Molycorp Looks Too Good to Pass Up

Molycorp (MCP) is probably the most well-known US rare earth mining company and is probably the only significant US producer of rare earths. There are others that may reach significant production capability within years, but for now MCP is the clear-cut US leader, and is growing itself faster than others can come online.

China accounts for over 90% of rare earth world supplies. Everyone was happy to import from there until China started curbing rare earth exports last year. China slashed export quotas by 72% in 2H 2010 alone, which sparked a surge in rare earth prices. Some prices virtually doubled overnight. On Dec. 28, 2010, China cut 2011 export quotas for rare earths by 35% vs. 2010 in the first round of permits for 2011. Prices for rare earths don’t seem likely to fall demonstrably anytime soon.

In its Q1 2011 press release, MCP reported that “Project Phoenix” is on time and on budget. Project Phoenix is MCP’s modernization and expansion project at its rare earth processing facility at Mountain Pass, CA. MCP reported revenue was up 21% sequentially and 770% year over year. Volume was up 9% sequentially and 65% year over year. The average sales price increased to $37.73 per kilogram in Q1 2011 from $34.02 in Q4 2010 and $7.13 in Q1 2010.Excluding sales under contract with a price cap currently in effect, MCP’s average sales price was $65.95 per kilogram in Q1 2011. There is definite upside to prices and profits.

MCP is also growing by acquisition. On April 1, it completed the acquisition of a 90.023% controlling stake in AS Silmet, based in Estonia. The plant will focus on producing rare earth oxides, rare earth metals, and pure niobium and tantalum metals. The acquisition doubles MCP’s REO production capacity from 3000 to 6000 metric tons per year.

On April 15, MCP completed the acquisition of Arizona-based Santoku America. This gives MCP access to important intellectual property for manufacturing Neodymium and Samarium magnet alloy products, as well as the capability to produce Samarium metal. The above two acquisitions are expected to be accretive to 2011 sales and revenue.

Upon completion of Phase 2 of the “Project Phoenix” in 2013, MCP expects to be able to produce up to 40,000 metric tons of REO per year. In step with this, global rare earth demand is expected to grow from 125,000 metric tons in 2010 to 185,000 metric tons in 2015 and to 280,000 metric tons in 2020. MCP should have no trouble finding buyers at high prices for many years.

The recent earthquake and tsunami in Japan are expected to have a negative impact on demand in Q2 and Q3 (less Japanese auto manufacturing than had been expected). However, this is expected to be solely a short term effect. It may just be providing investors with a good opportunity to get into MCP at a reasonable price as it is now trading at 16 times FY2012 earnings. MCP is estimated to grow EPS by 344.60% in 2011 and 104.40% in 2012. Its five-year Growth Estimate per annum is a stupendous 43.00%. It is currently estimated to report profits of $0.45/share for Q2 2011, and this estimate has been rising consistently for the last three months. These profits will be the first showing of real profits by MCP. Profits are set to accelerate from there.

Unless China reverses its policy on rare earth metal export quotas, the future for MCP looks outstanding. Even if China does reverse its policy, the future looks bright. Demand is increasing and supply is limited. This is a stock you can buy and hold for many years.

Perhaps as tantalizing as the above fundamental data is the MCP chart:

[Click to enlarge]

MCP has gone straight up (with peaks and valleys) for the last year and a half. Each time it has broken down below its 50-day SMA, it has quickly rallied strongly. It is currently below its 50-day SMA, and by some measures (Williams %R) it is over sold. Given this chart (and the fundamentals of the stock), one would expect it to rally strongly soon. It may go down a bit more -- some are guessing to the mid-$50s range -- but I don’t think I would care to try to predict the exact bottom. What seems likely is that it will go roughly sideways from here until it decides to go up again.

You might try averaging in, or you might just buy this stock now. A new recession could hurt MCP just as it would virtually all stocks, but that is perhaps the only thing that is likely to derail this stock’s upward trend. The current price is $59.36. The analysts’ price target is $91.00 ( a roughly 50% profit). The average recommendation is 2.4, which is great for a mining stock that is not yet showing a profit. Some think the end of QE2 / stronger USD commodity sell off will continue, but it isn’t likely to take rare earth prices down much from current levels. MCP looks too good to pass up at this level.

Disclosure: I have no positions in any stocks mentioned, but may initiate a long position in MCP over the next 72 hours.