Lithium powers up

Mining shares continue to rally as global economic data gradually improves.

Despite this broad-based advance, however, the fundamental outlook for individual commodities varies greatly. I have previously highlighted how the growth batten is being passed in China, from bulk commodities absorbed in infrastructure to industrial metals and other consumer-oriented materials such as mineral sands. Another niche commodity that will benefit from China’s emerging middle-class is lithium.

Lithium is a soft but highly reactive metal used primarily in glass, ceramics, lithium-ion batteries, and in the aluminium industry. It is the lightest known metal, with extremely high electrochemical potential. These characteristics make it an ideal material for rechargeable batteries, mostly used in portable consumer devices such as cellular phones and laptops.

With these highly favourable properties, lithium is consumed in the following applications (Fig 1).

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Demand for lithium-ion batteries has been very strong in particular, and now accounts for a third of lithium consumed. According to the metals and minerals research firm Roskill, demand for batteries has increased at 30% per annum over the last decade and this is set to continue. While rapid global take-up of smartphones and tablets has to date driven battery growth, the emergence of electric vehicles is set to supercharge demand for lithium.

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While the electric vehicle segment is still quite embryonic, the success of Tesla Motors is a measure of the industry’s potential. Tesla is at the forefront of the industry, having overcome many of the challenges confronting manufacturers. Highly improved aesthetics, far superior battery range and increased power have culminated in the highly successful Model S as shown below in Fig 3.

Sales of the Model S are currently ahead of most large luxury vehicles in the US, including the Lexus LS, BMW 7 Series and the Audi A8. Not surprisingly, the share price has reflected this success rising six-fold this year.

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As with mineral sands, supply of lithium is also highly concentrated. Four major producers currently control the market. This industry structure and resilient demand proved advantageous through the global financial crisis, with the lithium price holding firm while many other commodities fell sharply. The major producers have been able to expand production to meet the rising demand, while maintaining prices at elevated levels.

The value of this oligopoly was clearly on display last year when Perth-based Talison Lithium was acquired by Chinese company Tianqi for more than $800 million, gazumping an offer by competitor Rockwood of the United States. The final price paid was 70% above the pre-bid share price, proving the strategic value of supply in this important sector.

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While many junior companies have ambitions to join this select group, there are significant barriers to entry. Technical hurdles are particularly challenging and many new deposits are found in less than friendly regions for development.

An Australian company, Orecobre (ORE), has managed to overcome many of these barriers and is developing its world-class Olaroz project with off-take partner Toyota Tsusho in Argentina. Olaroz will sit at the lowest point on the cost curve, with a highly expandable resource. While there are still a number of milestones to be met through construction and ramp-up, Orecobre has the opportunity to join this privileged club.

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Justin Braitling is a principal of Watermark Funds Management at www.wfunds.com.au.