ummary
Mason Graphite's Lac Gueret Project appears to have strong economics, yet this is true of other companies in the space which seem to be going nowhere.
Mason's recent press release holds the answer to the industry's woes and sets the company apart from the pack as the industry's one full-fledged graphite business.
Investors will note the flimsy nature of other companies' value-added product announcements which only have spectacle (as opposed to investment) value.
Mason has avoided such announcements until last week when it announced an in-depth study into the economic viability of various value-added products.
While Mason is "behind" right now I believe this approach will pay off in the long run, and Mason will come out ahead as the leader in the space.
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(Editor's Note: Investors should be mindful of the risks of transacting in securities with limited liquidity such as MGPHF. Mason Graphite's listing in Canada, LLG.V, offers some additional liquidity.)
An Overview of Mason Graphite
Mason Graphite (OTCQX:MGPHF) is a junior graphite mining company focused on developing the Lac Gueret Project in northern Quebec. The project has one of the highest grade flake graphite deposits in the industry with a measured and indicated resource of 66 million tonnes at 17.2%, and 10 million tonnes at 31.2% if we focus on just the highest grade zones. The ~3 million tonnes of extremely high grade flake graphite is an incredible amount considering the industry's 2013 demand was <400,000 tonnes.
Not surprisingly Mason's PEA shows that it will be one of the lowest cost producers in the industry assuming it gets into production. In the PEA the company estimates that its Lac Gueret Project is worth ~C$280 million before taxes using a 10% discount rate and an average graphite price of C$1,525/tonne--roughly today's price. Given Mason's C$51 million valuation this is quite low, and the C$89.9 million direct initial capex is well within reach.
But it could be better: in November the company released the results of a location trade-off study in which it proposed moving its concentrator site to Baie-Comeau. These results, along with significant share price weakness after a summer pop led me to release a bullish assessment of the company, which I argued that the Lac Gueret Project was worth considerably more than the (then) current market capitalization of the company even if I used conservative flake graphite pricing and added contingencies to capex and opex.
Since then the stock has lost some value in spite of strength in graphite prices. This in itself is reason to remain bullish, at least considering the analysis I put forth in December. But one has to wonder why investors aren't bidding up the shares if the economics are so compelling.
Why Investors Aren't Bidding Up Mason Shares
I think there are a couple of reasons for this: one company specific and one industry specific. The first is that the company has only reached the level of a PEA, and while management is currently doing research towards a feasibility study I think investors see significant risk in the fact that the PEA is just an initial assessment that is subject to change.
Second, I think even having a feasibility study in the graphite space isn't sufficient to generate investor interest. Let's look at the companies that do have feasibility studies, namely Northern Graphite (OTCQX:NGPHF), Energizer Resources (OTCQX:ENZR), and Focus Graphite (OTCQX:FCSMF), each of which have released FSs. The market doesn't have much faith in these companies either, and in fact they have lower valuations than Mason. Now I'm no believer in efficient market theory and it is certainly possible that these are opportunities that are worth exploiting. But Northern Graphite has had a feasibility study since 2012 (which it updated in 2013), and Focus Graphite has had one since last summer. Energizer just released highlights from its feasibility study but in other respects it falls into the same pattern as its peers. Each company's FS shows extremely promising economics and yet they can't get financing. Energizer hasn't had a chance to do so but I highly doubt it will be financed any time soon.
Why is this?
I'm not entirely sure because I'm not in the market to finance graphite juniors. But I think a hint rests in Mason's most recent press release in which it announced a "detailed study for large scale processing of value-added graphite products." I don't think this press release changes my thesis that "Mason is a speculative buy," but I do think that Mason could be on to something here that can considerably set it apart from its peers.
Downstream Thinking in an Upstream World
As investors in the graphite space are aware there is an incredible number of uses for flake graphite, and these uses require modifications on the commodity flake graphite which mining companies pull out of the ground. For example lithium-ion batteries--one of the most promising sources of future graphite demand growth--requires a product called spherical graphite.
The advanced-stage graphite companies all know this, and they also know that these value-added products are worth significantly more than commodity graphite. Consequently they are all pursuing these value-added markets in various ways.
But these pursuits have been lacking, and have amounted to laboratory test-work and general test-work void of any economic assessment. This lacking reflects the upstream mentality of mining executives, who are running these companies as mining companies, and not graphite businesses.
There is a problem with this mentality, namely that not all graphite is the same. This is a unique attribute of the graphite space when we compare it to other kinds of mining companies. It follows that in order for a graphite company to get financing to develop its mine the quality of its graphite must be proven, and what needs to be proven is that the commodity graphite can be transformed into these other products economically. So while other mining companies can get financing based on a feasibility study graphite companies need an additional "downstream feasibility study" in order to get financed. And if a graphite company is taking that extra step it might as well benefit from doing so and be involved in the downstream business as well.
I think Mason's team gets this in a way that other teams don't, and that is why there are companies that have seemingly great projects that aren't going anywhere. We can see this in the difference between Mason's recent press release and some value-added product press releases put out by Mason's peers.
1--Northern Graphite
In August Northern put out a press release in which it announced that it has created spherical graphite. There are two positive takeaways from this press release. The first is that this wasn't simply lab-work--the company used "production scale equipment." The second is that the company was able to achieve a 50% yield vs. a 33% industry average, meaning that for every kilogram of graphite the company used it was able to manufacture half a kilogram of spherical graphite. Sounds great! But there are some issues. First, who is doing this testing? The press release makes no mention of any outside party and a look at the company's list of directors and managers reveals that there are no scientists except for mining geologists. Second, while the high yield may lead investors to believe that the process is economical there is no evidence to support this claim. Third, since the announcement the company hasn't announced any further developments such as entering into talks with manufacturing companies (e.g. Tesla (NASDAQ:TSLA), which will need an enormous amount of spherical graphite in order to manufacture batteries at its much anticipated Gigafactory). If the results really were so great I think this would have happened by now.
Northern's recent press release regarding its development of nuclear grade graphite is even more vague. Again there is no reference to the cost of producing it or who produced it. Here in particular there is no discussion of scale.
There have been no developments from this, and Northern Graphite continues to sit on a feasibility study. Financiers looking for investment opportunities aren't ignorant of these "developments." They just aren't acting upon them, and I suspect it is for the reasons I give above.
2--Energizer Resources
In late 2013 Energizer Resources announced that it has confirmed ultra-high purity >99.9% carbon. This is an in-depth press release that discusses the method used--glow discharge mass spectrometry--why investors should care that the company used that method, and a layman's overview of the method. The press release also makes sure to mention that this method is used to test element purity for commercial purposes, and the phrase "commercial purposes" appears in the press release three times.
Energizer gives the investing community a little bit more than Northern. But again what does it matter if the company can't demonstrate the economic viability of the process (which it doesn't)? And who is doing the test? Finally, if the results are so great why hasn't anything come out of this?
3--Focus Graphite
Of the three competitors I discuss here Focus provides by far the best information regarding value-added products such as spherical graphite. While we aren't told who is doing the testing in the May 2014 press release, we are at least told that "testing was conducted by a globally recognized, North American laboratory with particular expertise in processes related to lithium ion battery technologies." We are also told that "Focus Graphite has withheld the name of the laboratory for reasons of commercial and competitive confidentiality."
While I certainly want to know who is doing the testing I prefer this level of disclosure to none at all, which is what we get from Northern and Energizer.
Focus, like Energizer, is somewhat specific regarding the science as well: we don't get a methodology but we do get results.
Finally, Focus is very clearly designing its spherical graphite to the lithium-ion battery market. The lab--while unnamed--is one that develops Li-batteries. Furthermore one of the company's conclusions is that its spherical graphite is tailored for use in the Li-battery market.
But we are still missing the economics, which as I have suggested above is critical. Furthermore, it has been 9 months since this announcement and we have yet to see any meaningful developments or advancements announced to the public. Again, if this spherical graphite is so great why hasn't Focus announced a pilot plant, or a partnership with a company that produces Li-batteries?
4--Mason Graphite
This brings us to Mason Graphite. Mason hasn't put out a single press release on exciting developments in high-purity graphite or spherical graphite or anything like that. The February 11th press release is the first in which the company discusses the issue.
If you read it carefully and compare it to the press releases I mention above you'll see why this is a big deal even though the company hasn't announced any "exciting developments." Let me just highlight a few points.
First, while there is no direct mention of an economic assessment the goal of the company's project is to "broaden the range of applications accessible and further improve the economics of the operations and the Company as a whole." Management doesn't care about creating spherical graphite or any other kind of value-added graphite. It only cares about improving the economics of the project. If management does test work on spherical graphite and finds it cannot achieve this goal then I doubt you will see any announcement regarding spherical graphite.
Second, the press release is incredibly straightforward with respect to who will be carrying out this research:
The development and validation of the fabrication processes for these graphite products will be carried out by the National Research Council of Canada ("NRC") along with Hatch, and is expected to conclude by the end of 2015. Following initial scoping work, equipment trials and product testing, the Company intends to provide preliminary results and an updated work program by mid-2015. -
Investors and financiers are therefore free to do their own due diligence on these outside parties.
Third the press release reveals that the company has already done some of the prerequisite lab work that other companies are bragging about, although it doesn't say what this is. The release says: "In order to enter the value-added graphite markets, a detailed study on large scale production is necessary over and above preliminary laboratory tests, some of which have already been done." While there is no right or wrong way for companies to divulge information (other than from a legal standpoint) Mason has set itself apart as a company that is releasing information that is relevant to the investment thesis rather than to generate enthusiasm. After all a serious investor really shouldn't care that a company has created spherical graphite unless it has done so in a commercially viable way. So an alternative to Mason's current disclosure method would be to report on a spherical graphite development but to qualify this development with what still needs to be done.
The Bottom Line
Let's return to the point I made above, that Mason's press release might be able to give us some insight as to why companies such as Northern and Focus can't get financing and why investors seem to not care how great their feasibility studies are. The graphite industry certainly has an upstream component to it, and every advanced stage graphite company has demonstrated that it can profitably produce commodity grade graphite. But who will be buying this? Companies that can produce the value-added end-products, of course. And while these companies have demonstrated that their graphite can be turned into some of these products there is no concrete evidence that this can be done economically. So why would a financier take the risk until this is demonstrated? Furthermore, if a company can demonstrate it why would it bother to move forward as purely a mining company when it has already proven that it can take the next step towards vertical integration and reap those profits as well?
So unless a graphite junior can get into production without a large amount of financing (only Flinders (OTCPK:FLNXF) has been able to do that given a unique set of circumstances, and it is still not selling a meaningful amount of graphite) it is invariably locked into the downstream side of the business.
Of the advanced-stage junior graphite miners only Mason is approaching the industry in this way.
This by no means makes Mason a "slam-dunk buy." It still has a long road ahead of it as it continues to finalize its feasibility study and works on the study announced last week. A lot can happen that is detrimental to current shareholders from weak results to squandering of capital and so forth.
But this is true of any company in the junior mining space and to the extent that Mason is a junior mining company with a project at the PEA level it is speculative. Otherwise it appears that the company is doing everything right, and that it will emerge as a leader in the space.
Editor's Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.
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