“Smash China’s Monopoly” (Asian Profit Play #3)

By Travis Johnson, Stock Gumshoe, August 3, 2011

“Asian Profit Play #3:
“A Company About To Smash China’s Monopoly On Rare Earth Minerals. A Probable Triple!”

I don’t know whether there’s something magic about a “triple” that makes Tony Sagami use it as his default promise for stock picks, but for some reason his latest ad that promised three Asian profit plays touted each of them as potential triples (or quadruples really, since it sounds like he actually meant 300% gains) … just the magic of three plays and 300% gains? I dunno, but this last one was the one that he sounded perhaps the most excited about — a rare earths stock poised to cut into China’s market share.

If you haven’t already sat through a few hundred teasers about rare earths stocks, here’s the big picture from the ad:

“What do cell phones, semiconductors, lasers, fiber-optic cables, plasma TVs, hybrid cars, microwave ovens, and even Scud missiles all have in common?

“All of these diverse items — and just about anything electronic — contain some of the 17 elements that the United States Geological Survey (USGS) has identified as rare earth minerals….

“These minerals have very special physical and chemical attributes, such as high degrees of magnetism, luminosity, superconductivity or environmental non-toxicity.

“They are as strategically important as oil, copper, uranium, natural gas, and coal.

“But the fact of the matter is that rare earth minerals are in shorter supply today than just about any commodity on the planet.

“Problem is, China controls 95% of the world’s processing of rare earth minerals and prices are going through the roof.”

And yes, it certainly has been all about “big picture” and “story investing” as we’ve watched the crazy climbs of stocks like Molycorp (MCP) or Rare Element Resources (REE) over the last year — it’s tough to justify a single rare earth explorer or miner based on their earnings … or heck, even their revenues, since most of the stocks we hear touted in this little micro-niche haven’t ever sold an ounce of anything, and won’t for many years even in their own optimistic scenarios (like those Greenland rare earths picks that keep hitting my inbox).

But still, many of these companies have potentially valuable assets, and when a whole bunch of stocks go up 200, 300, 500% or more in a little niche, it catches peoples attention — and now that many of those same stocks have finally come off their speculative highs a little bit, perhaps there’s something worth sampling?

But we’re getting ahead of ourselves — let’s identify the stock first, shall we? And for that, we need a few little snippets of clues from Mr. Sagami:

“The company I just visited in Malaysia … is building the first rare earth metals processing facility outside China in decades!

“The simple truth is that this company is poised to take away 30% of China’s market share in rare earth minerals processing.

“It has a $500 million processing plant near completion … and despite some regulatory hassles, it effectively has the government of Malaysia backing it … the Malaysian Atomic Energy Licensing Board has already approved it.

“The stock is dirt-cheap … the company has ZERO debt and about $288 million in cash in the bank.

“When it’s fully up and running, which should be in four to six months — it’s expected to have annual processing capacity of 22,000 metric tons of rare earth minerals in the first year.

“Figuring an average price of about $151 per metric ton on the sales side, this company should pull in nearly $1.66 million or so in revenue just in its first year, and spin off as much as 91 cents per share in earnings.

“Ninety-one cents may not sound like much but the stock is only trading at just over two times those projected earnings right now. Once the Wall Street crowd catches on to this AMAZING gem of a company, and the P/E ratio expands to just 10 times earnings, its share price could easily triple, or even quintuple. That’s enough to turn every $2,000 you invest into as much as $8,000 and possibly much more!”

So who is it? This, my friends, is our old buddy Lynas (LYSCF on the pinks, LYC in Australia). The stock that gave me my entree into rare earth minerals investing when I first sleuthed it out and wrote about it for you a little over four years ago. It has been through quite a wild life in just a few short years (and I did own it for a while, though I sold years ago), with a boom in “break the China monopoly” interest in 2007 and 2008 and then a “they’ll never raise any more money” or “they’ll get snapped up by the Chinese for pennies” doom and gloom during the market crash … then another boom as they came roaring back to life, with a stock price to prove it, last year.

This is a little Australian miner that has been extracting ore from its large Mount Weld deposit Down Under for quite a while now, but rare earths processing and refining — the part where you take that ore, or concentrated ore, and turn it into the specific rare earth metals that the market wats — is dirty and expensive and difficult. So they chose to ship their ore off to a new Malaysian plant that they’re building rather than try to process and refine it at home (or, as in the “plan B” that was floated when the company was on the verge of going under, ship it to China for refining like most everyone else does).

So yes, there’s a significant Malaysia connection — the rare earths are difficult to find in economic quantities, but they’re not all that super-rare … refining capacity, however, is rarer than hen’s teeth — that’s where China’s monopoly really hits home. China used their cheap labor and abundant rare earths resources to effectively shut down all other rare earth plants and mines in the world by making them uneconomical a decade or more ago, then used their effective monopoly to force manufacturers to do their manufacturing in China if they wanted access to these vital metals — not just a profit-driven move to corner the rare earths market, but a strategic move to boost their own high tech manufacturing sector.

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It’s been slow rolling to build up any real competition, since there hasn’t until recently been an economic argument in favor of new rare earths mines — China was still selling the stuff pretty cheap, and big companies and Western governments are never going to be as far-sighted or strategic in their thinking as the Chinese government, so no one was willing to throw billions into building mines and plants that weren’t guaranteed a profit (and were guaranteed to inspire local opposition — rare earths plants have a tendency to be nasty, toxic and radioactive — the stuff is usually found next to uranium or thorium, just to make it all the more challenging).

But now, with Chinese rare earth quotas being cut and cut again in the last year, attention has been strongly focused on all of the rare earths miners — and especially on those who are possibly within a year or a few years of actual production, which is a very short list compared to the many penny stock pretenders to the rare earths throne. Lynas comes out on top of most lists as the company most likely to produce rare earth oxides outside of China, thanks to their stockpile of ore in Australia and this Malaysian refinery that they’re building — they’ve said that they expect the refinery to be online by the end of this year, and that they’ll be delivering end product to customers by early next year.

So it should come as no surprise that recent concern about this Malaysian plant did a number on Lynas’ share price — the New York Times ran either an illuminating investigational piece or a hatchet job (depending on whether you’re a shareholder of Lynas or not) on the Malaysian project back at the end of June, and the shares dipped immediately to A$1.75 … though Lynas responded pretty forcefully and the shares recovered to their current A$2+ (it closed in Australia at A$2.07, which translates to US$2.21 … current trading on the pink sheets is at about $2.17 as I type). Lynas’ latest update on the status of this project, which they call the Lynas Advanced Materials Plant (LAMP), is here. (You can also click here for their latest presentation to media and investors, and here for their last quarterly release which has more numbers).

Assuming that the Malaysian plant does not fal