Potential Higher Offer – Upside TBD
This is a large-cap mining merger arbitrage so most probably the market is pricing this setup correctly. The downside to pre-announcement prices is really steep at 41% so any bet on a higher offer is quite risky.
Liontown Resources is a A$5.7bn market cap company operating two lithium deposits in Western Australia. The company’s key asset, Kathleen Valley, is a large construction-stage underground spodumene (lithium ore) mine. Last week, the company received a non-binding acquisition proposal at A$2.50/share from lithium giant Albemarle (ALB). LTR’s management (owns 19%) swiftly rejected the proposal as opportunistic and undervaluing. The rejection follows two previously undisclosed ABL’s bids made in early March (A$2.35/share) and October last year (A$2.20/share). ALB seems to be highly interested in LTR and another higher bid seems likely. Shortly after the latest rejection, Albemarle has slightly increased its ownership stake from 2.2% to 4.3%. The potential acquirer has noted it is willing to engage with the company to reach a “mutually acceptable definitive agreement”. LTR’s shares have jumped massively after Abermale’s interest was disclosed and now trade 4% above the latest proposal. Liontown’s management would reportedly be willing to sell the company at A$3/share or 16% above current share price levels (here and here). The downside to pre-announcement prices is steep at 41%.
Albemarle is a $23bn market cap specialty chemicals manufacturer, primarily focused on producing lithium compounds, such as lithium carbonate/hydroxide/chloride. ALB owns a number of lithium assets in Western Australia, including two lithium spodumene mines and a processing plant. The company’s management has been open about acquiring other spodumene assets in Western Australia as part of its strategy to supply the mineral to European electric vehicle makers – a quote from one of ALB’s executives:
“We see Australia’s spodumene as being a very viable resource to support [our] European expansion strategy. But the interesting fact of the matter is that neither China, we believe, nor the US nor Europe can meet their EV ambitions without WA.”
A potential acquisition of LTR would allow ALB to source spodumene concentrate produced in Kathleen Valley to its recently built lithium hydroxide processing plant in Kemerton, just 60km away. One of ALB’s executives has recently highlighted the efficiency gains resulting from mines and plants being in close proximity. Albemarle has already made significant investments in its Western Australian processing plant, having spent already more than A$4.5bn. ALB is expected to shortly decide on a further investment to increase the processing plant’s capacity.
The timing of this acquisition offer is quite opportunistic. Amid lower-than-expected demand and incremental lithium supply coming online, the price of lithium carbonate has seen a sharp downward correction over the last few months, with a 60%+ decline from Nov’22 peak levels. Spodumene prices are also down 25% YTD. On the back of softening market, LTR’s stock had fallen 30% in the same period. However, despite short-term headwinds, the longer-term lithium outlook seems positive given secular industry tailwinds. LTR expects lithium demand to start to overwhelmingly exceed supply from 2029 onwards driven by growing EV penetration (anticipated at 50% by 2030). Likewise, ALB’s management has been very bullish on lithium and expects global lithium demand to increase >5x from 2022 to 2030. ALB is a highly knowledgeable and astute lithium industry player that is clearly familiar with the demand-supply dynamics and might thus use the current opportunity to scoop up LTR. A good example of Abermale’s opportunistic behavior is the 2019 acquisition of 60% ownership in one of its Western Australia spodumene mines (Wodgina) only to immediately idle the facility due to lithium oversupply at the time. Mine production was later resumed at much higher lithium prices in 2022.
Kathleen Valley is a world-class lithium asset. The mine is among the world’s largest and highest-grade hard rock lithium deposits as well as the only major spodumene project in Australia that is currently up for sale. The asset, which recently saw construction operations commence, is expected to deliver the first production in mid-2024. LTR has already signed off-take agreements with reputable car/electronics makers, such as Tesla, Ford, and LG. 90% of Kathleen’s expected production capacity will be dedicated to these off-take agreements. The expected mine life is 23 years.
Valuing LTR is not straightforward given the nature of the company’s assets (i.e. lithium deposits), however, there seems to be headroom for an offer above current price levels. Back in 2021, a definitive feasibility study estimated Kathleen Valley’s NPV at A$4.2bn. However, the price of spodumene, a key assumption in estimating Kathleen’s NPV, has since then skyrocketed from $1392/t used in the study to $4000/t currently (and a peak of $7000+/t at the end of 2022). Sensitivity analysis of the feasibility study indicated that mine’s NPV would increase to as much as A$7.4bn if spodumene’s price reached $2000/t (extrapolating this sensitivity analysis further would result in NPV of c. A$15bn+ at current spodumene price). Having said that, the development and operating costs have also increased since the feasibility study was published. Also, an 8% discount rate used in the study is probably no longer appropriate. The project has already seen massive cost over-runs, with total estimated costs mine opening costs rising from A$241m in Dec’19 to A$895m currently. Nevertheless, at current spodumene prices, Kathleen’s NPV is still likely to be materially above the company’s A$5.6bn enterprise value.
There are a couple more points worth noting:
- LTR’s management/insiders hold a large c. 35% stake in the company (15% held by the chairman), implying that any takeover attempt would have to appease the management/insiders. Meanwhile, it is not clear if LTR’s management is willing to sell the company. LTR has continuously highlighted its plans to build a processing plant, allowing the company to convert spodumene into higher-value lithium hydroxide monohydrate in an effort to become a vertically integrated lithium producer. Moreover, LTR recently entered into a multi-stage farm-in agreement related to nearby lithium assets.
- LTR might have made the latest Albemarle’s bid public in an effort to boost the share price before the upcoming equity raise to fund the remaining capital expenditures at Kathleen Valley. The company needs additional resources to complete the construction of the mine and management has indicated intentions to provide an update on funding options “in the near term”.
- Until the recent developments, LTR was one of the most heavily shorted stocks on ASX, with 10% of the free float short.
Yesterday, Albemarle made a fourth, and this time final, non-binding proposal for Liontown Resources. The revised offer meets the previously rumored price tag of A$3/hare, which was desired by LTR’s management, and comes at +20% above the previous bid. LTR has granted a limited period of exclusive due diligence and said it would unanimously recommend a binding offer at this price. If the binding offer is signed, the spread will likely narrow down to minimal levels, and the takeover will probably close with no major hurdles afterward. The buyout would be conditioned on approval from 75% of shareholder votes cast. The revised price seems rather fair based on the current lithium prices and Katleen Valley’s LTR’s mine) NPV sensitivity. The company’s chairman owns 15%, while total insider ownership reportedly amounts to 20% (the 35% referred to above is likely incorrect). The buyer owns another 4.3%. No other bidders have emerged over the last 5 months. There risk that Albemarle will uncover something bad during the DD and walk away is tiny but the downside in such a case would be very significant.
https://www.ltresources.com.au/wp-content/uploads/2023/09/61166401.pdf