Tuesday, August 30, 2016

Valence Industries: Unforgiven

Australia graphite producer Valence Industries Ltd. has hit a speed bump in its journey as a vertically integrated producer of graphite materials.  In late July 2016, the company sought administrative protection in an Australia court.  Production had already been shut down in December 2015 at the company’s Uley graphite mine.  After taking over control of Valence assets in July, administrators have indicated any and all possible strategies are under consideration from sale of assets to take over by another graphite producer.
Valence had reopened the Uley graphite project on the Eyre Peninsula in Australia in 2014 and in June 2015 began processing ore.  Just three months later the company reported ‘bottlenecks’ in the production process that were obstacles to achieving quality goals.  More importantly the problems were cutting into the company’s precious cash resources.  The workforce was cut and additional cost controls put into place. 

Leadership at Valence pressed on with a plan to bring production up to scale.  Reportedly 250 metric tons of graphite concentrate were produced in the first months of operations.  Given that the processing plant with all its crushing and grinding machinery could handle as much as 20 metric tonnes of ore per hour, the operation was operating at far less than full capacity in those first months.
Like many other graphite producers Valence leadership have had their eyes on end markets that are coming up with more and more interesting new ways to use graphite materials.  The opportunity to capture value by ‘dressing up’ basic graphite materials for end users is indeed enticing. Valence branded is graphite materials for each ending market, including HeatPro for applications in thermal management and StratGraff for lubricants, drilling fluids and fire retardants.  PowerGraf branded materials were aimed at the battery market.  In September 2015, the company reported sending samples to potential customers for testing in end products.  
Test results and cost controls apparently did not come fast enough.  In October 2015, restive board members had taken the resignation of the company’s managing director and assigned the executive duties to the chief operating officer.  The ambitious plan to build a vertically integrated graphite business beginning in the mine and extending through to end-users appears to have failed.  The company operated for shut a short time it is not possible to analyze operating or finance performance for the vertically integrated business model.  Investors will have to wait for another attempt to test the merits of this business model.
For all practical purposes Valence is a shuttered private company.  The stock of Valence Industries trades on the Australia exchange under the symbol VXL and is quoted as VLQCF by the Over-the-Counter service in the U.S.  Unfortunately, in November 2015 the shares were suspended from trading on the Australia exchange at the election of Valence management.  No trading data is available for the OTC market in the U.S., suggesting the stock has not traded in some time in the U.S.
Bargain hunters with a few extra million lying around might find Valence appealing.  The company owes approximately $13 million to secured and unsecured creditors.  Acquisition of the assets would apparently require additional investment to bring product up to quality and quantity goals.  During an early 2015 attempt to raise $18 million in new capital through a rights offering, Valence leadership has suggested $7 million would be needed for required capital improvements on the processing plant and $5 million would be needed for working capital until production reach full capacity.  The balance of $6 million from the capital raise would have been used to placate creditors.
The lesson from Valence is that having graphite in the ground is simply not enough even in the sunshine of rising demand.  In the current economic environment the capital markets are not as generous compared to times past.  There is no ‘time to tinker’ with production processes.  Capital expenditures must work the first time and working capital is sufficient only for one attempt at profitability.  Today’s capital market leaves ‘unforgiven’ those companies like Valence that make strategic mistakes.

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.

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