Commodity spotlight series - Lithium

The surge in lithium prices from 2021 to 2022 saw lithium stocks generate spectacular gains, often regardless of risk, project quality or profit-potential. This period was utopia for many generalist investors, because finding a new, well-marketed lithium stock was generally more important than finding one with the potential to become a mine. However, those frenzied days are over, and in 2023 we are observing some lithium stocks thrive while others stagnate or steadily decline. For example, in the first 6 months of 2023 the winners include Patriot Battery Metals (+135%) (ASX: PMT), and Liontown Resources (+131%) (ASX: LTR), the strugglers include Jindalee Resources (-7%) (ASX: JRL) and Core Lithium (-11%) (ASX: CXO), and the decliners include Vulcan Energy (-33%) (ASX: VUL) and Lake Resource (-60%) (ASX: LKE). This marked difference in performance among lithium stocks, we believe, reflects a revision to normal market conditions. Therefore, companies with quality projects are being rewarded, and stock valuations are again following the traditional value cycle known as the Lassonde Curve.

As discussed in an earlier issue of Market Insights, the Lassonde Curve is the value cycle for Resources & Energy companies when they progress from Exploration through Development to Production. To successfully progress from Exploration to Production, companies require a project that can get into production within a reasonable timeframe and at a (moderately) low up-front capital cost. For our inaugural issue of the Commodity Spotlight Series, we discuss the three main types of lithium projects: spodumene, brine and lithium-clays. The intention of this document is not to provide a comprehensive review of all styles of lithium deposit. Rather, we review the three main deposit styles and highlight the key features that make some projects better than others.

Hardrock (spodumene) lithium projects

Lithium is present in many minerals, but geologists prefer rocks that contain high abundances of spodumene. The main advantage of spodumene is it contains about 8.04% Li2O, which is very high compared to other lithium-bearing minerals (e.g., petalite and lepidolite contain about 4.9% and 3.6%, respectively). In addition, the density of spodumene is higher than most other granitic minerals, enabling it to be separated using reasonably simple processing methods. Therefore, companies that mine spodumene generally produce a concentrate with about 6.0% Li2O. This means they generate a finely crushed rock composed of roughly 75% spodumene crystals.

As with all mining projects, jurisdiction is important. Projects located in Australia and Canada are strongly preferred over those in Zimbabwe or the Democratic Republic of Congo. 

Equally important, but often overlooked, is proximity of the project to a port or lithium refinery. To produce the lithium that is used in batteries, spodumene concentrate must be processed in a refinery that converts the powdered rock into lithium hydroxide or lithium carbonate. Lithium refineries are expensive to build and operate, so they are generally located close to ports and/or major railways for ease of transporting the concentrate. Therefore, a large high-grade lithium project may never get into production if it can’t access, or afford to build, its own refinery.

The final key feature of spodumene projects being recognised by astute investors is the mineability of the deposit. The lithium explorers and developers who are thriving in 2023 generally have large deposits with a thick and high-grade core that can be mined with reasonable ease. These companies include Patriot Battery Metals, Liontown Resources and, most recently, Azure Minerals (ASX: AZS). In sharp contrast, the strugglers are dominated by companies with smaller lower-grade projects that generally have dozens of narrow zones of lithium. Narrow lithium deposits are difficult to mine, because the adjacent rocks commonly have high levels of impurities that are problematic in the refineries. 

Like iron ore and coal, scale and simplicity are crucial in lithium, so identifying these features early is crucial to the success of a project and its potential profitability.

Lithium brine projects

Lithium brine projects are attractive to major companies because they are generally large operations with long mine lives (i.e., >50 years) and low production costs. The brines are a salty lithium-bearing fluid that forms in hyper-arid regions, such as the Atacama Desert in Argentina and Chile. Most brine projects use large evaporation pond to concentrate the lithium before final processing to form a lithium carbonate. Allkem (ASX: AKE) is an example of a company that has successfully built and operated a lithium brine project. Similar projects would cost >A$1.5 billion to construct today. This upfront cost is prohibitive for most small companies.

To overcome the large upfront cost of brine projects, several companies have investigated the use of a new technology called Direct Lithium Extraction (DLE). The technology uses special balls of resins to remove lithium ions from the brine. The balls are then scooped up and placed in a different solution that releases the lithium for final capture. The other major advantage of DLE is it can be used on brines with high concentrations of magnesium that are unsuited to the traditional evaporation methods. In 2021 and 2022, companies such as Lake Resources experience spectacular gains on the potential to produce very large volumes of lithium for modest upfront capital cost. Unfortunately, costs are now rising and timelines being pushed out, as the company has discovered developing a lithium brine project with new technology that is yet to be used at a commercial scale is problematic. 

We believe DLE will be a major part of the lithium industry, but not for several decades. Therefore, the best companies to trial and develop this technology are large companies like Allkem, who have the time and money (from profitable brine operations) to slowly scale up the process. For these reasons, we see very few quality opportunities in small resources companies wanting to develop a lithium brine project.

Lithium clay projects

Lithium clay projects also have the potential to be sizable long-life operations like lithium brine projects. The main difference is the lithium occurs in clay minerals rather than a salty fluid, so can be excavated like a normal mining operation. Importantly, the lithium clay deposits are generally very large, such as the McDermitt Lithium Project in Oregon (owned by Jindalee Resources); the largest lithium deposit in the US. In addition, the clay deposits are commonly soft, flat-lying and occur close to the surface. This makes them cost-effective and easy to mine.

However, the different clay projects commonly have different mineralogy and thus very different processing methods to extract the lithium. Like DLE, none of the proposed processing methods have been used at a commercial scale to date. We believe lithium clay projects will also be a major source of lithium in the future, but probably not for several decades. While some companies are quite advanced with their testwork, we think the risks remain very high in this sector.

Conclusions

We believe the best way to gain lithium exposure via small- and micro-cap companies is in stocks with hardrock (spodumene) projects. Size and lithium grades are important, but investors must also consider the proximity of projects to a refinery or port infrastructure. In addition, projects with a thick easily mined deposits are preferred over those with dozens of narrow lithium-bearing units stacked one on top of the other. For larger companies, lithium brines can also be appealing because they offer the potential for long mine life. The larger companies can also take the time necessary to develop new technologies, such as DLE. Lithium clay projects are considered the highest risk technology for investors.