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Morningstar | SQM Shares Look Compelling Following Sell-Off Despite Our Reduced Near-Term Expectations

SQM reported detailed first-quarter results that were in line with our expectations as lithium prices fell 11% year on year to roughly $14,600 per metric ton. The company previously reported high-level results on April 26 following the annual shareholders meeting. However, in addition to the financial results, management guided to lithium prices falling to $11,000 to $12,000 per metric ton in the second half of 2019, which is slightly below our expectations for 2019 but is in line with our 2020 outlook. Further, management also delayed the startup date of a planned capacity increase to the second half of 2021, resulting in lower 2021 volumes.

Having updated our model to reflect these changes, we reduce our SQM fair value estimate to $62 per share from $64. However, our long-term outlook remains intact. With shares trading in 5-star territory, we view current prices as an attractive entry point for patient, long-term investors.

In our view, the market is forecasting that lithium prices will fall and remain lower for longer as new supply comes online. We forecast prices to fall to $10,000 per metric ton over the next couple of years from 2018 prices of around $13,000 on a Chilean LCE export basis. However, we contend that continued strong demand growth from greater electric vehicle adoption will require that lower-quality, higher-cost lithium resources ultimately be developed. Based on our outlook for the marginal cost of production, we forecast lithium carbonate prices of $12,000 per metric ton over the long term.

In the first quarter of 2019, unit production costs, excluding royalties, were nearly $5,000, well above the $3,500 per metric ton the company averaged in 2017 before the company began its now completed first capacity increase. Over time, we expect unit production costs to return to these historical levels as capacity utilization increases. Higher prices and lower costs should boost gross profit margins to 60%, versus 44% during the first quarter.

SQM is ramping up its annual lithium production capacity from the current 70,000 metric ton-level to over 200,000 metric tons over the next decade in three phases. The first phase, which was originally scheduled to be completed by the end of 2019, has been delayed twice and is now scheduled to be complete by the second half of 2021. Although the delay will reduce SQM's near-term profits from lower volumes, it should help to balance the lithium market and ultimately support higher prices.

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."