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Molycorp: Remain On The Sidelines As Mountain Pass Ramp Up Will Take Time

 January 14, 2013 12:32 PM

(By Mani) Shares of Molycorp, Inc. (NYSE: MCP) will look for direction until its balance sheet improves, the ramp up at Mountain Pass is demonstrated to the market, and the construction is completed to 40,000 tonnes per annum (tpa) capacity.

Molycorp is the largest existing supplier of rare earth oxides outside of China. It has mined and manufactured rare earth products at its Mountain Pass, California facility for more than 58 years and is now building a new mill and separation facility.

The company is poised to become the first large-scale North American producer of rare earths in the past seven years and represents an opportunity to participate in the re-rating of the company to producer status post the construction of the fully expanded Mountain Pass facility in 2013.

[Related -Molycorp Inc (MCP): Will Q3 Results Impress Investors?]

However, a drop in the price of rare earth metals have dampened the ramp up of the Mountain Pass facility. The company expects that with an orderly ramp up of production it will reach or exceed its Phase 1 run rate of 19,050 metric tons per year (mt/year) of rare earth oxide equivalent (REO) by mid-year.

"While it does not surprise us that the ramp up to Phase 1 design of 19,000 tpa is occurring slower than expected, we believe that it does little to improve how investors perceive the stock," CIBC analyst Matthew Gibson wrote in a note to clients.

Now, the investors would take a wait-and-see approach to the stock as it ramps up production in the first half of 2013, and the market to have taken a more conservative view on the longer-term ramp up to 40,000 tpa, now expecting the operation to reach this rate in 2015.

[Related -Molycorp, Inc. (MCP): Bottom Fishing Insider Buy?]

"Should rare earth demand improve substantially, it is possible that this ramp up is pushed forward; however, we have chosen to be more conservative at this time," Gibson said.

Due to lower-than-expected production over the first half of 2013 time period, the company will likely have to see $200 million in additional equity financing in a challenging market. It is also possible that additional debt financing is secured to fund the remainder of the capital spend.

"The additional dilution combined with slower ramp up assumptions for the operation has reduced our NAV per share from $20 to $17," Gibson said.

The Mountain Pass complex is designed to be able to allow for expanded production to a "Phase 2" rate of as much as 40,000 mt/year of rare earth oxide equivalent. However, Molycorp stated that, while most of the equipment necessary to complete Project Phoenix Phase 2 is already on site, the decision to complete Phase 2 construction and start-up will not be made until market demand, product pricing, capital availability, and financial returns justify additional increases in production beyond Phase 1.

The decline in rare earth prices has noticeably slowed over the past year inside China, and most recently prices have started to flatten due to supply cutbacks inside China. Only, an increase in demand could bring capacity back online.

Curbs to the illegal smuggling of rare earth inside China will also help this as this activity continues it put undue pressure on prices outside China, which has a basket price of $34.52 per kilogram inside the country.

"We expect further pressure on prices over the course of 2013 and are forecasting a basket price for Molycorp of ~$16/kg in 2013 on average and ~$18/kg long term; the difference in basket prices is related to the total volume of transferred material to downstream business lines," Gibson noted.

iStock believes that the slower-than-expected ramp up could create more stress on the company's balance sheet, requiring it to seek external funding to complete construction in 2013. As a result, investors should remain on the sidelines in the near-term.



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