ALB's "Reality Distortion Field"

The top management of Albemarle spent time with Deutsche Bank analysts recently. I read DB’s report on the Charlotte meetings with interest. No surprise to me that DB maintains a “buy” rating on ALB given the current strength of the lithium market and the high quality lithium assets that ALB acquired when they bought Rockwood.

Albemarle continues to have great lithium earnings and is viewed as “the only game in town” by many large and mid-sized US institutions wanting exposure to lithium via US markets. 

So why am I writing about ALB yet again? DB’s summary of key takeaways from the meetings clearly demonstrated that like Apple’s legendary founder, Steve Jobs – ALB’s CEO and top management have a well-developed “RDF”- REALITY DISTORTION FIELD. Let's take a look.

In Apple’s case, the RDF was generated by Steve Jobs charisma, perfectionist tendencies and unwillingness to accept failure. In the case of ALB, the RDF is generated more by lack of understanding of a market relatively new to them and a “fake it until you make it” approach to becoming the leading the supplier to the lithium ion battery market.  

Mr. Luke Kissam, ALB’s CEO has tried to create the impression that ALB is the leader in lithium supply to the rapidly growing lithium ion battery market. He has also stated that ALB intends “to capture 50% of industry growth going forward”. Unfortunately, ALB is not currently the leader in supply to the battery market nor do they have a reasonable expectation capturing even 25% of future growth. This is example #1 of ALB’s robust REALITY DISTORTION FIELD.

When ALB purchased Rockwood they acquired the world’s largest (measured by sales revenue) and most diverse lithium business. However, Rockwood's only clear industry leadership was in their downstream organics business not necessarily their strength in carbonate and hydroxide. Rockwood was actually a laggard in supplying the lithium ion battery sector. SQM was and is the leader supplying lithium carbonate to the battery market. FMC was the leader in hydroxide supply at the time of acquisition but that is no longer the case. Unfortunately, ALB was not the company replacing FMC as the hydroxide leader.

Figure 3 in the DB report makes the carbonate point clear. By ALB’s own admission their major operating lithium carbonate production asset (the original La Negra plant) produces “mostly non battery grade”. Silver Peak is a tiny plant that has never produced 6K MT of battery quality in a year. La Negra II is still in start-up mode. Volumes will be below expectation in 2017. SQM is far and away the leader in carbonate to the battery market followed by the other non-ALB “Big Four” players.

ALB’s King’s Mountain hydroxide plant was a major flop on volume and promised quality. ALB acquired one of several China players (Jiangli New Materials) in order to become a serious volume player in hydroxide supply to the battery market on the heels of the KM failure but they are, at best, just one of many suppliers. An "also-ran" if you will.

On to the DB “key takeaways”. There is a major difference between not maximizing price and pricing well below the market. It seems example #2 of the RDF at work is calling a price strategy where ALB’s price is more than 30% less than some competitors a “thoughtful” approach that will “create partnerships”. Currently some of ALB’s prices are below the cash cost of the high cost hard rock producer. ALB's latest idea: going from "3 to 5" to "7-10" year contracts will ensure up to a decade of sub-par price performance vs competitors. At best, an odd strategy when you are arguably one of the lowest cost producers. The net result will be little more than an extended period of “transfer payments” from ALB shareholders to customers via irresponsibly low price. I have been selling to the battery market for 21 years longer than ALB has owned Rockwood. If Luke thinks ALB’s contracts will get them anything more than lowest common denominator pricing in a future oversupply situation, he should go back over his contract law class notes. Why pay to secure volume that your cost position ensures in an oversupplied market? The reality being distorted here is that ALB’s lack of candor on how and why they price as they do is about managing earnings – not customer relationships.

The RDF kicks into high gear when ALB talks about WAVE I and WAVE 2 expansions. A quick look back at DB Figure 3 demonstrates the issue – new projects on three continents. ALB’s best performing operations are ones they don’t operate – the Talison Greenbushes plant and China toll production. Currently ALB is having difficulty in the Atacama – at both La Negra I and II. You don’t need to take my word for it; check ALB’s export performance from Chile. The King’s Mountain hydroxide plant has been a five-year saga of poor performance so why should anyone believe ALB is suddenly going to be able to execute projects simultaneously on three continents (Asia, South America and Australia) from HQ based in a fourth (North America)? 

Over the next five years the “Lithium Star Alliance” led by Ganfeng is likely to secure the lithium industry hegemony that Cool Hand Luke publicly covets. No, the party is not over yet for ALB investors - great existing assets and Luke’s brilliant earnings management will allow the “Lithium Icarus” to soar towards sun for another couple of years until the wax melts in the heat created by failed and/or delayed expansions and clarity on how flawed the long term low price strategy is.

Sometimes "reality bites".