Lynas Bets Big on Rare Earths Market Expansion

Lynas Rare Earths Ltd.‘s (ASX: LYC) August 3 announcement that it will invest an additional $500 million to rewrite its own already aggressive growth plan is risky, sure, but then, when it comes to rare earths, what isn’t? Managing Director Amanda Lacaze appears to be reading the demand-pull market for Lynas’ main products, neodymium (Nd) and praseodymium (Pr), as further accelerating, despite some hits to the “green” economy from the war in Ukraine. There are sound reasons supporting such a view, including the commitments by EU auto manufacturers to cease all gasoline production by 2025 and recent (surprising) political developments in the US, especially passage of the CHIPS Act (supporting redevelopment of a US-based semiconductor industry) and the current Inflation Reduction Act (also known as Build Back Better in disguise) likely to be approved this week by the House of Representatives and signed quickly by President Biden.

Lynas is particularly well-positioned to benefit from this latest legislation as it already has two agreements with the US Department of Defense for construction of two separation plants: a $30 million light rare earths plant (deal signed in January 2022) and also in June a $120 million deal for a heavy RE plant. This in addition to Japan’s ongoing demand, a not insignificant factor as Lynas self-identifies as controlling 80% of that market.

So, if all looks positive on the demand, where are the risks? Well, unvarnished success will require the split-second timing of a juggler. Expanding output at Mt. Weld should be a green light: the deposit and its characteristics are well known and should present few obstacles to an experienced team (with the usual caveats about the weather which these days can be a real Devil).

But, there is a problem with Malaysia. Despite winning an unprecedented two EcoVadis awards, political and public concerns about radioactive materials led the Malaysian government to refuse to extend Lynas’ cracking and leaching permits. (ESG Comment: this goes to show how history haunts even companies who had nothing to do with previous problems, and how hard it can be to gain and retain trust.)

Lynas announced in February of this year that it has received Ministerial approval for its Kalgoorlie rare earth processing facility, clearing the way for construction to begin. This new facility will strip and store the radioactive elements (uranium and thorium) and then ship the “clean” material to Malaysia for final processing. Thus the timing issue. If the processing plant can be constructed in record time with no unexpected issues, it could dovetail nicely with the increased output from the mine. Otherwise, lower through-put or possibly storage of mined materials could be necessary, providing a cost hit. And even if the timing is impeccable, there will be some increased product cost due to shipping to and processing at Kalgoorlie and then onwards to Malaysia.

Nonetheless, kudos to Lynas for a bold move, going for market share in a booming market with positive political signals and economic momentum. As Christopher Ecclestone said to InvestorIntel: “Lynas just goes to show that it is a doer when so many others are just talkers in the Rare Earth space.”

Mel Sanderson answers the multi-billion dollar question: What exactly is ESG?

Those three initials seem to be everywhere these days, used in all sorts of contexts. As a performance measure for CEOs. As a standard for investors. As a banner for stakeholders. As a compliance test for companies. So what the heck actually IS ESG?

Let me take a stab at clarifying. I will address the initials slightly out of order, but you will see why as you read on.

ESG – Environmental, Social and Governance – began life as a set of principles to help guide companies to adhere to best practices in the three mentioned areas. In many ways, ESG evolved from another set of initials – CSR – Corporate Social Responsibility. The ESG principles, however, are more specific and in some ways prescriptive than CSR ever was, and that was by intent.

In an increasingly complicated and rapidly changing world in which people (the “S”) increasingly pay more attention to the actions and consequences of mining companies’ decisions and operations, companies themselves were seeking more clarity on what stakeholders expected of them.

Thus, in the environmental arena, the principles of “E” incorporate elements such as investments by companies in technologies to ensure cleaner, greener operations. This covers a range of activities such as conserving and recycling water to reduce demand on an increasingly scarce resource; moving to dry versus wet tailings (also for safety reasons); controlling dust with non-water spraying methods and seeking to ensure zero-discharge incidents, thereby keeping water pure and safe. Likewise, reducing air pollution from discharge at processing/smelting facilities is another good example.

“G” includes principles related to government relations (transparency, integrity) as well as internal corporate governance (transparency, accountability not only to shareholders but the broader stakeholder community).

“S.” The most complicated, the most amorphous, the most rapidly changing – and the most difficult and costly to manage. But the initial which, in my opinion, lies at the heart of sustainable, successful operations. Social relations. This has grown exponentially from a focus on the communities surrounding mine sites and corporate shareholders to a much broader constituency. Increasingly, companies are confronted with demands that they provide tangible benefits to entire national communities. In countries such as Chile and Indonesia, for instance, students in the capital cities have demonstrated in the streets because mining companies were not providing benefits to them. Many argue that these demonstrations might also be politically motivated by corrupt governments eager to extract from companies larger royalty/tax payments or carried shares in operations. While not discounting this possibility, I would say that even if there is or was a political element initially, these social movements have taken on a life of their own at this point, and must be reckoned with. Confronted by the twin constraints of the Foreign Corrupt Practices Act and the undeniable costs of trying to be all things to all people (literally replacing government services at a large scale, in the worst case), how is a company to respond?

Changing social demands also are impacting governance/government relations practices. As we see here in the US, public scrutiny of corporate political donations, including to PACs (political action committees) has become a flashpoint. Individuals want to know what “side” companies are on as regards important social questions – and, as we have seen for instance in Florida, “taking sides” is a losing proposition for companies who face either political or social backlash (or both) when they elect to take a stand. As to internal governance – well, that leads to another three initials, namely DEI – Diversity, Equity and Inclusivity. Companies are under increasing pressure to do more/better in incorporating diverse points of view in their management structures and Boards, among other specific demands.

In this swirling miasma, some are pushing to make the ESG principles more prescriptive. Providing a sort of “checklist” of minimally expected/required responses and activities would, some argue, make life easier both for companies and for investors trying to judge whether a given company is an ESG champion or a fraud.

Personally, I think a middle course is best. Some additional clarification around particularly government regulatory expectations is necessary to help companies accurately and transparently report their ESG activities and receive credit for the same while avoiding accusations of “greenwashing.” But in my view, there currently is an overreach which attempts to micromanage corporate operations. A one-size-fits-all ESG approach is patently impossible, due to cultural, physical and economic differences between countries and projects. Especially if CEOs are to be evaluated in part on their success in the ESG arena, they must retain the flexibility and decision-making latitude to, as much as possible, do the right things.

After all, doing the right things is really what ESG is supposed to be all about.

Disregarding ESG standards is key to China’s rare earths dominance

Everyone knows – or, those who care about such things know – that China produces approximately 80% of current rare earths supply for essential “green” materials such as permanent magnets used in electric vehicles and offshore wind turbines. US and European governments repeatedly have stated publicly that this degree of market dominance poses a clear and present danger to their national security and economic development interests, and are providing a variety of incentives to hasten rare earth processing within their respective national boundaries while respecting ESG (environmental, social and governance) concerns.

It is worth examining how China attained its controlling market position. It is not because China has all the rare earth deposits, although they do have significant amounts. Rather, the answer lies in a variety of factors, including but not limited to: relatively low demand, until recently, for most rare earth elements, which meant that private mining companies were not incentivized into this segment of the mining market; relatively low geological exploration outside China until relatively recently, and China’s willingness to disregard ESG (Environmental, Social and Governance) principles which would have constrained its rapid production growth.

Not so long ago, the world was startled by images from major Chinese cities, including Beijing, of air pollution so bad that visibility was limited to feet, citizens masked up to try to breathe (some even resorting to gas masks) and birds fell dead from the sky, choked to death. These amazing images were reminiscent of the Great London Smogs written of in the 1800s, or of the pollution in Mexico City in the mid-to-late 1980s. In other words, not today’s normal.

2016 air pollution in Beijing as measured by Air Quality Index (AQI) defined by the EPA. Source: WikipediaCommons – Phoenix7777

But the willingness to forego or disregard ESG standards is fundamental to China’s rare earths dominance. The majority of known deposits coexist with highly radioactive thorium and uranium, making both mining and production dangerous and expensive. Storing thorium (which currently has few non-medical uses) is costly. So too is storing uranium, although processed uranium is useful for nuclear energy and certain other uses (mostly military). This poses a particular hurdle for US companies potentially interested in the rare earth space. Appropriate secure storage and/or construction and maintenance of impoundment ponds are subject to special licensing and impose significant additional project costs as well as heightened uncertainty that a project even could be permitted, as the Nuclear Regulatory Commission would then become party to the already lengthy permitting process (averaging 10 years in the US if no significant opposition to the project arises).

Recent discussions and increasing interest in building new nuclear power plants – particularly experimental mini-plants – could offer a new offtake solution for uranium but this remains years away. Similar and sometimes more restrictive regulations in the EU also have affected production there. All these measures, however, reflect the responsibility felt by Western governments to safeguard their populations and uphold environmental standards – in other words, balancing ESG and national/economic security interests.

The Chinese government has allowed no such qualms to hinder its aspirations, which is how it became the world’s leading producer of rare earth metals materials, but new, cleaner separation technologies being developed in the US offer hope of breaking China’s grasp.

Heavy smog hangs over the Shanghai skyline.

Research underway at the Critical Materials Institute, a U.S. DOE Energy Innovation Hub, Lawrence Livermore Laboratories (with DOD financial support) and various University labs focus on trying to develop “green separation” methodologies using amoebas, bacteria, proteins etc. This strand of research is best suited to rare earth deposits with little to no radioactivity, such as those of junior exploration/development company American Rare Earths Limited (ASX: ARR | OTCQB: ARRNF), which is providing feedstock to the above-cited labs from its La Paz and Halleck Creek sites. Other companies, such as MP Materials Corp. (NYSE: MP), the sole US-based rare earth miner, are working on setting up production facilities in the US. Initiatives such as these illustrate that it is possible to realize the goals of shortening and securing supply chains for vital rare earth processed materials while developing a “green economy” in the US based on sound ESG principles.

Did ESG really topple the government of Sri Lanka?

The recent and dramatic events in Sri Lanka have led some to allege that the country fell under the spell of “ESG”, “Green Terrorists”, and other interesting phrases, leading to the collapse of the national government and the flight from the country of its President. While there is every reason to point to the ban on chemical fertilizers as a contributing factor to the drama in the streets, ESG principles (Environmental, Social, and Governance) most assuredly did not collapse a national government.

The Sri Lankan government brought its collapse upon itself, following decades of fiscal and economic mismanagement accelerated by a rise in authoritarian control of the State. Although he won office in a democratic election, President Gotabaya Rajapaksa promptly consolidated power in the family by appointing his brother – coincidentally, the former President – as Prime Minister. (In the US we call this nepotism, not democracy.) The President then introduced a proposal to change certain Constitutional provisions which would have had the effect of consolidating power in the Presidency while diminishing the inherent checks-and-balances of a strong legislative and legal structure. This led an already restive and angry population, tired of repression, to become ripe for mobilization.

Reports by the World Bank and Cornell University identify three issues which played a decisive role in Sri Lanka’s collapse: a foreign exchange crisis (the national coffers were almost depleted); a high external debt burden complicating the exchange rate crisis, and the shock value of the too-rapid introduction of a ban on chemical fertilizers.

Dealing quickly with the first two – the foreign exchange crisis in turn stems from the ongoing issues of terrorism in Sri Lanka (a 2019 attack had virtually overnight collapsed tourism, a key source of foreign exchange). The COVID pandemic continued to devastate tourism, while at the same time the government turned to its foreign exchange reserves to service its foreign debt obligations, thereby draining the coffers.

Turning now to the nub of the issue, the impact of the government’s so-called embrace of ESG principles. Let me be clear – there was no wholesale embrace of ESG principles. Had there been, regulations also would have been promulgated regarding salaries and working conditions for rural laborers, government institutions charged with enforcing such regulations and protecting workers’ rights would have been empowered, and the general working conditions on Sri Lankan farms would have been noticeably improved. None of that happened.

Rather, in what appears to be an attempt to augment agricultural exports (a source of foreign exchange) and perhaps position Sri Lanka to renegotiate some of its IMF and World Bank financial obligations in exchange for its excellent emissions rating, the President decreed that chemical fertilizers were banned and only organically farmed produce would be acceptable.

History clearly shows that any policy, when introduced abruptly, without proper preparation and support, will have a shock value. History also clearly shows that a shock of this sort to a major element of an already fragile economy with underlying systemic issues will almost certainly have an extremely negative effect. And indeed, this was the case in Sri Lanka.

However – inflation, fuel shortages, excessive foreign borrowing and the depletion of foreign exchange reserves – the real culprits in the Sri Lankan problem – had absolutely nothing whatsoever to do with ESG principles.

So therefore, the answer to the question is “No, ESG did not collapse Sri Lanka’s government.”