Who Will Supply Graphite To The Fast

Forecast growth in the lithium ion battery market

Growth forecasts for lithium ion batteries vary widely. For this article, I have selected a forecast from the middle of the pack, and by a company that has been closest to correctly forecasting the growth of electrical vehicle sales over the last five years. The graph below comes from a presentation made by AVICENNE Energy at a conference in Montreux in September 2015.

Total battery production, expressed as Megawatt-hours (MwH), is forecast to raise from about 60,000 MwH in 2015 to somewhere between 160,000 and 195,000 MwH by 2025. All of that growth will be in lithium ion, which is now the dominant battery technology for a wide range of applications.

This increase in battery production will require increases in the supply of the raw materials that go into the making of the battery. This article looks at the potential impact on the world's graphite market, and the likely growth in supply.

Effect of LIB growth on the demand for natural flake graphite

Lithium batteries for automotive and other applications typically contain about 1 kg of graphite per Kwh of battery capacity. The battery pack for the Tesla (TSLA) S-class, for example, contains about 85 kg of graphite.

The graphite can be sourced from natural flake graphite or from synthetic graphite, which is usually made from petroleum coke. In the past, battery makers for high-end automotive applications have tended to favour the use of synthetic graphite because of variations in quality and restrictions on supply of natural graphite, most of which is produced by small-scale mining operations in China.

However, the trend is towards the use of less expensive natural graphite, which now takes up about 65% of the battery-grade graphite market. World production of natural graphite is about 1.1 million tonnes, of which about 40% is crystalline flake graphite and the rest is amorphous graphite, plus a small amount of lump/vein graphite mined in Sri Lanka. Flake graphite is the preferred type for use in lithium ion batteries.

The graph below shows the forecast for flake graphite demand up to 2025.

The graph has been prepared using data from the US geological survey up to 2014. Forecasts for non-battery use are based on a growth rate of 1.7% per year (extrapolated from data between 2000 and 2014). Forecasts for battery-grade graphite demand are based on the forecast battery demand growth, assuming a split of 65% natural to 35% synthetic and a yield of 0.4 tonnes of battery-grade graphite per tonne of flake graphite.

For the ten years between 2015 and 2025, forecast demand growth is about 250,000 tonnes per year, of which 180,000 tonnes will be used in the production of lithium ion batteries.

Upgrading of flake graphite for use in lithium ion batteries

Graphite mines typically produce a flake graphite flotation concentrate which ranges from 90% to about 98% purity. In order to produce a battery-grade graphite from flake graphite concentrate, the graphite has to be purified to about 99.95% and the shape of the graphite particle has to be rounded to a "potato-like" shape, which is known as spherical graphite.

There are two common methods of purification, though there are many variations on each method, and in some cases, both methods may be used to achieve the final purity. Chemical purification usually includes baking the graphite in a solution of hot caustic soda, followed by washing (leaching) in acid. Depending on the impurities which have to be removed, sulphuric, hydrochloric or hydrofluoric acids are used in the leaching process. Many of the small Chinese mines use chemical purification and have been criticised for not adequately handling the waste acid in a safe and environmentally acceptable manner, particularly where the purification process uses hydrofluoric acid.

The second method, usually more expensive than chemical treatment, is thermal purification. In this process, the graphite is heated to high temperatures and treated with halide gases to dissolve the impurities.

Beware of headlines from prospective graphite companies which read "test results show our graphite can be upgraded to battery grade without chemical purification" - read the fine print and you will find they are using thermal purification. Similarly, if the headline reads "test results show our graphite can be upgraded to battery grade without expensive thermal purification", it simply means that the company has chosen the chemical purification route.

Modifying the particle shape, commonly called spheroidization, is done to increase the packing density of natural graphite. The spheroidization process typically has yields of only 30-70% of the initial feed, with the waste being sold as low-value amorphous graphite.

After spheroidization, coatings are applied to reduce the reactivity of the particles and to make the particles amenable to slurrying with water.

Flake graphite is sold in a range of flake sizes and purities. Non-battery applications, primarily for refractories in the steel industry, use flake graphite concentrates ranging from 90% to 97% in purity. Higher purity concentrates have higher value, but flake size is the primary driver of value, with higher flake sizes commanding higher prices. There is no advantage to having higher purity if the market into which the graphite is being sold does not require high purity.

Flake graphite for batteries is milled to sizes ranging from 10 to 50 microns, but manufacturers of battery-grade graphite prefer to start with flake sizes above 100 micron because the very fine sizes are more difficult to purify, and generally have lower yields from the spheroidization process. Most of the world's battery graphite originates from China. Typically, Chinese mines will sell flake concentrate to a third-party processor for purification and spheroidization. The final coating is normally done by Chinese, Japanese and Korean anode material manufacturers who sell the finished coated, spherical graphite to battery companies.

Potential suppliers of flake graphite

The following mining companies are among those that have successfully produced and tested battery-grade graphite in standard coin cell tests. Each company has demonstrated that their natural graphite can be upgraded for use in lithium ion batteries, with properties equal to or better than synthetic equivalents, and better than natural graphite from existing Chinese suppliers:

ASX-based companies:

TSX-based companies:

Below is a summary of the status of the proposed graphite projects at each of these companies:

Battery-grade graphite does not require graphite with "unique" properties. It can be produced from almost any good quality flake graphite concentrate. The selected purification process and the cost of purification and spheroidization will vary depending in the flake concentrate feedstock, but there is no magic bullet which limits the supply of battery-grade graphite to a few selected producers. Starting with the right flake sizes and a high-purity concentrate is an obvious advantage, but it does not necessarily prevent others from entering the market.

The list of potential suppliers is by no means limited to the companies I have listed here. In fact, there are more than 200 junior mining companies actively pursuing graphite projects around the world.

It seems, therefore, that the forecast demand growth can easily be met by projects that are in advanced stages, and even if demand is significantly higher than forecast, there will be no looming shortage of supply.

In fact, there are far too many companies chasing too small a market, and only a handful are ever likely to get into production.

The likely winners

Syrah Resources is an obvious choice to be a the first major supplier of battery-grade graphite outside of China, for the simple reason that it is the only mining company which has so far managed to raise the money to build its project.

Syrah's Balama graphite project in Mozambique is fully financed, permitted and under construction. Results of the Syrah feasibility study are summarized below:

Early investors in Syrah have done very well. Even those who invested in the capital raising for the project financing in August 2015 have almost doubled their investment. However, I think the money has already been made on this one, and the upside is limited. Syrah's market cap is about $AUS1.6 billion, equivalent to $US1.2 billion. Deducting the value of the cash and the value of the work done to date on the Balama project, the Enterprise Value of the company works out to about $US800 million. At the current price, I think the shares are fully valued, and any bad news will put downward pressure on the stock.

Among possible catalysts for a downward move are:

Later-than-expected start-up - Syrah is telling us the project is on schedule for a start-up and commercial production in 2017. However, photographs of the site from June 2016 show progress on earthworks and foundations, with no structural work or equipment installation yet completed. Based on my own experience of mining projects, I estimate a more realistic target of mechanical completion at the end of 2017, followed by three to six months of commissioning before commercial production.

Project over budget - There has been no announcement that the project is over budget, but the fact that Syrah recently raised an extra $194 million through a share offering provides an indication that the company may be planning for such a contingency.

Start-up and quality issues - It is unusual for a new plant start-up to go exactly as planned. There are always a few hiccups along the way, and I don't expect the Balama project to be any different, especially given the lack of graphite processing experience available outside of China.

Another downside to the Syrah project is the poor quality of the graphite, which contains a high proportion of low-value fine materials and very little of the high-value large flake sizes. Syrah is hoping to sell this low-value graphite as a re-carburizer in iron and steel making, replacing calcined petroleum coke. It will take time to develop that market, and Syrah may well find that its sales do not come close to the targeted 355,000 tpa for several years after start-up. There is a risk that, in order to sell all of their planned production, the company will have to dump a lot of lower-quality graphite on the market at low prices.

I used to own shares in Syrah, but I have now sold, because I believe the potential risk outweighs any rewards from further appreciation in the stock price.

Magnis Resources is developing the Nachu graphite project in Tanzania. Magnis' expectations received a setback last year when promised financing from a Chinese off-take partner failed to materialize. To get the project back on track, Magnis approached Korean steel and industrial conglomerate POSCO. However, POSCO required additional exploration drilling and further engineering work to bring the feasibility study up to bankable standards. An updated study was issued earlier this year with the following key results:

Funding for the project has not yet been announced, but is expected to come, at least partially, from Korean partners. The terms of that funding could have implications for the share price.

Magnis' undiluted market cap is $AUS400 million, or $US300 million. However, there are a number of "in the money" warrants outstanding from a fire sale in 2013. Magnis was formerly Uranex, a uranium exploration company which was on the verge of bankruptcy in 2013, and was kept alive by the sale, for one cent each, of over 200 million warrants with an exercise price of 10 cents and expiry date in March 2017. Purchasers of those warrants have made profits that would make any investor drool - see this article from The Australian.

Magnis' share price is up over 300% this year, so investors might be excused for thinking that the easy money has been made. However, the company's Enterprise Value, after accounting for dilution from the "in the money" warrants works out to about $US370 million, which is about 22% of the estimated project NPV, compared to Syrah's 73%. A fact which indicates that there is still some upside in Magnis' share price.

The main reason for liking Magnis is the extremely high quality of the graphite. The deposit contains a very high proportion of large flake sizes, which can be purified to >99% total graphitic carbon using only flotation (no chemical or thermal processing). The company has been able to produce a 99.95% battery-grade graphite from a flotation concentrate, using a thermal treatment applied during the coating process. Although details of this process are proprietary, it appears to suggest that Magnis has a low-cost option for producing battery-grade graphite, especially considering that the company's yields from the spheroidization step are around 70% (versus 40% for Syrah).

A recent announcement that Magnis has been able to achieve a 65% improvement in battery capacity in coin cell tests, using a combination of Nachu graphite with 10% silicon, provides further evidence that it is aiming to be a technical leader in the industry.

In spite of a 300% increase this year, I believe that Magnis' share price has been held back by profit-taking from the 10 cent warrant holders. Over 100 million warrants have been exercised in the past six months, and most of those shares have probably been sold by the warrant holder (why cash in the warrants early, except to take profits?). Downward pressure from the exercising of the remaining 117 million warrants will no doubt put the brakes on the share price temporarily, and may create a lot of volatility. Keep an eye on the price movements and buy on the dips, with a target price of $AUS2.00.

Kibaran Resources is another Australian-based company that is developing the Epanko graphite project in Tanzania. Kibaran's bankable feasibility study produced the following results:

The company also has a large proportion of high-value large flake sizes, and a concentrate purity which easily meets the specifications for sale into the refractory and steel industries. 30,000 tonnes of Kibaran's production is covered by off-take agreements with an un-named European graphite distributor, and with German steel and industrial conglomerate ThyssenKrupp (OTCPK:TYEKF).

Financing is expected to come via German investment bank Kfw-Ipex, with government-backed loan guarantee, and African development bank Nedbank. An independent engineering assessment has been completed as part of the due diligence process, which should allow the financing to proceed this year.

Kibaran's market cap is about $AUS42 million, or $US31 million, about 16% of the project NPV.

Although 75% of the company's production is targeted towards the European steel industry, the company is targeting the lithium ion battery industry for the remainder. An MOU signed recently with Japanese trading company Sojitz aims to sell into the Japanese market for battery-grade graphite.

Kibaran's share price has not yet seen the upward moves that have been made by Syrah and Magnis this year. However, the project shows a good return in investment and looks like it may well get financing. There is significant upside.

TSX-listed companies

Although many of the TSX-listed companies have produced economic assessments with positive results, I would not recommend investing in any of them right now, for the following reasons:

Too many companies chasing too small a market

There are too many companies chasing too small a market, with very little to differentiate between them.

Most North American-based graphite companies are hoping for a boost in U.S. graphite consumption from the growth in automotive battery production, but there is no certainty that this will happen.

Most of the publicity centers around the Tesla-proposed giga-factory in Nevada, but the first major US battery factory is, in fact, the LG Chem facility which produces lithium ion batteries for the Chevrolet Bolt. At some time in the future, LG Chem may expand production from 650 MwH to 3 Gwh per year, which would require 30,000 tonnes of battery-grade graphite. As far as I know, LG Chem has no plans to preferentially source this material from North American suppliers.

Tesla, on the other hand, has stated that it intends to use North American-sourced raw materials where possible. Some analysts have interpreted this as creating a demand for 50,000 tonnes of battery-grade natural graphite (requiring about 120,000 tonnes of flake graphite). However, Tesla has also stated that it is using synthetic graphite in the Tesla batteries - (Ref.: This quote from Tesla's investor conference call " the main determinants on the cost of the cell are the price of the nickel in the form that we need it... and the cost of the synthetic graphite with silicon oxide coating - Tesla CEO, Elon Musk"). The demand from Tesla may well be zero.

Maybe one day a company such as Focus, Mason Graphite (OTCQX:MGPHF), Northern or one of the others will sign a deal to supply natural graphite to LG Chem or Tesla, but right now, I see that as unlikely; and in any case, it is impossible to determine which of the many prospective suppliers will be the winner, if it ever does happen.

Too long a project schedule

The timeline to get a project from feasibility study to production in North America is just too long. Permitting, environmental studies, local issues such as first nations discussions, dealing with objections from environmental groups etc. create delays, so that a four-year stretch between feasibility and production becomes normal.

Tesla's giga-factory is due to start production in 2017, but given the length of time required for financing and permitting, none of the prospective north American graphite mines can reasonably expect to be producing before 2020. So it is likely that the grand prize of a supply contract with Tesla is out of reach for now, and that graphite for the giga-factory batteries will either be sourced off-shore or will be synthetic.

The three ASX-listed companies that I mention in this article are much further ahead in their project development, and the market may well be saturated with new supply before any of the TSX-listed companies can reach production

Financing on the TSX has become very difficult

Despite positive economic projections, Focus, Northern, Energizer and Mason have made no significant progress towards project development since completing their feasibility studies. These companies seem to be able to raise small amounts to keep themselves alive and to fund further study, but none of them are able to raise financing for the project development.

The simple fact is that the capital raising process on the TSX venture exchange is broken, and until it gets fixed, there is little hope of any of the prospective graphite miners raising funds for their project. Without financing, there is no value.

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Analyst’s Disclosure: I am/we are long URNXF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. I am long MNS and KNL on the Australian exchange.

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