Albemarle's (ALB 3.51%) stock has fallen roughly 30% over the past 12 months. Sociedad Química y Minera de Chile's (SQM) shares are down a little more, having slid 36%. The big story is that investors that fell in love with lithium stocks a few years ago have now fallen out of love with them. That happens with story stocks all the time on Wall Street, especially when the near-term outlook shifts negative, as it has with lithium, even though the long-term outlook remains largely unchanged. But what's interesting when comparing Albemarle and SQM, as the Chilean company is usually called, isn't the price of their respective stocks, but the performance of their underlying businesses.
The long and short of it
Lithium production has ramped up as producers seek to build more capacity to meet what is expected to be huge long-term demand. To put some numbers on the demand outlook, Albemarle is projecting demand to increase at an incredible 21% annualized rate between 2018 and 2025. The biggest driver of that demand will be electric vehicles, with annualized growth of 36%. However, notable demand growth is also projected in the electric power space, where grid-level storage is expected to increase by 29% a year over that span (albeit from a much smaller base).
It takes time to build lithium mines and processing facilities, so companies like Albemarle and SQM have been on an expansion binge. Rising supply coupled with some near-term weakness in demand (partially thanks to reduced electric vehicle subsidies in China) has led to a steep drop in lithium prices, as investors have feared the worst. But even with supply outstripping demand today, if Albemarle's estimates are close to the mark demand simply needs some time to catch up.
Investors, however, aren't great at thinking long-term and the near-term story for lithium has changed. Wall Street is basically avoiding anything that has to do with the lithium space. In response to these dynamics, many lithium companies, including Albemarle and SQM, have tempered their expansion plans. But that hasn't been enough to assuage investors.
What's more interesting than this big-picture story is that the lithium price drop has led to vastly different results at Albemarle and SQM.
The story behind the story
In the second quarter of 2019, SQM's revenue fell nearly 23% year over year. Its earnings, meanwhile, dropped an even more painful 47%. One of the first issues the company highlights for the top- and bottom-line weakness is a 22% decline in lithium prices in the first half of 2019 versus 2018. SQM produces other products, like iodine and potassium, but the drop off in its lithium business was so large that it basically crushed the company's results. Gross profit from the lithium division was down $116 million year over year in the first half of 2019, while no other business varied by more than $20 million. That said, the puts and takes throughout the rest of the business leaned slightly negative, too. It's been rough for SQM, but lithium has clearly been the biggest headache.
Albemarle's second-quarter revenue was up 4% year over year, with adjusted earnings advancing 14%. (Adjusted earnings pulled out a large gain related to an asset sale in 2018 that made GAAP earnings look horrible year over year, and were not a good representation of the company's ongoing business.) The company's other businesses, bromine and catalysts, were net positives, but the really big difference between Albemarle's results and SQM's is that Albemarle's lithium business didn't fall off a cliff.
Both SQM and Albemarle are producing more lithium today than they did in 2018. But what's behind the starkly different financial results in their lithium operations? The answer boils down to how the two go about selling lithium. SQM focuses on the short term, selling much of its product at the spot price available when it produces the metal. Albemarle takes a different approach, focusing more on long-term contracts.
The story is likely to get worse for SQM before it gets better, too. At this point the company is expecting third-quarter sales prices to decline even further. Meanwhile, Albemarle is projecting its sales prices to be relatively flat, which makes sense given the contract nature of its business. So while these two companies operate in the same market, the big difference is how they go about selling their lithium. And that has given Albemarle a big edge, helping to protect its financial results from the downside volatility that's hitting lithium prices today.
To be fair, SQM's financial results will likely improve quickly and dramatically if lithium prices increase. That's the positive side of selling at whatever the current price is in the market. The downside, however, can be quite painful, as the company's recent results show. Albemarle will keep chugging along no matter what happens with lithium prices, but it won't likely benefit as much as SQM from a big lithium price advance.
Sleep well at night
Albemarle's focus on long-term contracts is shining today even as investors are punishing the stock because of the shifts taking place in the bigger lithium story. For conservative investors looking for bargain-priced stocks, this could be an opportunity to get exposure to lithium, and indirectly the electric vehicle space, on the cheap -- and with a company that has proven it knows how to weather a weak market. Dividend investors, meanwhile, will appreciate that Albemarle has increased its dividend annually for 25 consecutive years, and its 2.1% yield is now toward the high end of its historical range.