SVH Tracker - January 17, 2017: Recommendation Strategy for Namibia Rare Earths Inc
Namibia Rare Earths Inc at $0.05 on December 30, 2016 squeaked an 11% gain from the $0.045 price at which it was rolled over from the SVH 2015 Edition to the SVH 2016 Edition on December 31, 2015 as a Good Relative Spec Value Buy based on its status as an optionality play on higher heavy rare earth prices. The junior spent 2016 preparing an application for a mining lease even though the US $20 million it spent on the Lofdal heavy rare earth project has only achieved a PEA level economic study. At the same time its treasury has declined to about $300,000 working capital and at the end of 2016 the junior was preparing to go into hibernation. The SVH Tracker Mar 20, 2015r is still current except that the spot basket price is even lower. Rare earth oxide prices did not participate in the Trump "infrastructure" rally and in some cases are starting to sink below the lows that prevailed at the start of 2009 after the big crash. The problem is that China's efforts to control illegal rare earth production have been a monumental failure. It is estimated that illegal operations churn out 30,000 tonnes on top of the 120,000 tonnes of official supply. Chinese rare earth mines and their separation facilities are a hideous source of water pollution, especially the ion adsorption clays which are the world's primary source of the heavy rare earths of which the most important are dysprosium and terbium. These low grade clay deposits are a product of surficial weathering, similar to laterites, which means that once you have stripped away the ore, you cannot find more by simply digging deeper. Heavy rare earths represented less than 11% of all rare earth production by volume in 2015 (124,000 tonnes - USGS), but they represented nearly 25% of the USD $1.9 billion value of the 2015 production at average annual spot prices. Dysprosium and terbium represented 66% of heavy rare earth production by value but only 8% by volume. They play a critical role in magnet technologies which are dominated by the light rare earths neodymium and praseodymium which represented 20% of production by volume and 60% by value. Dysprosium and terbium added in small amounts to powerful "neo-magnets" made of neodymium and/or praseodymium enable these magnets to retain their magnetism under high temperature conditions. Rare earth deposits tend to be dominated by the so-called light rare earths; deposits with more than 15% heavy rare earths are described has "heavy rare earth enriched deposits". Long term demand for neodymium and praseodymium will continue to rise because there is no substitute for the magnets they make possible. Their prices are stable and supply is not a problem because there are plenty of light rare earth deposits in China and the rest of the world. These deposits tend to have such a small percentage of heavy rare earths that it is just not worth the bother to recover them. Apart from its ion adsorption clay deposits China is not well endowed with heavy rare earth resources. The clay deposits are depleting and represent a long term supply problem even for China which at some point will have to re-impose export quotas to protect domestic users. Demand for dysprosium and terbium as a magnet additive is a function of global demand for neo-magnets, but its demand growth has not tracked that of neodymium and praseodymium because of thrifting, the deployment of innovation to squeeze the same functionality out of a smaller input amount. But short of coming up with a substitute, there is a limit to how much innovation can accomplish through thrifting and that limit has likely been reached since the 2010 panic.
At some point the world will need a non-Chinese supply of the heavy rare earths, whether due to depletion or strategic supply disruptions. The richest heavy rare earth deposit is the Strange Lake system which straddles the boundary of northern Quebec and Labrador. It is hampered by its remote location and difficult metallurgy. The second best deposit is the Norra Karr deposit in Sweden which has half the grade of Strange Lake but a simpler mineralogy. It is hampered by fierce "not-in-my-backyard" local opposition. NRE's Lofdal Area 4 deposit is smaller and somewhat lower grade than Norra Karr, but it has a heavy rare earth distribution of 90% because the dominant mineral is xenotime. That makes Lofdal similar to the Chinese clay deposits except that they are bedrock hosted rather than surficial. Heavy rare earths represent 97.8% of the recoverable rare earths and 99.6% of the basket value at current prices. The light rare earths are not worth the trouble to recover. Although terbium and dysprosium represent just over 10% of the recoverable Lofdal volume, they represent 48% of the value. Yttrium which is 68% of the volume is only 5% of the value. The heavy rare earths lutetium, thulium and erbium, only 8% of the volume, represent 40% of the remaining value. Namibia Rare Earths used a price deck for its PEA which worked out to $106/kg of the recoverable rare earth basket; the spot price is only $44/kg. Lofdal needs a tripling of rare earth prices to be worth developing, though management is exploring an innovation path that requires a smaller price increase.
NRE was spun out from Etruscan in 2010 to allow exploration of the Lofdal carbonatite complex in Namibia. The junior missed the rare earth boom because initially it was a grassroots exploration play destined to deliver a deposit with a light rare earth distribution of which there was lots of higher grade competition outside of China. But soil sampling revealed a heavy rare earth enrichment in certain parts of the property which eventually led to the discovery of the Lofdal Area 4 "dykes" which were dominated by xenotime. But by the time NRE was listed in early 2011 the bubble had peaked and by the time it delivered its PEA in 2014 the bubble had long since deflated; nobody made any money through NRE as a rare earth stock play. NRE also suffers from an additional problem in that the 2,500 tpd scale proposed by the PEA is too small to support a heavy rare earth separation facility. This left NRE with the option of sending concentrates to China, which defeats the security of supply argument for developing a heavy rare earth supply outside of China, and in any case cannot happen unless NRE figures out how to remove the radioactive thorium from the concentrate, or doing a deal whereby Solvay would separate the concentrates at its La Rochelle facility in France. With heavy rare earths in surplus supply during the past few years, and the domestic-export price differential gone, Solvay has no need to do anything other than wait for NRE to give the project away or have the government take it back. The PEA made a provision of USD $21.80 per kg of recoverable rare earths as a separation cost. Overcoming the separation problem is one of two technical challenges facing NRE; the other is project title.
NRE is tricky as an optionality play on higher heavy rare earth prices because it cannot indefinitely secure exploration license renewals. The junior has a good relationship with the Namibian government, which also has a desire to see domestic beneficiation take place. It does have experience with uranium mining, so dealing with the radioactive thorium by-product is not a political bugaboo. The junior is also investigating innovative recovery methods that could eliminate the need for a full-fledged standalone separation facility, possibly by targeting only the valuable heavy rare earths dysprosium and terbium and maybe the valuable exotics. This recovery oriented innovation channel which targets the $21/80/kg separation provision in the PEA could be of big interest to Namibia because if separated rare earth oxides could be produced inside the country, it could support a downstream technology research and manufacturing industry. This is something of great interest to one of the most stable African nations which is also a major staging point for European tourists. The Lofdal carbonatite has lots of exploration potential for additional heavy rare earth enriched dykes and other critical metals. I've even joked to Don Burton that if heavy rare earth enriched zones exist within the Lofdal system, why not scandium enriched zones? Without question the Lofdal carbonatite is an academic geologist's dream. But there is no point in spending any money on exploration if long term title is not secure. NRE has applied for mining title even though Lofdal is neither technically nor economically ready to be developed as a mine because the company hopes that the government will see the wisdom of granting secure long term title to a junior which has operated in good faith to discover and advance an important future source of heavy rare earths. It is difficult to predict when the Chinese supply of heavy rare earths will diminish or be disrupted, so it makes sense for NRE to go into hibernation with regard to the Lofdal Area 4 deposit. Until it happens it is also just a prayer and a hope that NRE will get the title that allows it to dig in for the long haul. So for now NRE is a waiting game, which is why I have closed out the junior as an SVH buy recommendation and transferred it to the 2016-2017 bottom-fish edition as a long term accumulation target below $0.10. I expect 2017 to be a quiet year for Namibia Rare Earths Inc, but bottom-fishers should keep in mind that the junior has only 80.8 million shares fully diluted of which insiders own 63%, half of which is owned by a pair of Silicon Valley investors, and has a management team experienced with exploration in Africa. Bottom-fishers should also note that the cost base for most of the shareholders is $0.10 or higher. Furthermore, all evidence of Endeavour and a certain Toronto wacko as shareholders has vanished. The worst case scenario is that NRE abandons the Lofdal project and turns itself into a shell for a new exploration project (sadly, that probably offers the biggest and fastest upside potential). The medium case scenario is that the junior sells the project for the US $20 million or so it spent on it, possibly to Solvay. The best case scenario is that China curtails the illegal heavy rare earth production and institutes a complete export ban on heavy rare earths as it engages Donald Trump in a geopolitical and trade war.
*JK owns shares in Namibia Rare Earths Inc