Disruptive Discoveries Journal

The Real Tragedy from the 60 Minutes Piece on Molycorp

Chris BerryComment

By Chris Berry (@cberry1)

 

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After watching the 60 Minutes report on Molycorp (NYSE: MCP) recently, I posted the following tweet:

It may be that I’ve been studying the rare earth space for the past several years and many of the arguments and points put forth were old news to me, but I thought the report was more notable for what it left out rather than what it discussed.

Here is the real tragedy: MCP’s performance (see below against the SPX since 2010) and consistent ability to overpromise and under deliver has done significant damage to investor perception of the non-Chinese REE space. This damage, at the end of the day, is what really matters.

Source: Bloomberg

With 12 straight quarterly losses and a tag from its auditors questioning its ability to operate as a “going concern”, MCP’s solvency is an increasingly relevant issue. There are those investors who have watched MCP’s share price performance and who listened to the company’s most recent earnings call (which was disconcerting, to say the least) and are now skeptical of the prospects for the REE sector over the next few years. Serious contenders to future REE supply chains such as Tasman Metals (NYSE MKT: TAS | TSXV: TSM), Ucore Rare Metals (TSXV: UCU | OTCQX: UURAF), Rare Element Resources (NYSE MKT: REE | TSXV: RES), or Namibia Rare Earths (OTCBB: NMREF | TSX: NRE) will have more hurdles to clear because of MCP’s collapse. This is despite healthy demand projections for select REEs.

Another interesting angle 60 Minutes could have taken would have been to discuss what went wrong. How could a company positioned as this prized strategic asset lose almost 100% of its value in the equity market? Was DoD support not there? Was it the collapse in REE prices? How responsible is previous management for this debacle? The story of foreign dependence on REEs between 2010 and now hasn’t changed. So what has? Why do so few of us still seem to care?

During the past two years, MCP produced a product for which demand was uncertain. The company hasn’t been able to lower costs to the point where sustained profitability is a reality. To be fair, I’m simplifying the analysis, but MCP’s financial performance really speaks for itself. The key now is to find those opportunities which can produce a product that the market needs in a quantity it can bear. Many REE junior mining companies have realized this and have adjusted their future potential production levels accordingly. In many cases, the levels have been adjusted downwards, but this is the market speaking loud and clear.

Yet another question to ponder: what will MCP will look like in one year from now? If its cash burn continues and operational results fail to impress, will the US Government ride to the rescue? I seriously doubt it….and furthermore, they shouldn’t. Why should MCP be treated any differently than any other publicly traded entity? Isn’t creative destruction one of the central tenets of capitalism?

My sense is that MCP will be split up but not before some of the huge debt pile suffocating the company is renegotiated. If junior bond holders are forced to swap their debt for equity, get ready for a share nose dive as these holders will almost certainly sell to preserve some of their capital. That’s when a potential death spiral could begin. Any remaining equity holders will almost certainly be wiped out. Should this happen, it will add another chapter to the sad history of the company.

Fortunately, MCP’s current Chairman is one of the best in the business. The decisions that company management and the Board of Directors will make going forward are not just crucial for MCP, but are important for emerging REE plays as well.

Lest you think I’m kicking a horse when it’s down, I have no axe to grind here. I have never owned a share of MCP. The rare earth sector is fascinating and will only become more important in the future as technology, urbanization, innovation, and demographics all converge across the globe. However, I just never understood how a company was going to produce 50,000 tonnes of material in a 120,000 tonne market (at the time) dominated by a single country (China). It appears that my skepticism has been validated.

I see a lot of the same froth in lithium currently which I why I expect the number of players in that sector to contract between now and 2017.

The performance of MCP has forced a “re-think” of how to build a profitable REE enterprise and is, I think, an incredibly valuable learning experience for us all. MCP was priced for perfection and thus far hasn’t met expectations. At the end of the day it was really always about economics. The Molycorp case, or “How to Build a Viable Rare Earth Company” will be a great business school case study some day.

  

 

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