figure out how we can speed up the total amount of raw materials needed to move the world towards sustainability. And I think we have – we don’t have enough time on this call to really go through all of these details, but we are thinking about these things. And we think we’ll have some exciting announcements in the months ahead.

This isn’t the first time Musk has discussed a possible foray into the lithium mining business, previously saying the company would do so in 2020. The company has even gone so far as to acquire 10,000 acres of land in Nevada after talks to buy a mining company apparently broke down.

After Musk’s comments, the lithium juniors were down quite significantly across the board. I think this presents a significant buying opportunity, as I don’t see it impacting the broader lithium thesis.

Impact on the industry (or lack thereof)

As much as Mr Musk would like to imply that his company will develop a mine from scratch, that is simply not feasible. At best, lithium mines take about seven years to come into production from initial discovery. Although, more often than not, it’s a 10+ year process filled with grueling authorization, exploration and validation processes. Just because Tesla has more money at its disposal than the juniors doesn’t mean it can speed up this process. You can’t buy everything, some things take time. Good kind of.

By partnering with or directly buying a company that is already quite advanced in its project development process, Tesla can, in fact, pay to skip all those steps. So with this simple baseline established, let me explain why it will have no material effect on the general lithium thesis.

Simply put, Tesla will not create any additional offers. What I mean is that the amount of lithium produced with or without Tesla’s help will be the same. Yes, there is less demand in the free market, although there is also an equal reduction in free supply. The only thing that changes is what Tesla has to pay for its lithium products.

With an estimated 5 kg of lithium per car, a mine like Lithium Americas’ (LAC) Thacker Pass would be able to support the production of 1.6 million electric vehicles per year. The annualization of Tesla’s production in the first quarter gives an annual production capacity of 1.24 million electric vehicles. It’s unclear exactly how much of its lithium supply Tesla aims to bring in internally, but, as the size of Thacker Pass is an anomaly meant to illustrate the scale of Tesla’s needs, that’s why I think the company might even consider more than one company.

Macro headwinds

Clearly, Tesla wasn’t the only factor that dragged down lithium juniors yesterday. As inflation only worsens, the Fed is pushed further towards the need for more extreme measures. So Jerome Powell’s comments yesterday that a 50 basis point hike is “on the table for the May meeting” was, understandably, not met with overwhelming market joy.

During such times of economic uncertainty or adversity, it is common to see investors flee to safety. Growth stocks are being abandoned in favor of perennial value favorites, which show promise as more reliable or resilient investments. Lithium juniors are extreme versions of growing businesses because they don’t generate any sales until they reach commercial production. This often contributes to tougher sell-offs than the overall market.

Better opportunities

I tend to stay away from speculation. There are several candidates Tesla could pursue to enter the lithium market, and without inside information there is no way of knowing which one or which the automaker is considering. However, some are more likely than others to reach an agreement with the automaker. I’m also a little hesitant to say that now is the time to start buying miner stocks, given the aforementioned economic uncertainty. There are, however, some cases that just seem too strong to leave out for now.

I’ve mentioned them before in this article, but Lithium Americas might be my favorite lithium junior right now. Given its closing price of $27.63 per share yesterday, my price target of $115 by 2025 implies a 316% upside from its current levels. The company’s Thacker Pass project is just a few hours’ drive from Tesla’s Gigafactory 1, the automaker’s flagship battery production site. The company also aims to enter production by the end of the year on its Argentinian project.

Along with two other quality projects, it is on track to become one of the largest lithium producers by the end of the decade. If you want to learn more about the company or how I found my goal of $115 per share by 2025, consider reading this article I published in February.

Cypress Development (OTCQB:CYDVF) is really the only other Nevada-based miner I’ve seen Tesla get into bed with. I also think it has a much better chance than Lithium Americas of becoming one of Tesla’s partners. The company’s project is quite advanced, with DFS expected by the end of the year, meaning the project could be ready for production within two years. Looking at the company’s PFS, production is expected to be around 27,400 tonnes. However, given that this came before a 55% increase in the project’s resource estimate, and that the company is now targeting extraction technologies with higher recovery rates, this production rate is very likely to increase. be improved for the DFS.

Using PFS production figures, the project has a NPV of $1.052 billion. With a current market value of $208 million, Cypress has fixed only 19.8% of the NPV of its project, which, again, should be upgraded in NPV. That makes it incredibly cheap relative to its size, which, again using PFS estimates, would support production of 548,000 EVs per year.

Importantly, the company also obtained water rights for its project. In Clayton Valley, this is a rarity, and I would highly recommend this article by fellow author Austin Craig, to understand just how essential this is. Cypress has also continued to extract lithium by hydrochloric acid leaching, rather than sulfuric acid leaching, in an effort to reduce its environmental impact. This sets it apart from other Nevada-based lithium miners, which target sulfuric acid leaching.

In a tweet as of late 2020, Musk said, “Tesla will only mine lithium when needed. We’ve also found a way to mine lithium using NaCl (table salt).” From some discussions I’ve had with various people familiar with the matter, this came directly from Cypress Development. Thus, we can deduce that Tesla knows Cypress well and has had a strong interest in it in the past.

So given the project size, cost, environmental footprint, and stage of development, I think Cypress is the most likely partner, or acquisition target, for Tesla right now. But, even if it doesn’t, the company’s 9.37% drop yesterday creates an exceptional buying opportunity. For all the same reasons that Cypress Development would be a good investment for Tesla, it’s a great investment for investors.

Outside of Nevada, it’s impossible to say which companies might catch Tesla’s eye. However, that doesn’t mean there aren’t many more opportunities created by the recent sell-off within the sector. Arena Minerals (OTCPK: AMRZF) is one such opportunity. Down almost 8% yesterday, one of my favorite companies in the space presents a pretty good opportunity. The company’s management is incredibly impressive, reading like a dream team of technical and operational successes from seasoned industry executives who thought they’d make more money developing their own project than working for some of the older ones. With very promising real estate development and validation provided by significant holdings from Lithium Americas and Ganfeng (OTC:GNENF), Arena Minerals is one of my favorite long-term lithium juniors.

American Lithium (OTCQB:LIACF) was another junior that was hit hard yesterday, also down more than 7%. The public can expect an article on them soon, although I covered them on The EV Supply Chain last month. Given the company’s exploration so far, I think investors can expect about a 6x upside as production nears.

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