I’ve heard from a few investment strategist-types recently that investors should be on high alert because China is about to level the playing field with the U.S. By leveraging its “dominance” in global rare earth supply and also potentially slapping sanctions on American memory-chip maker Micron Technologies (NYSE: MU), China will get even for the U.S. ban on high-end semiconductor and equipment sales to China.
The gist of the warning is that China is on the verge of a massive counter-attack on the U.S. economy that will cripple America’s domestic semiconductor and electric vehicle (EV) market, and that the U.S. had better rethink its China strategy – or else.
The notion that China is somehow in the driver’s seat on this one is laughable. China’s position in the economic warfare vehicle is more like a grungy teenager on a skateboard clinging to the bumper: it’s only along for the ride, and if things get bumpy, it will end up with a face full of asphalt.
Let’s start with Micron. Yes, Micron’s memory chips are important components in iPhones and laptops and cars and flash drives. But memory chips are not in the same league as the Nvidia chips that power Artificial Intelligence (AI) or the AMD chips you find in data center servers.
Also, Micron is only the third biggest maker of memory chips, after South Korea’s Samsung and Hynix.
And if you look at chip companies and the percentage of revenue they get from China, Micron has one of the lowest exposures to China of any of them – around 16%.
The simple fact is that Micron is way down the food chain. China doesn’t have a workaround for Nvidia or AMD chips. And it can’t even buy the ridiculously complicated lithography machines that etch the circuits for these chips. These machines come from a Dutch company, ASML (NASDAQ: ASML) and the most advanced ones haven’t been available to China since 2019.
Yeah, some kind of “China bans Micron” might grab some attention as a headline. But in terms of real world economic impact, Chinese action against Micron is an absolute non-event.
And so is China’s potential for “banning” rare earth exports to the world.
The Truth About Rare Earths
I know, I know – China supplies around 90% of the world’s rare earth materials. And because every iPhone, electric vehicle and wind turbine has some rare earth mineral inside, if China’s really got us by the short hairs.
And it’s true: if China halted all rare earth exports, it would be a problem for the global economy, it would be a problem – for 6 months or so.
Because while China accounts for 90% of the world’s rare earth magnets (the kind used in EVs and wind turbines, for instance), it also accounts for 85% of the world’s rare earth mineral refining.
But when it comes to actually mining the ore from which rare earth minerals are extracted, China’s share of global output has fallen from 95% back in 2010 to 58% today.
To maintain its dominant position with regard to rare earths, China imports nearly half the rare earth ore it needs. Which means that rare-earth ore miners in Australia, Vietnam and the U.S. load giant piles of dirt onto barges and send it to China for processing…
China’s so-called leadership position in rare earth supply really comes down to its refining capacity.
Part of the underlying terms of globalization was that western countries like the U.S. would send low-margin manufacturing to China and then export finished products. It was a good bargain: wages were low in China and the Chinese government was eager to attract low skill jobs. And China would even subsidize the manufacturing of things like steel and solar panels to make sure that the cost-advantage would remain.
This was true for rare earths too.
Because rare earth processing – getting the rare earth minerals out of giant piles of dirt – is a nasty, dirty process and is not at all environmentally friendly. It made perfect sense to simply let China have the business of refining rare earth ore.
But here’s the thing: companies and countries don’t want their supply chains to be China-dependent. And the decline in China’s own rare earth mining industry means that competition for the world’s rare earth resources is heating up.
That, ladies and gents, spells opportunity…
The Case for MP Materials (NYSE: MP)
Current price: $28
52-Week Range: $23.50 – $49.48
Market Cap: $5 billion
2023 Revenue (est): $462 million
2024 Revenue (est): $749 million
Forward P/E: 35
12 Month Price Target: $44
The “MP” in MP Materials stands for Mountain Pass. That’s the name of MP Materials’ rare earth mine in Southern California. It is the only operating rare earth mine in the U.S. and in 2020, this one mine accounted for 15% of the world’s rare earth ore. Virtually all of that ore went to China for refining…
But that’s changing. Because MP Materials has already started refining its own rare earth. Right now it is selling a semi-refined product called “roasted concentrate.” By the end of this year. MP Materials will be delivering fully refined rare earth alloys to General Motors for its EVs, by virtue of a supply agreement between the two, signed in 2021.
Even better, MP Materials will soon start to eat into China’s 90% market share for rare earth magnets. The company will complete its own rare earth magnet facility in Fort Worth later this year, and will begin delivering these magnets to GM and others in 2025.
Demand for rare earth minerals is forecast to jump 300% over the next decade. And competition for rare earth ore sent MP Materials’ increased 55% last year, to $11,974 per ton. MP Materials shipped 43,198 tons last year. Production costs rose 26% to $1,600 a ton.
The company is not offering pricing or volume guidance for the magnets it will make in Texas, because, at this early stage, there’s too much uncertainty about exactly how much its refining processes will yield at the start.
But a look at revenue and earnings forecasts paints a pretty attractive picture.
Fiscal 2023 ends in June. And MP Materials is expected to earn $1.08 a share on $462 million in revenue. Estimates for fiscal 2024 call for $1.72 in power share earnings on $749 million revenue.
The company has ~$500 million in net cash, It is generating $343 million in operating cash flow. CAPEX is running at $300 million a year. MP Materials is already profitable and should have no need to raise cash as it expands its refining capacity and brings its magnet facility on line.
The wild card is, of course, China. And it’s a bullish wild card. As things stand now, MP Materials has a very clear runway to growth and a higher share price. But if China decides to retaliate to U.S. sanctions and further restrict rare earth alloy and battery exports, well, as one of the only alternatives to China, MP Materials could see its stock trade at a significant premium.
I think MP Materials is a “no-brainer” at current levels. It is a strong buy under $29 and I’m putting a $44 price target on it over the next 12 months.
That’s it for me today. Take care and I’ll talk to you on Wednesday.
All human, all the time,
Chief Investment Strategist
Pro Trader Today