Following news that China’s Contemporary Amperex Technology Co. Limited (CATL) has emerged as a major stakeholder in Pilbara Minerals, L.E.K. Consulting released a report analysing the strategies of lithium ion battery chemical and cell fabricators.

Index metal commodity prices. Image source ©L.E.K

The past few years have seen a large number of transactions that create a vertically integrated position in the markets for battery-based minerals such as lithium, cobalt, graphite and nickel, making the battery mineral and mining sector currently one of the hottest for mergers and acquisitions.

The report found that, as the market in batteries for electric and autonomous vehicles develops, the downstream players that traditionally participate in chemical and battery fabrication have shown a propensity for investment in upstream mineral extraction and processing.

“Vertical integration is an attractive strategy for battery mineral miners and users in the current environment, and there are significant value benefits to be found in successful implementation,” said Phil Wheeler, partner at L.E.K. Consulting and report author.

“Our review suggests that the rationale for transactions will continue for some time, and while recent commodity price weakness will impact valuations and is reflective of the market immaturity, it should only result in a temporary hiatus in transactions.”

Not being a new phenomenon in the mining sector, vertical integration still remains in commodities such as copper, aluminium and zinc.

According to L.E.K., there are four typical reasons to vertically integrate in the mining value chain:

To reduce the impact on a downstream position from the market supply cycle or volatility of pricing in upstream raw materials

To take advantage of improved margins or mineral value in an adjacent sector of the value chain

To improve the channel to market for an upstream mining position through downstream integration

To generate new or incremental demand in a commodity

Mr Wheeler believes that the supply-demand and pricing in the lithium market is currently showing “signs of ‘immaturity,’” as the market adapts to the new environment with large scale demand for lithium used in battery manufacturing.

“This environment of immaturity is likely to continue until demand growth shifts downward towards single digits per annum (p.a.) instead of the current expectations of 20 per cent p.a.”

Chemical and battery manufacturers are being driven to vertically integrate into mining positions by a desire for supply certainty, either directly (via equity) or indirectly (via offtake). Whereas mining companies are being driven to vertically integrate into refining or battery assets by a desire for exposure to higher value-added products.

“The ‘immature’ market described above has proven to be a troublesome one at times for lithium ion battery chemical and cell fabricators,” said Mr Wheeler.

“While they look to build capacity to satisfy the rapidly increasing customer and end-user demand for batteries and precursor chemicals, the (real and perceived) volatility in lithium supply and prices has remained a threat since the initial price spikes of 2015.”

According to the report, vertical integration is a valid and obvious strategy to managing this volatility, and both direct and indirect investments provide some level of support and insulation to that volatility.

The report also highlights a number of things for participants to consider in order to ensure that they capture the full value of a vertically integrated strategy, including:

Ensuring that the optimal operating model and investment horizon for the integrated business is established.

Developing a clear set of guidelines for integration that considers the options for acquiring any new required capabilities, as well as providing a basis for integration decision-making.

Identifying the strategic benefits of vertical integration during due diligence in order to secure them as part of the post-merger integration process.

*Article published in the October-December 2019 issue of The Asia Miner