Penny stocks usually don’t interest me. I try to guard my capital wisely, and early-stage companies experience a lot of growing pains and existential risks.
These risks are amplified in the natural resources sector, as commodity prices can drop through the floor at a moment’s notice.
However, Pensana Metals (LSE:PRE) is making me re-think that rule. That’s because the company is on the cusp of breaking China’s stranglehold on rare earths.
Rare earths comprise 17 chemical elements (15 lanthanides, plus yttrium and scandium). They are essential for various technologies including electric vehicles, wind turbines, smartphones, and defence systems.
Currently, the Chinese account for 85% of rare earths processing. But Pensana’s planned separation facilities in the Humber Freeport in northern England should put a dent in that dominance.
China’s trump card
Russia’s invasion of Ukraine spiked energy, potash, and nickel prices in 2022. That was a rude wake-up call for western leaders about the precarity of commodity supply chains.
But the alarm on rare earths had already rung out 12 years earlier.
In September 2010, a spat between Japan and China over the sovereignty of the Senkaku Islands led China to flex its muscles, halting all deliveries of rare earths to Japan.
The unofficial embargo was short-lived, but the episode showed the danger of relying on an unfriendly nation for critical supplies.
Government funding: rare-ly refused!
Around the world, governments have drawn up lists of critical minerals and even extended subsidies to domestic producers.
In 2019, the US Pentagon said it would fund mines and processors.
Mountain Pass mine in California is the only rare earth mining and processing facility in the US. Taken over by MP Materials in 2017, the mine had been left dormant through much of the 2000s due to the rise of the ultra-cheap Chinese rare earths that had flooded the market from the 1990s onwards.
The Australian rare earths miner Lynas also has refining facilities.
Now, Pensana looks set to add a third rare earths processing plant to that list of non-Chinese refineries. To do it, it is relying on an undisclosed sum from the UK government’s £1bn Automotive Transformation Fund.
With the UK government having released its “Critical Minerals Strategy” just last week, I’d wager that Pensana’s plan can rely on more support if needed.
Pensana also mines mixed rare earth sulphate at its Longonjo project in Angola.
The refinery in northern England is estimated to have a hefty capital cost of £160m.
Rocky road
While MP Materials and Lynas are profitable, Pensana does not even have any revenues, with its processing plant not due to open until 2024.
In addition, analysts have criticised Pensana for its executive pay and its level of disclosure. Some also think the company’s goal of producing 12,500 tonnes of rare earth oxides per year is too high.
Still, the demand for rare earths is set to double over the next decade. And with tensions between the West and China already strained, I think Pensana’s stock price could rise faster than a spy balloon if relations broke down further.
I plan to add a small amount of Pensana to my portfolio when I next have spare cash to invest.
