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What Tesla Needs To Know About The Graphite Sector

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Tesla Motors, Inc. NASDAQ:TSLA - What Tesla Needs To Know About The Graphite Sector

The Gold Report: What is the state of the current global graphite market and what impact might Tesla Motors Inc TSLA 2.58%'s construction of a battery Gigafactory in the desert in Nevada have on future demand for the mineral?

Blair Way: Because graphite is used in many energy-related applications (including electric vehicles, Pebble Bed Nuclear Reactors, fuel cells, solar panels and electronics ranging from smartphones to laptops), it has been categorized as a critical, strategic mineral by several governments including the United States and Europe.

What does this really mean? At this point in time it means nothinggraphite is in oversupply and prices are low. However, if China decided to stop supplying graphite to the world, then the West would be in trouble. This is highly unlikely to ever happen. As far as the impact of the Tesla plant on the greater market, that's yet to be defined in detail, but it will create more demand for graphite, both natural and synthetic.

TGR: How big is the graphite market?

BW: The graphite market combinedthe natural flake and synthetic marketis worth approximately $13 billion ($13B). Synthetic is 90% of that market, and natural flake graphite is 10%.

TGR: How big is the natural flake graphite market?

BW: The worldwide natural flake graphite market hovers around 1.1 million tons a year (1.1 Mtpa) of which 75% is from China, 11% from India, 6% from Brazil, 3% from North Korea and 5% from the rest of the world. Consumption of graphite is also approximately 1.1 Mtpa, and 65% is consumed in China. The balance of the production is consumed in Brazil and India (200,000 tons), with 100,000 tons in Europe and 100,000 tons in North America. Of this 1.1 Mtpa, more than 60% is fine and medium graphite while the balance of 40% is flake graphite. The majority of this flake graphite is micronized for the end user.

TGR: How important is it to understand the graphite market in terms of dollar value?

BW: World production and consumption of natural flake graphite is often claimed to be almost as large as the nickel market (1.8 Mtpa) by volume.

The market should be considered by dollar value not just tons per annum. As a comparison, the 1.1 Mtpa of graphite is worth $1.3B while 1.8 Mtpa of nickel is worth $26B. As a new entrant to the market, nickel is a significantly larger market than graphite. So to put the graphite market in perspective, the non-Chinese natural flake graphite market is a $300 million ($300M) market. This is the market in which all the Western graphite producers (current and future) are vying for position.

That is why a new graphite production facility must start small and build relationships in the current market while developing products that can supply the anticipated future markets. Cash flow for a graphite business must be sensible in today's market.

Flinders Article Chart 1

Chart provided by Flinders Resources

TGR:What is the size of a big graphite mine and what kind of revenue stream should investors expect from a natural flake graphite mine selling into the traditional market?

BW: A large graphite mine would be 10,00020,000 tons per year (1020 Ktpa) and would have a revenue stream of $1020M. Profit could be in the range of $38M. This is similar in scale to a 10,00020,000 ounce gold mine. Any graphite miner claiming a large-scale operation will not be able to achieve the sales as a new entrant to the market. It is possible that the mine could grow to a much larger size over time, but the sales must drive expansion of production. If too much concentrate is produced and it does not sell, then working capital will diminish quickly and the business will be in trouble.

TGR: What sort of revenue should you expect from a high-purity natural flake graphite miner selling into the battery market?

BW: High-purity natural flake graphite can and does displace some synthetic graphite. The market for synthetic graphite is about 1 Mtpa, which at prices of $5,00010,000 per ton indicates a market size of $510B annually. Approximately 50% of the synthetic graphite produced is used for electrodes in the steel industry. The uses of synthetic graphite are varied, but for batteries the quantity of natural flake graphite consumed is less than 100 Ktpa. The synthetic graphite market is as private as the natural graphite market, so figures quoted can vary greatly. There are multiple new uses for high-purity graphite beyond conventional batteries, so there is huge potential for the growing market for high-purity natural flake graphite.

TGR: We often hear about the importance of offtake agreements. Can you explain to us the important distinction between offtake agreements and sales agreements?

BW: Offtake agreements are not sales agreementsthey are non-binding agreements to purchase future production if a number of provisions are met. A sales agreement is a commitment to quantity and price per ton for a set period of time. Most junior mining companies are not signing sales agreements because graphite consumers want to lock in prices below known market prices.

To evaluate the offtakes you have to ask the questions: Did the buyer invest hard cash in the graphite business to facilitate the start of production? Does the contract with the buyer protect the producer or the buyer? Is there a guaranteed minimum or maximum price when the market price is constantly changing? Is there a minimum price in the agreement? Is it a take-or-pay agreement? What are the escape clauses for the buyer to get out of the agreement? Does the agreement cover all grades produced by the graphite producer, or is it just the grades the buyer requires? What happens to the products that the buyer is not interested in?

There is little to no hedging of graphite because it is not a publicly traded commodity, and it is very unlikely a trader will hedge for a producer. If a trader does offer to buy at a set price it would be at historically low prices. This will benefit the trader and not the producer. Typical refractory customers do not buy graphite in large enough quantities to justify locking in prices. They can also stockpile if required to ride out higher pricing. Even high graphite prices do not have a huge impact on overall pricing of the end product because graphite, by cost, is a small part of the cost of the products.

TGR: One of the buzzwords we hear when companies in the graphite space tell their story is "graphene" and the potential for their company to one day produce it. How important should graphene exposure be to an investor or speculator when deciding what companies in the graphite space to invest in?

BW: Graphene is 1020 years away from being commercially viable, so one cannot justify a graphite mine based on the graphene market. The graphene market will take an extremely long time to develop products for everyday use. Additionally, a small amount of graphite goes a long way in making graphene.

There are two kinds of graphene. One is made from chemical vapor deposition, in which a graphene coating is made on top of another substrate, then the substrate is removed, leaving only the graphene. Most of the graphene being used today is made that way. That is the graphene the electronic industry wants because it's ultra-high purity and can be easily controlled.

The lower-cost way uses natural graphite as the precursor. That market will take longer to develop, but it will be a bigger market because that kind of graphene can be used in the more practical, higher-volume products that we use every day. As a graphite producer, it is important to be part of the R&D process and to drive it...