Lepidico — Quantifying exploration’s dividends

On 23 September, Lepidico announced a series of impressive drill results (including 34.8m at 1.25% Li2O) that extend the zone of mineralisation at its Helikon 4 prospect at Karibib in Namibia both down dip and along strike to the east towards Helikon 3 and Helikon 2. Drilling will continue, with a view to upgrading the mineral resource estimate at Karibib in October into the measured and indicated categories and extending the Phase 1 operating life of the project from 14 to 20 years and potentially beyond. The upgraded resource will form the basis of a new mine plan at Karibib that will complement the company’s chemical plant front-end engineering and design process, which is now scheduled for completion in November once procurement optimisation and design refinements are complete. A final investment decision on the project will then be made, with timing expected to be in early CY23. In the meantime, Lepidico is continuing to manage development risk proactively.

Lepidico’s current resource at Helikon 4 amounts to 1.5Mt at a grade of 0.38% Li2O in the inferred category, whereas the weighted average grade from the 2022 drill programme is in excess of 0.6% Li2O. By-product (caesium, rubidium and potassium) grades have yet to reported, but are expected to be elevated versus the life-of-mine average and similar to those at Helikon 1. At the same time, a pit optimisation there indicates a strip ratio of less than 2:1, which compares with a life of mine average strip ratio of the project (as per Lepidico’s May 2020 DFS) of 3.8 to one. As such, the inclusion of upgraded mineral resources from the 2022 programme in an updated and modified mine plan holds out the possibility of the project mining and processing an additional 2.5Mt – or six years’ worth – of higher-grade material (Edison estimate, including surface stockpiles) in the earlier years of the project’s execution and delaying the proposed cut-back of the Rubicon pit (hitherto anticipated around year nine of the project). A comparison of the potentially extended mine plan – as conceived by Edison – and the original is as follows, with an additional six years of mining and production indicated between FY29 and FY34, inclusive, effectively interposed between year 4 and year 5 of the original mine plan:

Readers should note the deferral of the Rubicon open pit cut-back from year 9 of the project (CY31 in the original schedule in Exhibit 2) to year 14 (FY39 of the extended schedule in Exhibit 1) as an immediate consequence of incorporating the material implied by Lepidico’s 2022 exploration programme into the Karibib mine plan. In addition, since the additionally mined material will be of relatively high grade, it will be suitable for processing ahead of the expansion in plant capacity and the processing of lower grade ore (originally anticipated in year 5 of the project):

Consequently, the extended mine plan will produce higher-grade, higher-margin concentrate for onward processing in the Abu Dhabi chemical plant for longer:

While by-product grades for the additional material drilled at Helikon 4 have not been explicitly reported, in as much as they are known (or can be derived from Lepidico’s original DFS in May 2020), the grades of mined caesium and rubidium, in particular, can be seen to correlate closely with the grade of mined lithium:

On the basis of these correlations, we may estimate the output of Lepidico’s Abu Dhabi chemical plant, over the life of the extended project, to be as follows:

As has been well documented, the western world in general and the mining world in particular are in the midst of a cost of living crisis, which is manifesting itself in the case of the latter in the form of inflated capital and operating cost estimates. While the extent of this inflation is different from project to project, a brief comparison of recent project feasibility studies would suggest that, in the case of capital costs, it is running in the order of 25–50% relative to prior assumptions. At the time of its DFS in May 2020, capital expenditure for the integrated Karibib mine and chemical plant was estimated at US$139.0m, including a 13% contingency, but excluding lease costs, which were included in C1 cash costs and therefore treated as an operating, rather than a capital, expense. Subsequently, Edison increased its estimate of this capital expenditure by US$10.0m (plus a further US$1.3m contingency) to reflect the adoption of plate and frame filters and enlarged crystallisers in the design scope of the chemical plant (see Big swings and small roundabouts, published on 16 February 2022) to take the total to US$150.3m.

In order to be relatively conservative therefore, in the light of recent developments, Edison has opted to increase its estimate of pre-production capital costs by an additional 50%, from US$150.3m, to US$225.4m. We have also increased our operating cost estimates by 15%.

In addition to the changes in operational and financial assumptions detailed above, we have made the following adjustments to our financial model of Lepidico:

Project valuation

Lepidico’s DFS (see Developing to the (L-)Max, published on 29 May 2020) calculated a project NPV8 for the integrated Karibib mining and chemical plant operation of US$221m, or A$342m (5.3c/share) on a pre-funding basis at the current foreign exchange rate of A$1.5494/US$. At that time, we valued the project at US$210.4m using the same inputs as the DFS, or US$205.8m using our own input assumptions (including a 20% minority interest in the Karibib mining operation). After a number of adjustments – most particularly relating to the long-term lithium price (see Big swings and small roundabouts, published on 16 February 2022) – at the time of our last update note (Coming in sight of the Rubicon, published on 5 August 2022), we valued Lepidico’s integrated project at US$380.8m, or A$590.0m (9.1c/share), before funding. On the basis of the extended mine plan alone, this valuation increased by a further 33.6% to US$508.8m, or A$788.3m (12.1c/share), before being moderated by capex and opex inflation to a final value of US$379.7m, or A$588.3m (9.0c/share) – almost exactly in line with our previous valuation, but still 71.8% in excess of Lepidico’s May 2020 DFS NPV8 of US$221m. A bridge chart of the evolution of the project’s valuation by component part over time is as follows:

Company valuation

Our valuation of Lepidico’s equity varies from our value of the integrated Karibib mining and chemical plant project, among other things, on account of the following:

As a consequence, changes in the project valuation are dampened when applied at the company level

In our last note on the company, we calculated a value for Lepidico’s shares of 6.45c plus 0.22c for the value of an envisaged loan to the minority shareholders in the upstream Namibian operation to give a total valuation for the company of 6.66c/share. In the wake of the changes discussed above, our discounted valuation of Lepidico’s future (maximum potential) dividend stream to shareholders is now 5.67c/share, rising to a peak of 9.26c/share (cf 8.58c/share previously) on the cusp of the company’s (assumed) first material dividend in FY29, as shown in the chart below:

To this valuation of 5.67c/share should then be added the value of Lepidico’s envisaged future loan to the minority shareholders in the Namibian mining and concentrating operation, which we now estimate at 0.38c/share (fully diluted), to result in a total value for Lepidico’s shares of 6.05c/share (cf 6.66c/share previously), based solely on its Phase 1 project. A bridge chart, showing the major components in the evolution of the valuation from 6.66c/share to 6.05/share is provided in Exhibit 10, below.

To this valuation of 6.05c/share may then be added a potential risk-adjusted 0.66–1.61c/share (fully diluted) for a conceptual 20,000tpa LCE Phase 2 Plant (see our note, Phase 2 coming into view, published on 18 June 2021), to take our total aggregate conceptual valuation of Lepidico to 6.71–7.66 cents per share (cf 7.29–8.21 cents per share previously).

The three principal risks to which our valuation of Lepidico is exposed are: 1) the long-term price of lithium hydroxide; 2) the price at which it raises future equity; and 3) capex inflation. The effects of variations in the long-term price of lithium hydroxide from the one currently assumed (US$18,000/t) are shown in the table below.

At the same time, our financial model assumes that Lepidico will raise US$41.8m/A$64.7m (gross) in FY23 at an unchanged share price of 2.8c (cf Lepidico’s prevailing share price of 2.4c at the time of writing) and Exhibit 12 demonstrates the sensitivity of our valuation to variations in this equity price:

Readers should note that it is also possible that Lepidico may choose to source all (or a portion) of this future equity funding requirement from a strategic partner after debt funding has already been secured, in which case it is possible/likely that a higher equity price could be supported.

Finally, our valuation of Lepidico is sensitive to any further changes in capex above and beyond those already assumed to the following extent: