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Morningstar | Trimming Our Livent FVE to $17 on Lower Near-Term Profits; Shares Materially Undervalued

Livent saw lithium prices fall 11% during the first quarter versus a year ago, which was slightly above our expectations for lithium carbonate prices in 2019. However, a change in Chinese electric vehicle subsidy requirements has reduced lithium hydroxide demand in favor of lithium carbonate. As a result, the premium for lithium hydroxide over carbonate has eroded faster than our initial expectations, and we expect Livent to realize lower average prices over the next couple of years. Also, Livent's costs rose due to weather-related issues at the company's carbonate production facility in Argentina.

Having updated our model to account for lower near-term lithium hydroxide prices and higher unit production costs in 2019, we have reduced our fair value estimate to $17 per share from $18. Our narrow moat rating remains in place. At current prices, we view Livent as materially undervalued, with the shares trading at more than a 40% discount to our fair value estimate.

We have lowered our lithium hydroxide price outlook over the next couple of years due to a change in Chinese EV subsidies. The previous subsidies that were in place for 2019 included a battery energy density requirement that would typically require higher-priced lithium hydroxide to be used over lithium carbonate. However, the Chinese government removed the energy density requirement, and as a result, many Chinese automakers are continuing to use older battery cathode formulations, which use carbonate. As a result, demand for lithium has not materialized as quickly in 2019. As new supply has come on line, the premium paid for lithium hydroxide over carbonate has eroded.

While we had previously forecast the lithium hydroxide premium to erode over the long term to the cost of conversion, we now forecast this decline to occur at a quicker pace. Regardless, our long-term view remains firmly intact that greater EV adoption will require lower-quality, higher-cost supply to come on line.

Heavy rains affected all South American brine-based lithium producers during the first quarter. Lithium is produced from brine by pumping the brine into ponds, letting most of the water evaporate over roughly 18 months, and then processing the remaining salt. When it rains, lithium producers must either wait for the additional water to evaporate or process the diluted salt, which results in lower production rates and higher unit production costs. For Argentine producers, including Livent, this issue is compounded by lower concentrations of lithium in brine and lower natural evaporation rates in Argentina versus the Salar de Atacama desert in Chile where Albemarle and SQM produce lithium. As such, Livent will probably face elevated lithium unit production costs throughout 2019 as it deals with the additional processing costs, and we have adjusted our unit production cost forecast accordingly.

For more information on our long-term lithium outlook, please see our Nov. 30 report, "Put the Pedal to the Metal for Lithium Stocks."

For more information on our electric vehicle forecast, please see our Sept. 24 Observer, "Electric Vehicle Sales in China and Europe Will Leave U.S. in the Dust, Driving Above-Consensus Global Adoption Rates."