Musk's Musings Don't Change Outlook for Lithium Stocks

On April 8, Tesla TSLA CEO Elon Musk sent a series of tweets that suggested Tesla may enter the lithium mining and refining space due to high lithium prices. This is not the first time Tesla management has suggested the company may integrate upstream into lithium, as Tesla provided high-level plans to produce lithium at its battery day in 2020. Should management be serious about entering the lithium space, we think the most likely route would be an acquisition of an existing lithium company. If this were to occur, net lithium supply would be unchanged as Tesla would supply at least some of its own lithium demand.

As a result, our outlook for the lithium producers under our coverage is unchanged. At current prices, Lithium Americas is the most undervalued producer under our coverage, with shares trading in 4-star territory. We view shares of Albemarle, Livent, and SQM as fairly valued, with the stocks trading in 3-star territory. Compass Minerals shares trade in 4-star territory, but the company's salt business is a larger driver of profits.

Our outlook for Tesla is also unchanged. Should the company announce a deal, we would update our forecast accordingly. However, management's comments could simply be a negotiating tactic in hopes of securing lithium below current spot prices. Tesla could buy an existing producer or a lithium company that is developing a new project. If Tesla were to acquire a resource under development, the company would likely have enough free cash flow to fund the project's construction.

Either way, Tesla would benefit from integrating upstream in two key ways. First, Tesla would be able to secure at least some of its own lithium supply. Second, the company would likely benefit from higher profits, as we forecast lithium prices will reflect non-integrated, marginal cost producer economics. Though Tesla would keep the lithium for its own battery use, the lithium producer economics would show up as higher profit margins.

Morningstar Premium Members gain exclusive access to our full analyst reports, including fair value estimates, bull and bear breakdowns, and risk analyses. Not a Premium Member? Get this and other reports immediately when you try Morningstar Premium free for 14 days.