Galaxy Resources - Edison Investment Research

Galaxy Resources

Initiation of coverage

Focused on fast-growing lithium market

Metals & mining 15 May 2015

Galaxy Resources (GXY) is focused on the fast-growing lithium market. It is advancing plans to develop the Sal de Vida lithium and potash brine project in northern Argentina, located in a region known as the ‘lithium triangle’, an area that also spans parts of Chile and Bolivia. Approximately

Price

A$0.04

Market cap

A$41m

60% of global lithium production is sourced from this area. Following the recent company restructure, GXY has flexibility to pursue growth options.

Net debt (A$m) (post Jiangsu disposal April 2015)

US$0.77/A$ 14.4

Shares in issue

1,064.8m

Revenue (A$m)

PBT* (A$m)

EPS* (c)

DPS (c)

P/E (x)

Yield (%)

12/13

32.2

(60.3)

(8.2)

0.0

N/A

N/A

Code

GXY

12/14

0.2

(13.9)

(1.3)

0.0

N/A

N/A

Primary exchange

ASX

12/15e

0.7

(3.6)

(0.3)

0.0

N/A

N/A

12/16e

4.1

0.7

0.1

0.0

N/A

N/A

Secondary exchange

N/A

Year end

Note: *PBT and EPS are normalised, excluding intangible amortisation, exceptional items and share-based payments.

Free float

57.2%

Share price performance

Sal de Vida in world-significant lithium province Sal de Vida will be an integrated brine to processing operation that will optimise the earnings margin. The project has a life of 40 years based on the 25,000 tonnes per year lithium carbonate proposed in the April 2013 definitive feasibility study (DFS). GXY will likely develop this project with a partner, as a smaller readily fundable initial project with staged expansions, assisted by its modular construction. This is expected to provide GXY with the flexibility to pursue other opportunities as they arise. GXY has developed earlier lithium projects and has substantial technical knowhow and, importantly, existing customer and marketing relationships.

%

1m

3m

12m

Abs

18.8

52.0

(44.1)

Rel (local)

23.4

55.8

(46.2)

Divestment and monetisation of non-core assets

52-week high/low

The divestment of GXY’s former Jiangsu plant in China for an enterprise value of US$173.2m has enabled the company to deleverage to a position of low net debt. Jiangsu operated as a conversion plant for feedstock from hard rock lithium ore and did not have the margin potential of an integrated operation such as Sal de Vida. In

Business description

another initiative, GXY has entered into an operating and option agreement with a third party for its Mt Cattlin mine, which had been on care and maintenance since early 2013. Under this agreement, GXY will receive lease fee and royalty income. In the event the operating party exercises its option to purchase the asset, a sale price equivalent to A$30m minus royalties paid by the purchaser prior to the sale.

Valuation: Substantial premium to the share price We have conducted a sum-of-the-parts valuation for GXY, valuing its three assets. Stage 1 of the Sal de Vida project is reasonably well defined but the schedule and costs for Stage 2 are uncertain. Therefore our valuation for Stage 2 is only indicative. Our valuation for Mt Cattlin could vary if the third party operator decides

A$0.07

A$0.02

Galaxy Resources (GXY) has substantial in-house IP in lithium and a 40+ battery-materials customer base. Following the sale of its Jiangsu plant, GXY has low net debt (c A$50m gross cash). Its main focus is the development of its integrated Sal de Vida lithium and potash brine project in Argentina.

Next events March quarterly report

April 2015

Analysts Peter Chilton

+44 (0)20 3077 5700

Charles Gibson

+44 (0)20 3077 5724

[email protected] Edison profile page

not to exercise the option to purchase. For James Bay, we use its book value but development and exploration could ultimately yield a higher value. Our base-case valuation is A$0.08/share plus an additional indicative A$0.09/share for Sal de Vida Stage 2, to give a total of A$0.17/share. An upper-case scenario gives A$0.21/share.

Galaxy Resources is a research client of Edison Investment Research Limited

Investment summary Company description: A focus on upstream projects GXY is a lithium-focused company with substantial intellectual property (IP) related to lithium processing and a strong battery materials customer base, built up over the past few years, producing and selling lithium carbonate. GXY developed and commissioned the Jiangsu batterygrade lithium carbonate plant in China to process concentrate feed from its Mt Cattlin mine (WA). Its next objective is to advance its Sal de Vida lithium and potash brine project in Argentina in the lithium-rich Salar del Hombre sub-basin, strategically located adjacent to the FMC Lithium (a top three global producer) Fenix operations. Around 60% of global lithium supply originates from this area. Following a series of financial restructuring initiatives that has significantly strengthened the balance sheet to a low net-debt position and emphasising higher-margin upstream activities, GXY recently divested its 100% interest in the Jiangsu lithium plant. It also announced a partnership with a third party that will generate cash flow from its Mt Cattlin project through lease fees and production royalties and an option to purchase.

Valuation: Undervalued assets with optionality Based on known or reasonable-estimated schedules and prices, our base case valuation for GXY’s three assets is A$0.08/share (includes Sal de Vida Stage 1) plus up to A$0.09/share for Sal de Vida Stage 2, to yield a total of A$0.17/share. An upper-case scenario gives A$0.21/share. 

Sal de Vida – base-case NPV10 for Stage 1 of A$54.5m or A$0.05/share assuming 60% retained equity. Stage 2 could be worth up to an additional A$0.09/share depending on funding, equity retained and schedule. We assume a lithium price of US$6,500/tonne.

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Mt Cattlin – under the operating and sales agreement, we calculate a base valuation of A$30m or A$0.03/share. This assumes a tantalum price of US$80/lb and a completed asset sale.



James Bay – the book value of exploration and development assets is A$2m, A$0.002/share.

Financials: Asset and debt restructuring complete GXY completed the divestment of its Jiangsu lithium carbonate plant on 14 April 2015. The effective sale consideration was US$173.2m comprising debt assumption of US$101.5m and cash payable of US$71.7m. Over the last 22 months, the new management team has successfully managed to reduce net debt from its highest levels of ~A$180m to the current level of A$14.4m without raising new equity. GXY is now in a financial position to pursue the Sal de Vida project, an integrated lithium and potash brine project in Argentina, with potential partners.

Sensitivities: Exposed to lithium demand and prices Development of the Sal de Vida and other projects is sensitive to a broad range of parameters. Some of these are related to external factors which cannot be controlled such as the lithium market. Other factors, that can largely be controlled, include project execution and funding structure. 

Lithium market – earnings, cash flow and valuation are sensitive to the lithium market. Factors include supply and demand which affects prices and sales volumes. Technological advances may expand the market, increasing sales and the higher value product segment. Advances that lead to substitute products could be a threat. Exchange rates affect prices and costs.

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Project development – earnings, cash flow and valuation are sensitive to the development of Sal de Vida, which includes aspects such as schedule, production rates and funding, which may involve equity issuance and debt. An interest in the project may be sold or joint ventured.

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Regulatory issues – projects subject to permitting and approvals, activities in three countries.

Galaxy Resources | 15 May 2015

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Restructuring provides the platform for growth Having undertaken significant restructuring of the balance sheet, GXY’s intention is to develop the Sal de Vida lithium project using ownership and financing structures that leave room for further growth with possible diversification.

GXY’s points of differentiation in the lithium business GXY has been a participant in the lithium industry since 2007. It is well placed to leverage off its technical expertise and importantly, the customer relationships it has built up over the last few years that it has been producing and selling lithium carbonate. 

Customer relationships – GXY has established to date, over 40 customer relationships throughout China and North Asia, including Mitsubishi Corporation in Japan. This advantage is a result of building and operating its former lithium carbonate plant at Jiangsu.

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Lithium marketing – GXY has developed marketing expertise as it has already sold lithium to customers. The company has had experience of ramping up production to full capacity, achieving product specifications and getting customers to accept the GXY product.

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Sal de Vida project – a large project with >1Mt of LiCO3 equivalent in reserves. It is located in Argentina in the ‘lithium triangle’. Brine deposits are competitive on a cost basis and typically much larger than hard rock deposits, providing greater flexibility on production capacity.

Group strategy: Potential project partnering, diversification GXY’s strategy is to develop upstream lithium projects with possible development of projects in other commodities at a later stage. GXY will review opportunities to sell down or joint venture a part interest in its projects to assist with the acceleration of development and optimise funding. GXY aims to be able to sequentially develop a project pipeline rather than focus on a single project.

Management Managing director – Anthony Tse was originally a non-executive board member. During this period, he assisted the company in several rounds of capital raising. Due to delays in the construction of the Jiangsu plant, cost overruns and production shortfalls, GXY became heavily indebted and overleveraged. This led to a complete overhaul of the board and management, instigated by the major shareholders of the company’s shareholders and it was the new management team that led the financial restructuring and strategic initiatives, as well as the overall turnaround of GXY. Tse was subsequently appointed managing director. Executive director – Charles Whitfield, was appointed to the special committee of GXY at the time of the new management. Independent non-executive chairman – Martin Rowley, a co-founder of TSX- and LSE-listed First Quantum Minerals, was also appointed to the special committee. He subsequently became Chairman in November when the overhaul of the GXY board was complete. Changes to the composition of executive management and the board, facilitated difficult decisions to downsize the organisation and divest their major Jiangsu asset, while at the same time raising new funds, paying down debt and recapitalising the company. GXY retains a small senior management team with substantial technical knowhow. This knowhow and IP remains with GXY corporate. GXY has also appointed veteran executives, with deep expertise in technology, processing and business operations to serve as advisors. This team successfully developed and commissioned the Mt Cattlin and Jiangsu projects to the stage of selling production to customers. Their specialised experience will be used at Sal de Vida.


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Lithium dynamics Lithium has a number of unique properties and a broad range of applications. While its use in batteries is well known, only about 30% of lithium produced is consumed in batteries, with 70% of production applied to applications that include glass making, ceramics, lubricating greases, continuous casting powders, aluminium smelting and medical uses. Current global lithium demand is approximately 160,000 tonnes of lithium carbonate equivalent (LCE) (see below) with 45-55,000 tonnes driven by battery demand. Lithium used in batteries is processed from brine or ore to lithium carbonate or hydroxide. These are converted to cathode and other lithium ion battery component materials used in the manufacture of batteries which are higher value-add products. These are usually measured in LCE terms. Lithium carbonate and lithium chloride contain 18.8% Li and 16.3% Li respectively.

Lithium in batteries, the technological edge 

Higher energy intensity, no efficient substitutes – lithium-based batteries provide substantially higher energy density than is possible from most other technologies. Benefits include compactness and low weight for a given energy density. Under current technology, there are no efficient substitutes. Almost 95% of batteries used in electronic devices are based on lithium. New uses for lithium-based batteries include energy storage.

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Battery storage advances driven by expanding need – power storage in batteries has been limited by factors such as battery life and speed of recharging. The need for advances in battery technology is being driven by growing electric vehicle use and increases in power generation from non-continuous sources, such as solar and wind.

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Broader range of applications driving demand – battery technology is advancing. The impact of continuous technological progress and possible step changes is expected to lead to broader applications supportive of rising electric vehicle usage and battery solutions that allow intermittent or unreliable power generation sources, such as solar or wind, to be stored.



Advances in battery technology include fast charging and extended life – various researchers are reporting significant lithium-based advances in battery technology. Some of these have the potential to be commercialised, with substantial implications for lithium demand. These include fast-charging capabilities (battery charging time could be comparable to petrol filling time) and an extended life of up to twenty years.

Lithium demand growth and prices We estimate current annual global LCE demand of around 160,000 tonnes comprising approximately 110,000 tonnes of non-battery lithium and approximately 50,000 tonnes battery lithium. A number of industry commentators have estimated that LCE demand is growing at a CAGR of 8-12%. While non-battery lithium demand has been growing at GDP/industrial production type levels, demand for battery-grade lithium is estimated to be growing at a higher 10-15% rate, particularly in the short- to medium-term. This implies overall demand for lithium is actually accelerating. At CAGRs of 8% and 12% respectively, LCE demand would be around 250,000 tonnes and 315,000 tonnes respectively by 2020. Lithium carbonate is a speciality chemical rather than a commodity. There is no terminal market; prices are often set between producer and customer. Current LCE prices of around US$6,500 per tonne appear to be well supported at current levels. In our valuations, we use an LCE price of US$6,500/tonne as our base sustainable price with an upper case of US$7,000/tonne, given potential future supply tightness.


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Project overview The Sal de Vida lithium and potash brine project in Argentina, located in a globally-significant region of lithium occurrence and production, is the company’s flagship project. The company’s smaller Mt Cattlin project in WA, Australia, is expected to reopen in the near term under lease and royalty arrangements to a third party. The third party has an option to purchase the operation. The James Bay project in Quebec, Canada, is under evaluation to determine the most optimal approach to unlocking the value of the asset. The Jiangsu lithium carbonate plant was recently divested.

Sal de Vida lithium project The Sal de Vida brine lithium (Li) project is located in the northern and eastern sub-basins of the Salar del Hombre Muerto, one of several lithium-rich brine basins in the Altiplano of Argentina, Chile and Bolivia. The project is adjacent to FMC Corporation’s El Fenix lithium brine operations. GXY acquired an interest in the project in July 2012 as a result of its merger with Lithium One. Following a number of transactions and a recent final US$2.5m payment, GXY now fully owns 100% of all tenements needed for production wells and surface evaporation. Exhibit 1: Location of Sal de Vida project

Source: Galaxy Resources

Project studies 

Pre-Feasibility Study (PFS) – when GXY acquired its interest in the project through its merger with Lithium One, a PFS had already been completed.

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Definitive Feasibility Study (DFS) – the DFS was released in April 2013 and included extensive hydrology work, drilling, pump tests, pilot plant testwork, flow sheet development and engineering and financial modelling. Project designs included evaporation ponds, a batterygrade lithium carbonate plant and a potash plant. The core design was for a US$369.2m project with output of 25,000 tpa of battery-grade lithium carbonate (Li2CO3) and 95,000 tpa of potassium chloride (KCl or potash) co-product with a life of 40 years.


5

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Staged development – GXY is likely to develop Sal de Vida on a staged basis. Stage 1 may have a capacity of around a third of the DFS level and a capital cost of approximately U$122m. This could be potentially financed with moderate debt. A potential joint venture partner could provide the equity at the project level, avoiding the issuing of additional equity. From financing discussions, GXY believes Sal de Vida can probably be financed on a 60-70% debt:equity basis, leaving a required equity component of US$40-50m. A construction period of up to three years is envisaged. First production could be late 2017 or early 2018.

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Stage 2 – the project will be developed using modular construction, facilitating the development of the next stage, taking capacity up to the DFS level of 25,000 tonnes/year.

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Permitting – the project is located in Salta and Catamarca provinces. Permitting is complete.

Resources and reserves The resources in Exhibit 2 (volume and grades) and Exhibit 3 (contained Li and K and equivalents in the form of lithium carbonate (Li2O3) and potassium chloride (KCl) were estimated in 2012). Exhibit 2: Sal de Vida 2012 resource estimate – volume and grades Resource category Measured Indicated Subtotal Inferred Total

Brine (m3 x 106)

Li (mg/l)

K (mg/l)

720 260 980

787 768 782

8,695 8,534 8,653

830 1,810

718 753

8,051 8,377


Exhibit 3: Sal de Vida 2012 resource estimate – contained Li and K and Li2CO3 and KCl equivalents Resources

Li In situ (t)

Li2C03 equivalent (t)

K In situ (t)

KCl equivalent (t)

Measured Indicated Subtotal

565,000 197,000 762,000

3,005,000 1,048,000 4,053,000

6,241,000 2,186,000 8,427,000

11,902,000 4,169,000 16,071,000

597,000 1,359,000

3,180,000 7,233,000

6,692,000 15,119,000

12,762,000 28,833,000

Inferred Total


A maiden JORC compliant reserve was announced in April 2013 (Exhibit 4). This was based on the Southwest and East well fields only. Exhibit 4: Sal de Vida reserves – contained Li and K and Li2Co3 and KCl equivalents Reserves

Li Total mass (t)

Li2C03 equivalent (t)

K Total mass (t)

KCl equivalent (t)

Proven Probable Total

34,000 180,000 214,000

181,000 958,000 1,139,000

332,000 1,869,000 2,201,000

633,000 3,564,000 4,197,000


Brine extraction The focus on the Southwest and East well fields is due to brine quality, extent of the brine aquifer and ability to pump the brine at a sufficient rate to keep the evaporation ponds at the required level. 

Brine quality – lithium and potassium concentrations average around 780mg/l and 0.87mg/l respectively. Impurities are low with magnesium and sulphate ratios of 2.2 Mg:Li and 11.5 SO4:Li respectively compared with corresponding ratios of >4.0 and >14.0 in the Salar de Atacama in Chile, which is the largest lithium producing brine operation in the world. High magnesium content can increase the costs of producing lithium carbonate.

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Hydrology and modelling – the DFS investigated the hydrogeological conditions for the project area. The basin aquifer system was modelled on both the conceptual hydrogeological model and the numerical groundwater flow model.


6

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Production rate – production rate is dependent on the evaporation rate. Evaporation rates in summer can be twice winter rates. Additional wells would be brought online in the summer.

Evaporation ponds 

Halite (NaCl) ponds – these ponds concentrate limed brine to its KCl saturation limit. The NaCl-rich crystallised salts accumulate at the base of the ponds and are recovered by harvesting.

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Muriate (KCl) ponds) – from the last halite pond, the concentrated brine is transferred to the muriate ponds for further concentration to 2% Li while the KCl crystallises along with the halite, gypsum and borate. Muriate salts, rich in KCl and NaCl, accumulate as they crystallise at the bottom of the ponds and are harvested as the raw material feed for the KCl process plant.

Battery grade lithium carbonate plant Concentrated brine from the final muriate pond, with a minimum 2% (w/w) Li content, is pumped via a surge pond to the Li2CO3 plant. There are a number of process stages: 

Boron removal – uses several solvent extraction stages.

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Calcium and magnesium removal – precipitation process with calcium and magnesium removed as carbonates.

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Lithium carbonate precipitation – after removal of boron, calcium and magnesium, the brine passes through heat exchanges to raise its temperature and then reacted with soda ash (Na2Co3) to precipitate Li2CO3. This is extracted through a bank of centrifuges.

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Lithium carbonate purification – GXY developed and patented its own purification technology in 2010. It can be applied to both brine based Li2CO3 production processes or hard rock processes. The purification process removes impurities entrained in the Li2CO3 crystal structure. This is achieved by digestion of the Li2CO3 crystals in the presence of carbon dioxide (CO2). This produces lithium bicarbonate (LiHCO3) which is more soluble than Li2CO3. Excess entrained contaminants are removed in an ion exchange unit. After steam heating, the final pure Li2CO3 crystals are precipitated from the final pure liquor. These are pumped to the crystalliser thickener where the Li2CO3 is extracted via a bank of centrifuges and dried.

Potash (KCl) plant The harvested muriate contains approximately 71% NaCl and 25% KCl. The potash plant extracts and purifies the KCl to 97% grade for use as a fertiliser. This is sold as muriate of potash (MOP) fertiliser. The global market for MOP potash (KCl) is approximately 55Mtpa. GXY does not produce Sulphate of Potash (SOP) fertiliser. SOP potash (K2SO4) has a smaller, more specialised, global market of around 5.5Mtpa and has historically traded at a price premium of 30-60% to MOP.

Valuation for Sal de Vida We have modelled a Stage 1 scenario for Sal de Vida which assumes a project about a third of the capital cost and scale of the DFS proposal. Assumptions include a capital cost of US$122m, output of 8,250 tonnes per annum of battery grade lithium carbonate (LiCO3) and 31,250 tonnes per annum of potash (KCl) per annum over a 40-year life. We have used costs of approximately US$4,000/tonne lithium carbonate (before potash credits) and a corporate tax rate (Argentina) of 35%. Royalties are not payable in the Catamarca and Salta provinces where the project is located. The valuation is first calculated on a 100% basis in US$m. We assume GXY retains a 60% interest in the Sal de Vida project with approximately US$50m equity provided by a project partner and the balance of funding provided by debt on a 60-70% debt:equity basis.


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Current LCE and potash prices are around US$6,500/tonne and US$300/tonne respectively. We believe these prices are well supported at these levels and are reasonable proxies for long-term sustainable prices. At these prices, our base case valuation attributable to GXY is A$54.5m (A$0.05/share). Our upper case valuation is A$69.8 (A$0.07/share) using an LCE price of US$7,000/tonne. We have also calculated a matrix of valuations for different long term prices. Stage 1 of the Sal de Vida project has been reasonably well defined for valuation purposes but the schedule, costs and financing for Stage 2 are uncertain. Therefore our valuation for Stage 2 of A$0.09/share (upper case A$0.12), related to our valuation for Stage 1, is only indicative. Exhibit 5: NPV10 valuations for Sal de Vida Phase 1 under different long term price scenarios Lithium carbonate (battery grade) (US$/t) Potash (KCl) price (US$/lb) 300.0 350.0 400.0 450.0 500.0 GXY attributable valuation assuming 60% interest 300.0 350.0 400.0 450.0 500.0

5,000

5,500

6,000

6,500

7,000

NPV (US$m) 10.9 17.7 24.5 31.3 38.0

30.6 37.4 44.1 50.9 57.7

50.3 57.0 63.8 70.6 77.3

69.9 76.7 83.5 90.2 97.0

89.6 96.3 103.1 109.9 116.7

NPV (A$) 0.008 0.013 0.018 0.023 0.028

0.022 0.027 0.032 0.037 0.042

0.037 0.042 0.047 0.052 0.057

0.051 0.056 0.061 0.066 0.071

0.066 0.070 0.075 0.080 0.085

Source: Edison Investment Research. Note: Issued shares 1,065m, A$/US$0.77

Mt Cattlin project The Mt Cattlin lithium tantalum project comprises the Mt Cattlin mine and spodumene processing facility. It is located near Ravensthorpe which is approximately 430km south east of Perth, WA. The project comprises resources and reserves shown in Exhibits 6 and 7. Exhibit 6: Mt Cattlin JORC 2004 resource (cut off 0.4% Li2O) Resources

Tonnes

Li20 (%)

Ta2O5 (ppm)

Measured Indicated Subtotal

2,899,810 9,905,598 12,805,408

1.19 1.06 1.09

147 168 163

Inferred Total

4,349,812 17,155,220

1.07 1.09

132 155

Tonnes

Li20 (%)

Ta2O5 (ppm)

2,803,000 7,933,000 10,736,000

1.09 1.03 1.04

136 150 146


Exhibit 7: Mt Cattlin JORC 2004 reserves (cut off 0.4% Li2O) Reserves Proven Probable Total


Operating background The ore mined at Mt Cattlin was concentrated to 6% grade lithium oxide containing spodumene and then trucked to the port of Bunbury for export to China for processing at GXY’s former Jiangsu plant. Spodumene is lithium aluminium inosilicate (LiAl(SiO3)2. In mid-2012, GXY halted operations due to a build-up of internal spodumene inventory levels. Subsequently, appreciation of the Australian dollar against the US dollar during 2012 and early 2013 increased Mt Cattlin’s effective operating costs. This led to a decision to suspend operations until further notice. To replace the feedstock from Mt Cattlin at the Jiangsu plant, GXY negotiated to buy spodumene from the Greenbushes mine, also in WA, owned by Talison Lithium (Talison).


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Because of its spare capacity, greater scale and higher grades, the purchase of feedstock from Greenbushes represented a lower cost option for GXY than re-instating production at Mt Cattlin.

Operating and sale agreement with General Mining Corporation On 9 February, 2015, GXY announced an agreement for Mt Cattlin that will generate annual cash flow through a lease fee and a production royalty and includes an option to purchase. GXY has signed a binding term agreement with ASX listed General Mining Corporation (GMM) which gives them the exclusive right to operate Mt Cattlin for a period of three years subject to:  

Lease fee – $2.5m pa for years one to three. Production royalty while in GXY ownership – the royalty payment is 10% of the gross value of all minerals mined and sold by GMM, with the exception of any spodumene produced, where revenues will be shared equally between GXY and GMM subject to the parties entering into a more detailed agreement. It is payable quarterly to GXY.

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Option to purchase – this gives GMM the option to purchase the project at any time during the three year period for A$30m minus royalties paid (but not lease fees) to the time of purchase.

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Production royalty under GMM ownership – if GMM proceeds to purchase the project, the royalty changes to a 3% net smelter return. Any new mineral resources delineated by GMM will be subject to a lower 1% net smelter return (NSR) royalty. The 3% and 1% NSR payments are based on the value of all minerals sold, including spodumene.

Due diligence complete, three-month development period In early February 2015, GMM made a non-refundable A$50,000 payment to GXY for the right to conduct sixty days exclusive due diligence, now completed, on Mt Cattlin. It has the sole and exclusive right, for 90 days, to determine whether it wishes to operate the mine. In this period, GMM is solely responsible for all care and maintenance costs and all tenement maintenance costs. 

GMM is now in a development period for planning and preparation. It will also carry out a final evaluation to determine whether or when to commence tantalum/spodumene production.

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GMM has stated that it is fully funded through to a final investment decision (FID). This is expected by 1 July, 2015. It recently raised A$900,000.

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After a decision to proceed with development, GMM will be responsible for all project costs.

Valuation for Mt Cattlin We have calculated indicative NPV10 values for the operating and sale agreement with GMM. When GXY was operating Mt Cattlin, its planned annual co-product tantalum production (contained Ta2O5 in concentrate at a grade of around 30%) was 56,000 tonnes. In earlier plans for Mt Cattlin in 2007, GXY envisaged tantalum production of around 200,000 tonnes per year. Our base valuation assumes a 200,000 tonnes per year rate over a 10-year operating life. The valuation incorporates the cash flow impact of lease fees and the 10% production royalty in years one to three, the sale of the asset for A$30m after subtracting royalties paid up to the point of sale in year four and 3% net smelter return royalties in years four to 10. Over the last five years, tantalum has ranged from a price of around US$35/lb to around US$100/lb. Tantalum is used in high-growth applications such as electronics and specialised alloys. The current price of approximately US$80/lb is close to the mid-point of its five year range and we have used this price for our base valuation. Our base-case valuation is A$30m (A$0.03/share). We have also produced a matrix of indicative valuations, varying production from 50,000 tonnes per annum to 200,000 tonnes per annum and the price from US$40/lb to US$100/lb.


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Since entering into the agreement with GXY, GMM has indicated that it would make modifications to the Mt Cattlin processing circuit to improve the recovery of tantalum to concentrate (maximum is in the 65-70% range). GMM also said it is most focused on the parts of the Mt Cattlin deposit with the highest Ta2O5 grades. GMM believes there is upside to current resources. Exhibit 8: NPV10 range for Mt Cattlin agreement for different production and tantalum price scenarios Production (lbs)

50,000

Tantalum price (US$/lb) 40.0 60.0 80.0 100.0 40.0 60.0 80.0 100.0

Contained Ta2O5 in concentrate 100,000 150,000

200,000

NPV (A$m) 27.1 27.3 27.5 27.7

27.5 27.9 28.3 28.7

27.9 28.5 29.1 29.7

28.3 29.1 29.9 30.7

NPV (A$c per share) 0.025 0.026 0.026 0.026

0.026 0.026 0.027 0.027

0.026 0.027 0.027 0.028

0.027 0.027 0.028 0.029

Source: Edison Investment Research. Note: Issued shares 1,065m, A$/US$0.77

James Bay project James Bay is a hard rock lithium project containing a spodumene pegmatite deposit. The deposit occurs near the surface and is amenable to open pit mining. It is located 1,100km north west of Montreal in Quebec, Canada. The project is adjacent to key infrastructure including high-tension lines, roads and readily accessible water. The project comprises resources as in Exhibit 9. Exhibit 9: James Bay NI 43-101 resource Resources Proven Probable Total

Tonnes

Li20 (%)

Ta2O5 (ppm)

11,750,000 10,474,000 22,224,000

1.30 1.20 1.28

136 150 146


Preliminary test work indicated the spodumene ore at James Bay had a similar coarseness to that at Mt Cattlin. A pilot scale test on a 16 tonne bulk sample in 2012 showed that a 6% spodumene concentrate could be produced using the Mt Cattlin flow sheet. No PFS or DFS was carried out. The James Bay project is being maintained in good standing. Strategic options are being evaluated to consider the most optimal approach to unlocking value in this asset in the short- and mediumterm. While the sale of the project is a possibility, GXY believes it offers the company production optionality in the event of severe supply/demand tightness in the future. Hard rock projects such as James Bay are generally easier and faster to construct and commission than brine projects such as Sal de Vida but tend to be smaller in scale and higher cost from an operating perspective.

Valuation for James Bay With no planned production or certain mechanism for monetisation, we value James Bay at the book value of its exploration and evaluation assets (recorded on 31 December 2014) which is A$2m (A$ 0.019/share). Impairment expenses against the assets of A$5.6m in 2014 and A$9.7m in 2013 reflect the fact that no future exploration activity is currently planned.

Divested – Jiangsu lithium carbonate plant The Jiangsu plant, in Jiangsu Province, China, was built and commissioned by GXY and was a wholly owned asset. It produced its first lithium carbonate product in April 2012. It was established as a downstream facility to produce battery-grade lithium carbonate from hard rock lithium sources. Initially, production was integrated with the spodumene concentrate feed from GXY’s Mt Cattlin


10

project. A 12 month ramp up to its 17,000 tpa design capacity was envisaged. Shortly after first production, battery-grade quality (99.5% purity) across all specifications was achieved.

Operating background In Q312, the plant produced 599 tonnes of lithium carbonate with some downtime of the kiln and limits to production during the period. In November 2012, a pipe ruptured in the sodium sulphate crystallisation section of the plant. This resulted in two fatalities. This led to an investigation by China’s Suzhou Safety Bureau. A complete hazard and operability review was conducted. Operations recommenced at the plant in early February 2013. Production increased to 1,775 tonnes and 2,040 tonnes in the June and September quarters, in 2013. This was still well short of the plant capacity rate. By this time, a decision had been made to replace the feedstock from Mt Cattlin with feedstock from the higher grade Talison owned Greenbushes mine to reduce costs. In Q413, a scheduled shutdown to convert the calcination system to accommodate Talisan feedstock resulted in production declining to 1,360 tonnes in the period. At this stage, the plant had not yet achieved cash flow breakeven and the company indicated it was now expecting this would be achieved in Q114.

Strategic initiatives and financial restructuring 

Special management committee – after several rounds of capital raising and significant leverage on the balance sheet, GXY was still faced with budget overruns and behind scheduled production. Major shareholders pushed for a change in management and board. A special committee was formed to oversee the transition and the overall restructuring of GXY. This consisted of Anthony Tse (then interim managing director), non-executive director Xiaojian Ren, executive Charles Whitfield and, as an advisor to the company, Martin Rowley (First Quantum Minerals co-founder and former Lithium One chairman). The scope of its work was to focus on various strategic initiatives, including financial restructuring, the equity raising underway at the time and a review of the company’s business, operations and structure and skillset of the company’s board.



Appointment of new MD – during Q413, Anthony Tse was confirmed as managing director and board changes were made. Martin Rowley was appointed as independent non-executive chairman and director.



Share purchase agreement (SPA) with Tianqi – in April 2014, GXY announced a binding SPA with Sichuan Tianqi Lithium Industries (Tianqi) for the sale of 100% of the Jiangsu lithium carbonate plant. Tianqi is a Chinese company listed on the Shenzhen stock exchange. It holds a significant range of assets in the lithium sector. It is a leading producer of lithium products in China and holds a majority interest in Talison Lithium, which owns the Greenbushes lithium mine and operations in Western Australia.



Objective to eradicate net debt – the objective of GXY’s divestment was to reduce interest bearing debt to a low net-debt or net-cash level without further diluting shareholders’ equity. In the March quarter prior to this announcement, GXY reduced the operating rate of the plant with lithium carbonate production of only 638 tonnes.



Delays to the sale process – the completion process for the sale proved to be more protracted than anticipated, partly due to regulatory factors. As a result, Tianqi indicated that its board and shareholders would not approve the transaction under the original terms. A significant change had been a fall in the A$/US$ exchange rate. GXY elected to renegotiate the terms of the SPA to enable completion to be achieved with a higher degree of certainty.



Revised terms – these were agreed on 2 February, 2015. The revised transaction was based on an enterprise value of US$173.2m (previously US$230m), comprising a cash consideration of US$71.7m (previously US$122m) and assumption of all of the US$101.5m (previously


11

US$108m) Chinese debt at the Galaxy Jiangsu level. The A$/US$ rate for conversion was 0.7768. The final enterprise value was also subject to adjustment to account for Tianqi’s contribution to 50% of Jiangsu plant costs from 1 February 2015 until completion of sale. 

Deposit related to the sale – GXY had previously received a deposit of US$12.2m related to the sale (announced 21 May 2014). This was included within the cash consideration above.



Additional term loan facility – in July 2014, GXY also entered into an agreement with Tianqi for the provision of a US$30m non-amortising bullet term loan facility at a rate of 10% per annum (contingent loan agreement). On 8 August 2014, GXY drew down US$15m and drew down the remaining US$15m in September. 2014. Post completion of the Jiangsu sale, GXY was required to repay the US$30m loan facility.

Earnings and valuation sensitivities GXY’s main focus is the development of the Sal de Vida brine lithium project in Argentina. It may also review other opportunities in lithium and potentially other commodities. Earnings, cash flow and valuations are sensitive to parameters and issues including: 

Prices, FX – lithium prices and foreign exchange rates.



Supply/demand – prices for lithium are influenced by supply and demand factors.



Demand growth – demand for lithium will be driven by advances in existing technologies, new technologies and the speed of their adoption. Specific factors driving demand growth include rising electric vehicle use and the expanded use of batteries for the storage of energy, particularly non-continuous power sources such as wind and solar.



Technological change – lithium demand may be affected by step changes in technologies (which could positive) or lithium substitutes (which would be negative).



The potash market – potash, mainly used as a fertiliser, is a co-product at the Sal de Vida project and will contribute to the total revenue of the project. Potash prices will be subject to their own supply demand dynamics, which may be affected by the broader fertiliser market.



Equity retained – the degree of GXY’s exposure to the Sal de Vida project will depend on the method of funding and the percentage of equity retained in the project.



Costs, quality – financial performance will be affected by project capital costs, operating costs, and product revenue. Revenue will be dependent on achieving the required product quality and specifications for the target market.



Government, taxes – performance is sensitive to government issues and country risk. Factors that could be affected include permitting, taxes and royalties. GXY has projects in Argentina, Australia and Canada.

Valuation We have conducted a sum of the parts valuation for GXY, valuing each of its three assets. 

Sal de Vida – we have assumed production for the Stage 1 valuation of around one third the 2013 DFS level. For the purpose of our model we have assumed GXY retains 60% equity in the project. While this is a reasonable prognosis, it could differ from this. Stage 1 has been reasonably well defined for valuation purposes but the schedule, costs and financing for Stage 2 is uncertain. Therefore our valuation for Stage 2 related to our valuation for Stage 1, is only indicative. Compared to the Stage 1 valuation, deferral of production to later stages reduces the valuation but possible lower capital to increase capacity because of facilities already in place and modular construction may provide an offset.


12



Mt Cattlin – we have valued the lease, royalty and sale agreement with GMM on the basis of a successful sale in year four. GMM is expected to focus on mining the tantalum rich areas.



James Bay – with no planned production or certain mechanism for monetisation, we value James Bay at the 31 December 2014 book value of its exploration and evaluation assets.

Valuation methods We have modelled the cash flows for the Sal de Vida and Mount Cattlin projects. We have used NPV10 methodology for these projects using unescalated revenue and costs and a discount rate of 10%. As there is no development plan for James Bay, we have used its book value. As GXY has no current earnings, it is not possible to value the company by applying an earnings multiple.

Valuations Exhibit 10: Valuation of GXY assets Base case LCE US$6,500/tonne Project value GXY share

Projects Sal de Vida (Stage 1) Mt Cattlin James Bay

Upper case LCE US$7,000/tonne Project value GXY share

US$m

A$m

A$m

A$/share

US$m

A$m

A$m

A$/share

69.9

90.8 29.9 2.0

54.5 29.9 2.0

0.051 0.028 0.002

89.6

116.4 29.9 2.0

69.8 29.9 2.0

0.066 0.028 0.002

86.4

0.081

101.7

0.096

100.0 186.4

0.094 0.175

125.0 226.7

0.117 0.213

Subtotal Sal de Vida (Stage 2) Total

Source: Edison Investment Research. Note: Issued shares 1,065m, A$/US$0.77 

Sal de Vida – our base case valuation for Sal de Vida Stage 1 calculated at an LCE price of US$6,500/tonne and potash price of US$300/t is A$54.5m (A$0.05/share). This assumes 60% retained equity in the project. Our upper-case valuation at an LCE price of US$7,000/tonne is A$69.8m (A$0.07/share). The development of Stage 2 at the same equity level (or the sale of this capacity to a third party) could be worth around A$0.09/share (at an LCE price of US$6,500/tonne). The upper case valuation is A$0.12 per share.



Mt Cattlin – at a production rate of 200,000 tonnes per annum tantalum concentrate at a tantalum price of US$80/lb, we calculate a base valuation of A$30m (A$0.03 /share). The variability of the valuation with changes in production rate and price is relatively small because the purchase payment in year four, which is A$30m from which royalty credits are deducted, is the major influential factor. This valuation is dependent on the exercise of the option to purchase.



James Bay – the book value of GXY’s exploration and development assets for James Bay is A$2m (A$ 0.002/share). This could underestimate its development and exploration potential.



Valuation total – combining the valuations of the Sal de Vida (Stage 1), Mt Cattlin and James Bay projects over their respective ranges gives a base valuation range of A$0.08/share. The total base price related valuation after adding in the benefit of developing (or selling) Stage 2 is A$0.17/share. An upper valuation case at a higher LCE price is A$0.21/share.

Potential upside to valuations 

Lithium price upside – technological change has the potential to drive lithium demand above trend. If supply fails to respond quickly enough, there is potential for higher lithium prices in the medium term.



Potash (MOP) price upside – potash prices are currently at the lower end of their recent trading range. Some potash industry participants, such as BHP Billiton (BHP), have a very positive view of future potash prices.


13

Financials The recent sale of the Jiangsu plant in China has transformed the balance sheet, facilitating a massive reduction in debt.

Earnings GXY is expected to have lease fee and production royalty income from the Mt Cattlin project from late calendar 2015 under the operating and sale agreement with GMM. We have assumed a tantalum production rate building to 200,000lbs per annum and a tantalum price of US$80/lb. From around 2017 or 2018, the Sal de Vida brine lithium project could be generating earnings if GXY is able to commission the project according to this schedule.

Cash flow The company has been reliant on funding from equity raising and debt sources. Cash flow from Mt Cattlin lease fees and royalties is expected in late calendar 2015. Funding for the Sal de Vida project may be partially sourced from potential joint venture partners and debt.

Balance sheet At 31 December 2014, GXY had cash of A$13.4m and interest bearing debt of A$225.6m. Because of a previous breach of certain lending covenants under a bank facility related to the Jiangsu plant, all GXY’s secured bank loans were classified as a current liability. The loans comprised: 

Secured bank loans – facilities with Chinese banks of RMB 623.4m or US$101.5m (A$111.5m) at 6-7% pa, secured against the Jiangsu plant.



Convertible bonds – carrying value at 31 December 2014 of A$60.0m. Coupon 10% pa. These have a maturity date of 19 November 2015.



Subordinated short term loan – provided by a lending consortium, largely European-based institutional shareholders of GXY, at 10% pa. The funds were provided for general corporate purposes, secured by GXY’s interest in the Sal de Vida project. As at 31 December 2014, A$4.45m remained outstanding. GXY is confident the loan will be extended to 31 March 2016.



Tianqi loan agreement – non-amortising bullet term loan facility of US$30m (at 10% pa) provided by Tianqi under an agreement in July 2014. This was provided to progress the sale of the Jiangsu plant and provide working capital until completion of the sale. GXY drew down US$15m on 8 August 2014 and drew down the remaining US$15m in September 2014.



Jiangsu sale deposit – GXY received US$12.2m as a refundable deposit on the sale of the Jiangsu plant. It was recorded as a current liability. Interest was payable to Tianqui at 6% pa.

On 14 April 2015, GXY completed the Jiangsu plant divestment to Tianqi. The following occurred: 

Assumption by Tianqi of Chinese bank secured bank loans – Tianqi assumed GXY’s outstanding US$101.5m loan.



Effective cash consideration of US$71.7m paid to GXY – post completion, GXY repaid the US$30m loan made available by Tianqi, a transaction requirement. In addition, the US$12.2m sale deposit was effectively retired as it was deducted from the US$71.7m cash payment.



Cash position after settlement – after taking into account the offset against the original deposit payment (US$12.2m) and the contingent loan repayment (US$30m), GXY had a cash position of approximately A$50m (net debt approximately A$14.4m) after settlement.



Positive cash adjustment – in accordance with the SPA, Tianqi was responsible for meeting 50% of the running costs at Jiangsu from 1 February through to completion. After reconciliation, GXY expects to receive additional funds under the settlement.


14

Exhibit 11: Financial summary Year end 31 December PROFIT & LOSS Revenue Cost of Sales Gross Profit EBITDA Operating Profit (before amort. and except.) Intangible Amortisation Exceptionals Share based payments Operating Profit Net Interest Profit Before Tax (norm) Profit Before Tax (FRS 3) Tax Profit After Tax (norm) Profit After Tax (FRS 3)

A$000s

Minorities Associated company income Net income (norm) Net income (FRS 3) Average Number of Shares Outstanding (m) EPS - normalised (c) EPS - normalised and fully diluted (c) EPS - (IFRS) (c) Dividend per share (c) Gross Margin (%) EBITDA Margin (%) Operating Margin (before GW and except.) (%) BALANCE SHEET Fixed Assets Intangible Assets Tangible Assets Investments Current Assets Stocks Debtors Cash Other Current Liabilities Creditors Short term borrowings Long Term Liabilities Long term borrowings Other long term liabilities Net Assets CASH FLOW Operating Cash Flow Net Interest Tax Capex Acquisitions/disposals Equity financing, other Dividends Net Cash Flow Opening net debt/(cash) HP finance leases initiated Other Closing net debt/(cash)

2012 IFRS

2013 IFRS

2014 IFRS

2015e IFRS

2016e IFRS

9,435 (32,348) (22,913) (51,783) (62,189) 0 (43,659) (15,547) (121,395) (6,500) (68,689) (127,894) 0 (68,689) (127,894)

32,183 (46,489) (14,306) (27,361) (46,854) 0 (44,093) (449) (91,397) (13,462) (60,316) (104,858) 1,347 (58,969) (103,512)

185 (579) (393) (5,245) (5,398) 0 (38,678) (2,108) (46,183) (8,520) (13,918) (54,703) 0 (13,918) (54,703)

700 (1,500) (800) (2,300) (2,440) 0 0 0 (2,440) (1,165) (3,605) (3,605) 0 (3,605) (3,605)

4,058 (1,500) 2,558 1,058 918 0 0 0 918 (263) 656 656 0 656 656

0 0 (68,689) (127,894)

0 0 (58,969) (103,512)

34 0 (13,884) (54,670)

0 0 (3,605) (3,605)

0 0 656 656

427.0 (16.1) (16.1) (30.0) 0.0

721.8 (8.2) (8.2) (14.3) 0.0

1,064.8 (1.3) (1.3) (5.1) 0.0

1,064.8 (0.3) (0.3) (0.3) 0.0

1,064.8 0.1 0.1 0.1 0.0

N/A N/A N/A

N/A N/A N/A

N/A N/A N/A

N/A N/A N/A

N/A N/A N/A

313,387 0 313,387 0 20,894 0 13,176 7,719 0 (121,243) (13,464) (107,779) (65,679) (60,365) (5,314) 147,358

283,136 0 283,136 0 27,584 0 24,744 2,840 0 (202,646) (18,989) (183,657) (6,871) 0 (6,871) 101,204

132,944 0 132,944 0 201,290 0 669 13,389 187,231 (277,809) (20,772) (257,037) (7,455) 0 (7,455) 48,969

134,404 0 134,404 0 50,168 0 669 49,499 0 (65,813) (5,813) (60,000) (7,455) 0 (7,455) 111,303

135,904 0 135,904 0 46,664 0 669 45,995 0 (65,813) (5,813) (60,000) (7,455) 0 (7,455) 109,299

(67,552) 349 0 (55,628) (7,986) 122,842 0 (7,976) 81,571 0 (70,879) 160,426

(18,560) 139 0 (6,288) (6,042) 25,573 0 (5,178) 160,426 0 (15,213) 180,817

(9,826) (15,560) 0 (2,122) 8,237 25,811 0 6,540 180,817 0 (69,371) 243,648

(2,300) (1,165) 0 (1,500) 238,178 0 0 233,213 243,648 0 (66) 10,501

1,058 (263) 0 (1,500) (2,800) 0 0 (3,504) 10,501 0 (0) 14,005

Source: Galaxy Resources, Edison Investment Research


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Contact details

Revenue by geography

Level 2 16 Ord Street Perth WA 6005 Australia Phone www.galaxyresources.com.au

N/A

CAGR metrics

Profitability metrics

EPS 2011-15e EPS 2013-15e EBITDA 2011-15e EBITDA 2013-15e Sales 2011-15e Sales 2013-15e

N/A N/A N/A N/A N/A N/A

ROCE 15e Avg ROCE 2011-15e ROE 15e Gross margin 15e Operating margin 15e Gr mgn / Op mgn 15e

Balance sheet metrics N/A N/A N/A N/A N/A N/A

Gearing 15e Interest cover 15e CA/CL 15e Stock days 15e Debtor days 15e Creditor days 15e

Sensitivities evaluation N/A N/A N/A N/A N/A N/A

Litigation/regulatory Pensions Currency Stock overhang Interest rates Oil/commodity prices

     

Management team Chairman, independent non-executive director: Martin Rowley

Managing director: Anthony Tse

Mr Rowley was non-executive chairman and director of Lithium One, which was acquired by GXY in July 2012. He was appointed as chairman and director of GXY in November, 2013. He was a co-founder and current executive director, business develpment of TSX/LSE listed First Quantum Minerals.

Mr Tse has been an executive director since October 2010 and MD since June 2013. He has 20 years of corporate experience in high-growth industries such as technology, internet/mobile, media & entertainment and resources & commodities, primarily in senior management, capital markets and M&A roles.

Executive director: Charles Whitfield

Chief financial officer: Rowan Colman

Mr Whitfield has responsibilities for corporate finance, M&A activities and treasury. Management roles have included principal investment officer of Drumrock Capital, providing advisory services to start-up companies. He was formerly a MD with Citigroup as head of corporate equity solutions (Asia Pacific).

Mr Colman was appointed CFO on 1 December, 2014. He is a former development director of a major sovereign wealth fund in the Middle East managing multiple global development projects. More recently, he has focused his expertise on the resource industry.

Principal shareholders

(%)

Acorn Capital Deutsche Bank Geologic Resource Partners Creat Resources Holdings Private Individual Nero Resource Fund Eternal Faith Holdings

8.2% 7.8% 4.8% 3.5% 2.8% 2.5% 1.8%

Companies named in this report BHP Billiton (BHP), General Mining Corporation (GMM), Sichuan Tianqi Lithium Industries Inc (Tianqi), Talison Lithium

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