A Closer Look at Molycorp's Speculative Opportunity

I'm a believer in growth stocks. As an analyst for our Motley Fool Rule Breakers service, I think you should be a believer too. But even I have to admit some growth stories are bogus, hence this regular series.

Next up: Molycorp (NYSE: MCP  ) . Is this miner of rare earth minerals the real thing? Let's get right to the numbers.

Foolish facts

Metric

Molycorp

CAPS stars (out of 5) *
Total ratings 166
Percent bulls 44.6%
Percent bears 55.4%
Bullish pitches 11 out of 28
Highest rated peers Teck Resources, Southern Copper, Rio Tinto

Data current as of Nov. 14.

Bears don't like that Molycorp's valuation is based entirely on what could be. Bulls don't care; they see this as betting on a natural monopoly in metals mining.

"With the 2nd largest rare earth deposit in the world, and the only one in the [western] hemisphere, this is a buy and hold long term winner. They've only begun to exploit the [rare earth oxides]," wrote All-Star investor jah609 in September.

There are 17 rare earth metals for manufacturing a wide variety of necessary devices. For example:

  • Cerium for creating the catalyst that allows ovens to clean themselves.
  • Holmium for making lasers.
  • Lanthanum for making refractive glass used for camera lenses and hydrogen storage, among other things.
  • Promethium for making nuclear batteries.

Investors like Molycorp in part because rare earth metals (REM) are expensive to mine, and China, which sources 97% of the world's REM supply, isn't keen on exporting what it needs. According to media reports, officials there have been discussing a plan for reducing REM exports.

This is where jah609's thesis comes into play. Molycorp lays claim to the only substantial rare earths mine in North America in Mountain Pass, California. Plans call for manufacturing more than 19,000 tons annually by the end of 2012.

Getting to that point will require several heavy doses of capital expenditures. But that could be less of a problem than it seems. The Department of Energy is taking applications for loan guarantees for rare earths mining. Molycorp submitted its proposal in June. If approved, the funding could help sustain the company as it spends to modernize the Mountain Pass mine.

The elements of growth

Metric

Last 12 Months

2009

2008

Normalized net income growth Not available Not measurable Not available
Revenue growth Not available 93.6% Not available
Gross margin (163.5%) (207.1%) Not measurable
Receivables growth Not available (9.3%) Not available
Shares outstanding 50.113 million 44.309 million 38.234 million

Source: Capital IQ, a division of Standard & Poor's.

Yes, I know. This table doesn't say much. How could it? There's still so much we don't know about Molycorp. But there are a few things we can point to. Let's review:

  • First, we can ignore net income and revenue. Growth in these categories is meaningless until Mountain Pass is operating at capacity.
  • Having said that, I find it interesting that gross margin has seen steady improvement since 2008. Not that there is much a margin yet. I just like the directional trend.
  • The shares outstanding line tells us the most. Molycorp needs to be able to sell shares in order to raise funds to finance growth. According to Capital IQ, Molycorp received $393.8 million in proceeds from a July IPO and has access to another $86.7 million via a shelf registration.

Competitor and peer checkup

Company

Normalized Net Income Growth (3 yrs.)

Freeport-McMoRan Copper & Gold (NYSE: FCX  ) 9%
Molycorp Not available
Rare Element Resources (AMEX: REE  ) Not measurable
RTI International Metals (NYSE: RTI  ) Not measurable
Titanium Metals (NYSE: TIE  ) (38.6%)

Source: Capital IQ. Data current as of Nov. 14.

This table doesn't mean much. In North America, only Molycorp mines rare earth metals, though REM explorer Rare Element Resources has aspirations to join the club. But the business is also just developing. What we really need is a clear understanding of the opportunity here in North America.

Grade: Unsustainable
I've yet to see good data for the domestic rare earths market, though Dian Chu's analysis at Seeking Alpha is about the best I've seen so far. But not even she has hard figures.

Therein lies the problem. All we really know is that the rise of electric cars and complex electronic devices such as smartphones should increase demand for certain REMs. One estimate, from researchers at Australia's Industrial Minerals Co., predicts global consumption will rise to roughly 225,000 tons by 2015, up from around 140,000 tons today.

Presuming Molycorp its 19,000 tons of rare earths into this market each year, that's $281.2 million in annual revenue at current prices. Impressive? Sure, if Molycorp weren't already worth $2.6 billion in market value. Today's valuation assumes a BIG spike in the per-ton value of rare earths. That's possible, of course. I just wouldn't bet real money on bubble pricing. Instead, I'll be shorting the stock in my CAPS portfolio and then seek an opportunity go long when the hysteria subsides.

Now it's your turn to weigh in. Do you like Molycorp at these levels? Let us know what you think using the comments box below. You can also ask Tim to evaluate a favorite growth story by sending him an email, or replying to him on Twitter.

Interested in more info on Molycorp? Add it to your watchlist here by clicking here.

Titanium Metals is a Motley Fool Stock Advisor selection. Try any of our Foolish newsletter services free for 30 days.

Fool contributor Tim Beyers is a member of the Motley Fool Rule Breakers stock-picking team. He didn't own shares of any of the companies mentioned in this article at the time of publication. Check out Tim's portfolio holdings and Foolish writings, or connect with him on Twitter as @milehighfool. You can also get his insights delivered directly to your RSS reader. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool is also on Twitter as @TheMotleyFool. Its disclosure policy thinks Monty Python is sustainably funny.


Read/Post Comments (8) | Recommend This Article (3)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 16, 2010, at 8:12 PM, hldboo wrote:

    I'm a bit confused." ...the 2nd largest rare earth deposit in the world, and the only one in the northern hemisphere." Yet "...China, which sources 97% of the world's REM supply." The last time I looked at a map or globe, China was well within the northern hemisphere.

  • Report this Comment On November 16, 2010, at 8:39 PM, bellbell63 wrote:

    1) "Outside of China, only Molycorp and Rare Element Resources mine rare earth metals"

    Rare Element Resources has never produced an ounce of rare earth metals.

    2) If you want to roll the dice, UUARF (UCORE Rare Metals). Still a E/D company but at least has a real (dormant) mine , roads, power, permits and deep water port access. Will need financing but since in USA govt help possible. Several years to production.

    3) You should distinguish between light ree (LREE) and heavy ree (HREE). LREE are not rare, just undeveloped. HREE are much rarer.

    4) Clearly MCP will be first (non-China)to production - but who will be second?

  • Report this Comment On November 16, 2010, at 8:40 PM, bellbell63 wrote:

    Correction to my previous post - symbol is UURAF (not UUARF)

  • Report this Comment On November 17, 2010, at 8:03 AM, hacker44240 wrote:

    There are 2 factual errors (which are really large) in this article. First, rare earth elements are NOT rare at all. But they are incredibly expensive to mine. Second, Rare element resources (REE) does NOT mine rare elements. They have no mining operation whatsoever, and are in the infancy of exploration stages.

  • Report this Comment On November 17, 2010, at 10:19 AM, TMFMileHigh wrote:

    'Morning all,

    Thanks for the comments and corrections. I'll ask the editors to make some changes to reflect what you've pointed out here.

    Foolish best,

    Tim (TMFMileHigh and @milehighfool onTwitter)

  • Report this Comment On November 17, 2010, at 10:47 AM, mcintorb wrote:

    There are several thoughts in the article and comments that are confusing.

    1. 19000 tons a year is around 17 million kg. $281.2 Million in revenue pencils out to around $16.25 per kg. That must be either a partially processed valuation, or it significantly understates the value of even the cheapest "standard purity" (99%) Rare Earth oxide (REO) -- Samarium. Is Molycorp's Mountain Pass output refined and ready for customer shipments or is more processing required? If so, where is that going to happen? What is the mix of REO's in the deposit?

    2. Lynas (LYSCF) has the richest known deposit of REE's at their mine and concentrating plant in Western Australia, and is building a refining plant in Malaysia. They already have 750,000 tons of ore in stockpiles at an average of over 15% REO's. They are on track to start shipping refined REO's in Q3 2011 at a rate of 11,000 tons a year, with a second phase doubling that to 22,000 tons in 2012. The first stage is fully financed; they don't need government "loan guarantees", or other giveaways, or additional construction or operating permits to deliver. The value of their mix of Rare Earth Oxides (based on FOB China prices) is currently at $62 per kg, although it isn't clear what the contract prices are in their early supply agreements.

    3. It's not that Rare Earths are "incredibly expensive to mine". The mining is the easy bit. The processing is more demanding, but still not out of step with other metals extracted using acid-flotation (unless the orebody holds radioactive Thorium and Uranium, which introduces a whole new level of environmental management).

    My understanding is probably incomplete in some way, and I'll accept correction. Still, I think the preceding comments and article don't accurately present the case.

  • Report this Comment On November 17, 2010, at 6:07 PM, rpontius wrote:

    It's my understanding that while you say rare earths are not "rare" they indeed do not fall into the higher concentrations. Thusly, IMHO that is why they are dubbed rare. So, you could have a 2% site. Well, how much do you have to mine to get a substantial amount rare earths out? So, the higher the percentage and what is actually in that percentage for HREE and LREE is what matters. Then as the person above mentioned there are the separation costs.

    So, if you don't have a high percentage project, I would gather that the costs to mine would be substantially higher than say the Lynas example mentioned above. And then the processing costs also add expense. Which is why processing was shipped to China to begin with. Also, China does not control 97% of the global rare earth deposits. They are doing 97% of the processing because it is cheaper to do there - at least for now.

    Now, don't get me wrong here. Rare earths will be in high demand because of technology and military applications and demand from Emerging Markets and Frontier Markets. You just need to choose your investments wisely. I think we are in a mini bubble right now because it is the FOTM for investing. Plus, the companies won't be producing for at least a year and in some cases out to 2013 and 2014.

  • Report this Comment On December 30, 2010, at 7:00 AM, imachi wrote:

    see: Hitachi and Molycorp plan rare earth joint venture!

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