Molycorp Seen Too Cheap as Rare Earth Lures Deal Talk: Real M&A

Molycorp (MCP) Inc.’s gambit to supply Chinese-made magnets to carmakers in Japan is making it one of the mining industry’s most attractive takeover candidates.

The owner of the biggest U.S. rare-earth deposit, which rose 30 percent since agreeing in March to buy Neo Material Technologies Inc. to bolster its magnet-making ability, was still valued last week at 3.4 times next year’s earnings before interest, taxes, depreciation and amortization, according to data compiled by Bloomberg. That was cheaper than nine out of 10 metals and mining companies and a third less than the industry median, the data show.

“Molycorp’s cheap,” Scott Goginsky, a research analyst and money manager at Milford, Pennsylvania-based Biondo Investment Advisors LLC, which oversees $450 million and owns shares of Molycorp, said in a telephone interview. Being able to make magnets on its own “does help cushion some of the price concerns out there. It’s not just a commodity,” he said.

By transforming into a company that also makes magnets for cars, phones and tanks, Molycorp can protect investors from the kind of drop in rare-earth prices that erased 70 percent of its value, Byron Capital Markets Ltd. said. Molycorp will gain processing sites in China (600111), where 90 percent of the world’s rare- earth supply is unearthed. That could lure BHP Billiton Ltd. (BHP) or Rio Tinto Group (RIO), Oracle Investment Research said, just as rare- earth prices rose last week for the first time in four months.

Jim Sims, a spokesman at Greenwood Village, Colorado-based Molycorp, said the company doesn’t comment on rumors when asked whether it would consider selling itself or has been approached about an acquisition.

Today’s Trading

Molycorp’s shares rose 3.9 percent to $35.16 at 9:54 a.m. in New York, the sixth-biggest gain in the Russell 1000 Index.

The rare-earth elements are 17 chemically similar metals, such as lanthanum, neodymium and dysprosium. They are used in iPads made by Apple Inc. (AAPL), Research In Motion Ltd. (RIM)’s BlackBerrys, General Motors Co. (GM)’s plug-in Volt, Toyota Motor Corp. (7203)’s Prius and Tomahawk cruise missiles made by Raytheon Co. (RTN)

While rare-earth metals are relatively abundant in the earth’s crust, finding deposits large enough to mine is less common, according to the U.S. Geological Survey.

They are also expensive for producers to extract and are often laced with radioactive elements. China has come to dominate the market for the metals because it has been able to produce them more cheaply and with fewer environmental restrictions than its competitors.

Molycorp (.MCPCAP), which owns a 2,222-acre site in the Mojave Desert that once produced a majority of the world’s rare-earth metals before it was shut, opened the site in December 2010.

Acquisition Detail

With Molycorp’s agreement on March 8 to buy Toronto-based Neo Material (NEM) for C$1.3 billion ($1.3 billion), the company will gain production factories in China, Thailand and North America to complement a magnet-making facility at its own site in Mountain Pass, California.

It will also acquire Neo Material’s patented Magnequench range of metal powders used to make neodymium-iron-boron magnets, which are found in electronic motors and sensors.

Molycorp will have the ability to produce the two main types of rare-earth magnets that most automakers use today, as well as the only operational rare-earth mine in the U.S. once the acquisition is completed, according to Jonathan Hykawy, a Toronto-based analyst at Byron Capital.

While most rare-earth mining companies only produce the elements in oxide form, Molycorp will use some of the minerals it excavates to make sintered magnets, which are used in motors that power hybrid and electric cars. Neo Material will also give it the ability to produce bonded magnets that enable car windows to move up and down and seats to slide back and forth.

‘Earning Power’

Because magnets sell for higher prices than the raw materials used to make them, Molycorp can generate greater profits than other rare-earth mining companies, Hykawy said.

He estimates $80 of neodymium oxide can be used to produce as much as $1,700 worth of high-end magnets.

Molycorp will turn each dollar of sales next year into 35 cents of net income, according to analysts’ estimates compiled by Bloomberg. That’s 40 percent more than what they anticipate for Inner Mongolia Baotou Steel Rare-Earth Hi-Tech Co., China’s biggest producer of rare-earth metals, the data show.

“Molycorp’s potential in terms of its earning power is well above that of Baotou,” Hykawy said in a telephone interview. “Molycorp is undervalued. There’s a growing realization that the Molycorp model is the right way to go.”

As Molycorp boosts production of rare-earth minerals and magnets, its earnings before interest, taxes, depreciation and amortization will jump to a record $769 million in 2013, analysts’ estimates compiled by Bloomberg show.

BHP, Rio Tinto

That’s more than three times the $230 million in Ebitda that analysts anticipate for Molycorp this year.

Based on next year’s Ebitda estimates, Molycorp traded last week at a 38 percent discount to the median multiple of 5.5 times Ebitda for metals and mining companies with at least $1 billion in market value, data compiled by Bloomberg show.

Baotou, based in Baotou, Inner Mongolia, sold for 9.3 times its 2013 Ebitda, data compiled by Bloomberg show.

BHP and Rio Tinto, two of the world’s three largest mining companies, could buy Molycorp before its earnings surge and gain control of the growing market for rare earths, according to Laurence Balter, a money manager at Fox Island, Washington-based Oracle Investment, which oversees $100 million.

Global demand for the elements may more than double by 2020 from 125,000 metric tons in 2010, according to Molycorp’s filing last year with the Securities and Exchange Commission.

‘Scarce Assets’

“Molycorp is a very unique company with scarce assets and for that reason it may be of interest to other larger players,” said Lawrence Creatura, a Rochester, New York-based fund manager at Federated Investors Inc., which oversees $369 billion. “It’s conceivable that someone could want to buy them.”

Ruban Yogarajah, a spokesman for Melbourne-based BHP, and London-based Rio Tinto’s Tony Shaffer declined to comment on whether their companies are interested in acquiring Molycorp.

Brian Chin, an analyst for Gabelli & Co. in Rye, New York, says the biggest mining companies could still pass over Molycorp because the $2.84 billion company may be too small for them.

Analysts estimate that Molycorp will almost double sales to $1.2 billion in 2013, data compiled by Bloomberg show. That’s less than two percent of the revenue BHP and Rio Tinto, which both have more than $100 billion in market value, are projected to generate next year, the data show.

“It’s probably not big enough for them,” Chin said in a telephone interview. Molycorp is “one of the largest and best established producers outside of China right now, but it’s not a huge industry,” he said.

Boom-Bust

A takeover would also be a bet on rare-earth prices, which may dissuade some potential buyers that witnessed the industry’s rise and fall in the past two years, Chin said.

Molycorp rose more than fivefold less than 10 months after its initial public offering in July 2010 to reach a peak of $6.4 billion as prices for the metals jumped and China cut exports.

The company then lost more than $4 billion of its value in the next seven months as concern over a global economic slowdown sapped demand and caused companies to cut back on components made from the raw materials.

Paretosh Misra, a New York-based analyst at Morgan Stanley, said in a report last week that the collapse in prices in the past year will now help to drive a revival in rare-earth demand, which may benefit producers such as Molycorp.

Last week, the price of lanthanum oxide rose for the first time since November, while cerium oxide had its first increase in six months, data compiled by Bloomberg show.

‘Too Cheap’

With signs of a recovery in rare-earth metals, Balter at Oracle Investment says that Molycorp’s ability to generate cash from extracting the elements and processing them into high- powered magnets makes the company an attractive takeover for any acquirer willing to take the risk.

Its cash flow will jump almost 10-fold next year on a per- share basis, according to a March 11 report from Matthew Gibson, a Toronto-based analyst at CIBC World Markets Inc.

Balter pointed to KKR & Co. (KKR)’s buyout in 2000 of Princeton, New Jersey-based Rockwood Holdings Inc. (ROC), which produces lithium- based compounds that are now used to power electric cars.

“A buyer just has to look beyond their nose to the next quarter and look two or three years out,” said Balter, whose firm owns Molycorp stock. He estimated that Molycorp could get at least $60 a share in takeover, about 77 percent higher than its price last week. “It’s just too cheap to ignore.”

To contact the reporter on this story: Tara Lachapelle in New York at tlachapelle@bloomberg.net.

To contact the editors responsible for this story: Daniel Hauck at dhauck1@bloomberg.net; Katherine Snyder at ksnyder@bloomberg.net.

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