Investing

Lynas Corporation (LYC) is traded on the ASX. They are building a Rare Earths (RE) mine in Western Australia and a processing plant in Malaysia.

Rare Earths have been capturing quite a lot of attention amongst early investors. A short introduction can be found at the following links:

• Rare earths are vital, and China owns them all
• China predicts rare earths shortage
• Rare earths offer unique investment opportunity

Until recently they were going to sell slightly over 50% of themselves to the Chinese in exchange for equity and guaranteed loans. The Australian Foreign Investment Review Board (FIRB) rejected the application and the Chinese deal collapsed. Instead LYC have launched a massive capital raising, made much easier by Australia’s laws which allow rights issues and institutional sales without a prospectus. Large capital raising can go ahead in only a few hours.

The capital raising consists of:

• $88M placement
• $295 rights offering
• $67M conditional placement

Based on 670M shares (inclusive of in the money options) outstanding before the offer they will add about 1bn shares.

Before tax based on:

• $9.6 US per kg of RE sold, increasing by 5% per year
• $7.45US per Kg of all in costs , increasing by 3% per year
• Long term AUD/USD of 90c
• 10,500 tonnes in year one growing to 20,000 in year 6
• Production commencing in 1 year
• Cost of equity of 13.4%

LYC would be worth about 32c after the capital raising. To get to today’s price of 60c AUD you need to assume that RE price grow by 8% per year. 8% a year may not seem like much but that is $41 per kg in year 20. Alternatively you get to today’s price by taking the $14 all time high for LYC’s basket of RE’s and growing that by 3% per year for 20 years. Again, if that happens then you break even. Remember this is all before tax.

Lynas is planning to get to production without any debt having had bad experiences with debt financing up to now. While the value of the firm should not change based on the capital structure (Modigliani and Miller equivalence and all) the returns to equity would have been much higher with a mix of debt. While this is often true it’s worth noting in this case because the dilution from this capital raising is so substantial.

Buying into Lynas is a leveraged play on Rare Earths. If you think they are going to go up over 4 times in the next 20 years then you’ll break even!

You would have to have very bullish assumptions on RE prices to buy into Lynas at these prices.

posted by Neil  # 10:13 AM