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Rare Earths Miners Race to the Finish Line: Carolyn Dennis
Source: Brian Sylvester of The Critical Metals Report (5/1/12)
The rare earths business isn't unlike a Formula One race, according to Carolyn Dennis, vice-president and senior analyst with Dundee Capital Markets. Companies are speeding to reach production and find strategic partners to grease the wheels to the finish. While several companies are laps ahead of their competitors, Dennis is watching a few names that could come up from behind. In this exclusive interview with The Critical Metals Report, Dennis discusses which companies could see the checkered flag and reap big profits.
Carolyn Dennis: There is still a gap for some. Investors have learned a lot over the last couple of years about how complicated the sector is. These are not your average mining investments. Even with the increase in analyst and media coverage of the sector, it's easy to underestimate the risks and the required timelines for projects. For example, while most investors do know that metallurgy is a key risk, companies often explain their metallurgy as being a simple process when, in fact, it may still be an untested theory.
TCMR: In your coverage of companies in this space, you use four screens to separate the pretenders from the contenders: 1) rare earth oxide (REO) distribution; 2) mineralogy, metallurgy and processing; 3) mineability and 4) marketability. Please take our readers through each of those filters.
CD: First of all, I should clarify that at this point, we believe the light rare earth (LREE) market is going to be largely satisfied by Molycorp Inc. (MCP:NYSE) and Lynas Corp. (LYC:ASX), among a few others. The real crunch is going to be in the heavy rare earths (HREEs) neodymium and praseodymium, based on expectations of growing demand for permanent magnets and phosphors.
In our first screen, we look at the REO distribution by generating an index number that sums up the grades of the critical elements neodymium, praseodymium, dysprosium, terbium, europium and yttrium. We divide that by the sum of the grades of cerium and lanthanum. That determines which deposits have more of the "right stuff" and less of the elements that will be in oversupply, in our opinion. It's important to understand which REEs the companies will be exposed to in order to determine the long-term revenue assumptions and the viability of the project.
Next we look at metallurgy, starting with mineralogy. That's a determining factor, not only in the distribution of the rare earths, but in the economic viability of processing the deposit. The minerals in the deposit determine how long it's going to take to extract them. We also look at how far along the companies are in their engineering studies and whether or not they've started a development pilot plant. That's the key step to solving the metallurgy. Even if it's believed to be simple, we still have to test it. All companies deal with this hurdle, even if they have minerals that have already been processed commercially. Our analysis indicates that there are only five companies that have full-scale pilot plants, including Molycorp and Lynas. That underscores the risk in the sector. The other three companies with full-scale pilot plants include Avalon Rare Metals Inc. (AVL:TSX; AVL:NYSE; AVARF:OTCQX) and two Australian companies, Alkane Resources Ltd. (ALK:ASX) and Arafura Resources Ltd. (ARU:ASX). Greenland Minerals & Energy Ltd. (GGG:ASX) also has a development pilot plant on a smaller scale.
The third screen is mineability, which is basic mining logic. It looks at capital and operating expenditures, deposit size, grade and the mining plan.
For the fourth screen, we look at the downstream supply chain and marketability. Industrial minerals are not commodities and are generally sold on contract. Therefore, companies with partnerships or those that are vertically integrated should realize value for their product.
TCMR: Some rare earth deposits include uranium and thorium byproducts and, if a company is not recovering those, it needs to dispose of them. Is that a challenge most REE miners face?
CD: It's a real risk across the board for rare earth companies. Each deposit, depending on the type of mineralogy, will have varying grades of uranium and thorium. The jurisdiction the deposit is in and how it approaches dealing with the uranium, thorium and radioactivity will dictate how much of an issue it is for the project. It can be a problem in processing as well. In a lot of cases, the thorium should be removed from the concentrate earlier in the process in order to improve processing downstream. Beyond that, radioactive waste material needs to be disposed of.
TCMR: What are some other yellow caution flags to watch for?
CD: Falling prices, especially if new projects come online. That's probably more of a caution for the LREE projects that have more cerium and lanthanum, which could be in oversupply. Today's prices can't be used in determining the economic viability of the project.
Some companies have had some financing issues recently. It could have a potential impact on companies looking to come to market to raise money because investors do look at comparables in the sector.
Also, there have been some offtake partnerships that have been announced. Some have not given enough details that investors like and some have been at net valuations that are lower than expected.
TCMR: But you can't sell the farm.
CD: No. If investors feel that it's not an appropriate valuation, at the end of the day, that's who these companies are serving.
TCMR: This is a race to production and to secure the right partners to make that happen. What companies are ahead of the curve?
CD: There are actually a number of companies that are still competing, but only a few checkered flags will be handed out. Molycorp and Lynas are at the front of the pack. In terms of engineering and pilot plant work, there's Avalon, Alkane and Arafura. There are a number of early-stage companies that are potential come-from-behind cars that could move through the pack and take a checkered flag at the end. We place those in four groups.
Our first group is what we call the zirconosilicates. These deposits typically contain a high portion of heavies. The main mineral in this group is eudialyte. That has yet to be commercially processed, but advancements are being made. The companies in this group are Quest Rare Minerals Ltd. (QRM:TSX; QRM:NYSE.A), Tasman Metals Ltd. (TSM:TSX.V; TAS:NYSE.A; TASXF:OTCPK; T61:FSE), Matamec Explorations Inc. (MAT:TSX.V; MRHEF:OTCQX) and a private company in Greenland, TANBREEZ. There potentially could be gains in the advancement of the metallurgy there, and these companies could move ahead of the pack in supplying the market.
The second group is the ionic clay deposits. For the most part, that type of deposit is found in China, although Tantalus Rare Earths AG (TAE:FSE; TAE:XETRA) has a project in Northern Madagascar. In China, these deposits have hosted the heavy rare earths. It's really low grade, but the processing has been relatively simple.
The third group is what we call the byproduct producers. These are companies focused on other metals that have also announced rare earth resources, including IAMGOLD Corp. (IMG:TSX; IAG:NYSE), MBAC Fertilizer Corp. (MBC:TSX), Orbite Aluminae Inc. (ORT:TSX) and Pacific Wildcat Resources Corp. (PAW:TSX.V). If these companies can produce rare earths as a byproduct, they could be very economically viable operations.
The last group is projects in Greenland. The government now allows for exploration of radioactive elements, like uranium and thorium, on a case-by-case basis. Originally, there was a moratorium. This group includes Greenland Minerals & Energy and Hudson Resources Inc. (HUD:TSX.V).
Of the companies in those four groups, most of them would supply heavies except for the byproduct producers, which are typically light-weighted deposits.
TCMR: Quest is one of the companies in your "group one" category. Its CEO, Peter Cashin, recently said that the company is a month away from solving its metallurgy riddle at its flagship Strange Lake project. Up until this point, that has been the primary hurdle to attracting a development partner. Where does this place Quest in the REE race?
CD: Metallurgy is the key risk for Quest. Cashin gave an update at the annual general meeting indicating that the company has made progress on the flow sheet, which is expected midyear. We're definitely encouraged by this. More importantly, he did note that it has plans to construct a pilot plant by the end of 2012, test its process and produce sample product to take to potential customers. It is still early in the process, but it's in line with other projects.
TCMR: Quest is also involved in a prefeasibility study on Strange Lake. What does that study need to tell the Street in order for Quest to remain in the race?
CD: In February, Quest announced that it changed the scope of the Strange Lake project. That resulted in a delay in the prefeasibility study. Investors and analysts assume that the costs are going to be higher than the original preliminary economic assessment (PEA). It's very important that the costs are in the expected range. Costs are going up at other projects. We do expect cost inflation and that's fair, but hopefully it's in the expected range. We're estimating over $800 million (M) for construction. The study also needs to be delivered on time. Quest said it would be done by the end of 2012.
TCMR: How does Strange Lake fit into that first filter of REO distribution?
CD: It ranks second of all of the companies in the sector. It definitely has potential to deliver a significant portion of critical rare earths when it's up and running.
TCMR: There is little infrastructure in northern Quebec, but the provincial government recently announced Plan Nord, which will provide some spending for infrastructure projects. Would those help Quest at all?
CD: Absolutely. We're not assuming that Quest will get any of that spending, but it could benefit from the potential infrastructure. It needs a road to get from the site to port. Assistance with that would be helpful.
TCMR: Most people know about Quest's Strange Lake project, but not nearly as many know about its Misery Lake project. Does it add value for shareholders?
CD: I've been to Misery Lake, which is about 120 kilometers (km) south of Strange Lake, and it's beautiful. It has a bit of a different distribution. It's potentially a source of neodymium, but it's very early stage. Most of Quest's value is at Strange Lake. It has such a big resource and the value is in the high-grade zone it will mine first. Having another project may add some value one day, but we currently determine the value from Strange Lake.
TCMR: What are some other Canadian companies that you're following?
CD: There are many rare earth projects in Canada. Some are more advanced than others. Avalon and Matamec are among the more advanced projects. I've been to both properties. Avalon owns the intermediate-stage Nechalacho project in the Northwest Territories. It has a published prefeasibility study and it has a development pilot plant.
Matamec owns the Kipawa project in Quebec, which is a smaller project. It's only a 13-year mine life but, it's in our first group of potential come-from-behind cars. It has about 36% heavies and has attracted Toyota Tsusho Group (TYHOF:OTCPK) as a strategic partner. The main risk with Matamec is the metallurgy. The main mineral is eudialyte, which has yet to be commercially processed. However, the company has made a number of advancements.
TCMR: And is Matamec advancing toward a pilot plant?
CD: It is starting that this year as well. It has indicated that it would be doing that midyear.
TCMR: Some people on Bay Street have been critical of the 100% offtake deal between Matamec and Toyota. I think the biggest criticism about the deal is that it gave up too much.
CD: I've asked it about that. I can understand why selling 100% of the product and negotiating a project sale for less than the net present value in your PEA has caused concern for investors. The company's position is that the price was right and it is getting access to technical expertise. It has a small project with a 13-year mine life. It has costs to get that mine into production. It's more expensive to run a smaller mine. And not having a partner to be able to sell product is one of the major problems that a lot of these companies are facing.
TCMR: It's better to have 50% of something than 100% of nothing.
CD: Exactly. At the end of the day, if a company doesn't know who it's selling to, it's taking a chance. There are specifications that need to be met. Unless you know what they are, how are you going to make the product? It's a chicken-and-egg scenario. There was a big gap between what its PEA suggested and the value that it "sold" the project to Toyota for. It put more emphasis on having a partner. This is a lesson that all the rare earth companies are learning from.
TCMR: You also cover Tasman Metals and its Norra Karr REE project in Sweden. This is a story about location, location, location. What other advantages does Tasman have on its competitors?
CD: Tasman has a number of advantages besides being in mining-friendly Sweden and strategically located close to able and willing markets and infrastructure. The Norra Karr deposit ranked No. 1 on our critical elements list (Quest was No. 2). The deposit has about 54% heavies, which should maintain their value over time and remain in demand. The deposit also has very low thorium and uranium contents and the potential to benefit from byproduct economics, including zirconium, which it is working on.
TCMR: One issue is processing. There is a processing facility in Estonia that's owned by Molycorp, but it doesn't have the capacity at the moment to process heavy rare earths. How is Tasman tackling that problem?
CD: It is doing a lot of testing and is in discussions with a variety of end users, from those that create a component to a midstream-type customer that would take in the chemicals, process them and sell them to an end user.
TCMR: You're saying it would produce a concentrate versus an oxide?
CD: Yes. Its PEA said that it was going to produce a mixed REE carbonate. We believe it can sell it to either an end user that is a component manufacturer or potentially a midstream player that could process it and sell it to end users. Given Tasman's location, there are a number of chemical companies in Europe that could be interested. Germany has a consortium of companies looking to source resources. Part of the partnership equation is sharing the margins for developing a project.
TCMR: A few years ago, the only rare earth story that was getting any ink was Avalon's Nechalacho project, but now it has a number of competitors in the space. Does Norra Karr face similar competition in Europe?
CD: Given its proximity, Greenland could be Tasman's competition. Some of Greenland's projects are on the tidewater and could easily get to Europe. However, Tasman still has an advantage because it's down the road from major markets that are looking for these types of resources.
TCMR: Who is the frontrunner in Greenland?
CD: Let's differentiate between them first of all. Hudson is more of a light-based project. It is bastnasite and monazite. It's a bit different than Greenland Minerals and TANBREEZ, which are next to each other. Greenland Minerals is steenstrupine mineral, which is about 12% heavies. TANBREEZ is eudialyte, which is about 27% heavies.
TANBREEZ has done a fair bit of work and has requested its mining permit, but the last news I saw was that there was a delay. Greenland Minerals plans to produce uranium as a main product. That requires a fair bit of work with the Greenland government. Both companies are still working on permitting, have flow sheets and are doing testing. Greenland Minerals has a pilot plant and is advancing its metallurgy.
TCMR: Does Tantalus, which is in Madagascar, face an uphill battle in terms of developing a rare earths mine in a pristine, protected natural environment?
CD: Definitely. That's one of the big risks Tantalus has. It is in a jurisdiction that would require a lot of work from an environmental perspective. It's a low-grade project. Its heavy distribution is about 20%. When people think of ionic clays, they think of the South China clays that are geared more toward the heavies but this could also be a source.
TCMR: Frontier Rare Earths Ltd. (FRO:TSX) and Great Western Minerals Group Ltd. (GWG:TSX.V; GWMGF:OTCQX) are both operating in South Africa, but Great Western is a bit broader than that in scope. Let's start with Frontier. What is the grade distribution there?
CD: Frontier's deposit hosts a monazite carbonatite. It is 8% heavies, but because it is planning on producing 20,000 tons (Kt)/year from that mine, it actually would be contributing a decent amount of heavies to the market. Monazite is a mineral that has been commercially developed before. It naturally contains more heavies than bastnasite. Some argue that monazite could be a source of heavies given the metallurgical issues with a number of the minerals that haven't been commercially developed like eudialyte. Frontier has a flow sheet, but it needs to work through the pilot plant.
TCMR: It has an end-user agreement with KORES. Does that give it an advantage over some of the other companies out there?
CD: Yes, it does. Having a partner providing an end market and that potentially is going to help provide financing is definitely solving part of the equation to create a viable rare earth company.
TCMR: Molycorp is well known for its magnets-to-mine strategy, but Great Western pretty much has that already working for it. What are your thoughts on what that company is doing?
CD: It has the less common metals in the United Kingdom and some facilities in the U.S. to produce magnets. It is trying to secure a supply of rare earths for production and to supply the rest of the world. It just raised money, which it will put towards the Steenkampskraal project. It has talked about extending the mine, which currently has a life of fewer than 10 years. At some point, it is going to have to find another source.
TCMR: Would Frontier and Great Western make a good potential merger?
CD: It definitely crossed my mind when I analyzed their deposits. They both have monazite and are not far away. But I am not sure how that would be facilitated.
TCMR: What parting thoughts on the REE space would you like to share with investors?
CD: It's really important for investors to know their risk tolerance because most of the companies in this sector are very early stage and there is a high-risk profile. For risk-tolerant investors, it's a space that could offer significant returns, especially from our come-from-behind cars.
TCMR: Investors in this space saw some glorious returns from 2009 through the middle of 2011, then things started to head south last summer as the market saw the capital requirement for a lot of these projects and got cold feet. Is there another wave coming that investors can look forward to?
CD: It's a different world today than it was. It was a bit of a wild ride, and stocks appreciated as much as tenfold or more in some cases. That is not the reality now. There is a lot more information in the market. The market is differentiating between light and heavies and between the risks of the companies. It's more of an investment now, whereas before it was momentum driving the market. Some people refer to it as a bubble. We're not going to see those days. Investors have learned. The market has learned. Catalysts are going to move the stocks, but it's going to be stock-specific. That's why it is very important to continue watching the sector because you can't look at any of these stocks in isolation. You have to look at the entire space and what the other companies are doing because they will impact your investment.
TCMR: Thanks for sharing your expertise.
CD: My pleasure.
Carolyn Dennis covers rare earths, industrial minerals and, more recently, fertilizers. Dennis joined Dundee Capital Markets in February 2010 with over 10 years of experience in equity research. Most recently, she was a ranked analyst at a bank-owned dealer covering consumer/industrial companies and income trusts. Previously, she worked at an independent investment dealer covering primarily industrial technology companies. Dennis earned a Bachelor of Science in civil engineering from Queen's University and a Master of Business Administration from the Ivey School of Business, University of Western Ontario. She holds a Chartered Financial Analyst (CFA) designation and is a member of Professional Engineers Ontario.
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1) Brian Sylvester of The Critical Metals Report conducted this interview. He personally and/or his family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Critical Metals Report: Frontier Rare Earths Ltd., Matamec Explorations Inc., Quest Rare Minerals Ltd. and Tasman Metals Ltd. Streetwise Reports does not accept stock in exchange for services.
3) Carolyn Dennis: I personally and/or my family own share(s) of the following companies mentioned in this interview: None. I personally and/or my family am paid by the following companies mentioned in this interview: None. I was not paid by Streetwise Reports to do this interview.
4) Companies under coverage by Carolyn Dennis are Quest Rare Minerals Ltd. and Tasman Metals Ltd. All other companies mentioned in this interview are not rated by Carolyn Dennis.
5) Carolyn Dennis beneficially owns, has a financial interest in, or exercises investment discretion or control over, companies under coverage: None.
6) Dundee Securities Ltd. and its affiliates, in the aggregate, beneficially own 1% or more of a class of equity securities issued by, companies under coverage: None.
7) Dundee Securities Ltd. has provided investment banking services to companies under coverage in the past 12 months: None.
All disclosures and disclaimers are available online at www.dundeecapitalmarkets.com. Please refer to formal published research reports for all disclosures and disclaimers pertaining to companies under coverage and Dundee Securities Ltd. The policy of Dundee Securities Ltd. with respect to Research reports is available on the Internet at www.dundeecapitalmarkets.com.