Rick Mills: Cobalt Is the King of Critical Metals

Source: Zig Lambo of The Critical Metals Report (8/30/11)

Most people don't know or care about cobalt. But, as with a number of metals we seldom hear about, we would certainly miss cobalt if it were not available for use in many cutting-edge applications. In this exclusive interview with The Critical Metals Report, Rick Mills, editor of Ahead of the Herd, talks about the supply and demand for critical metals and tells us why cobalt is the "King of Critical Metals." He also tells us why he likes two emerging cobalt producers that could reward investors looking to participate in this very tight market dominated by China.

Companies Mentioned: Formation Metals Inc. - Puget Ventures Inc.

The Critical Metals Report: Most resource stock investors are focused primarily on the precious metals and copper and, to some extent, the rare earth elements (REEs), which have gained increasing coverage in the past few years. Base and industrial metals such as nickel, manganese and cobalt seem to attract little investor interest. Why is that?

Rick Mills: Well, let's focus on cobalt, which has never been on the radar screens of most investors. It is something new and investors have to get their heads around exactly what it is, and just how important it is to the functioning of a modern economy, in the green movement and in defense applications. Cobalt is going to undergo a massive sea change in perception among investors because it is so much more than an industrial metal. I call it the "King of Critical Metals." Cobalt is an emerging story we can expect to hear more and more about as critical metals are the sexy new story.

TCMR: Why don't you give us a definition of critical metals so everyone's on the same page?

RM: There's been some controversy over what is and isn't a critical metal, so let's lay it out for our readers based on three reports published in the last year or so. The U.S. Department of Energy says materials used in four clean energy technologies: wind turbines, electric vehicles, solar cells and energy efficient lighting, are critical now. The American Physical Society's Panel on Public Affairs and the Materials Research Society coined the term "energy critical element" to describe elements that are essential to one or more of the new energy-related technologies. The European Union commissioned a report that identified 14 materials critical to the EU.

Only four metals or element groups made all three lists: REEs, platinum group elements (PGEs), lithium and cobalt. So there is absolutely no dispute that cobalt is a critical metal.

What exactly is it that makes a metal critical? Well, the availability or lack of these elements can have major impacts on energy systems, and significantly increased demand could strain supply. That could cause massive price increases or even unavailability and, therefore, discourage the use of new technologies. Most of these critical elements are produced as byproducts in the production of other metals, so ramping up production can be extremely difficult and the Chinese are tying up supplies. There's a relentless demand for high-tech consumer products in emerging countries. We have ongoing material research that is exploding uses for these critical metals; there's very low substitutability and virtually none of this stuff is recycled.

TCMR: Cobalt is in short supply, or at least in limited availability, at this point and that is why people should be looking at it, right?

RM: Absolutely. Cobalt has all the criteria we've talked about, but let's look at a few more reasons. Because of the relative scarcity of critical metals, their extraction often involves processing large amounts of materials, which sometimes causes unacceptable environmental damage and, because critical metals are often a byproduct of the production of other metals, the timeline required for new production is dependent on the price of those other metals. Critical metals also have a very high supply risk, because a large share of the worldwide production comes mainly from a handful of countries. Much of cobalt production comes from the Democratic Republic of Congo (DRC).

TCMR: Certainly not a politically stable source of supply.

RM: The geopolitical situation in the DRC directly affects the price of cobalt.

TCMR: That makes sense.

RM: Well, the DRC is the world's largest supplier.

TCMR: That doesn't leave the rest of the world in a very good position. Can you explain the industrial and energy applications of cobalt, and how China fits into the picture in terms of tying up cobalt supply?

RM: Green initiatives have become a global focus point for many investors. Cobalt holds a critical role in the future green energy economy, mainly for its use in rechargeable lithium-ion batteries used in electric vehicles and consumer electronics. But cobalt is also used in solar panels and in the blades and magnets for wind turbines.

Cobalt is also used in high-speed, high-strength wear-resistant alloys that are used in aerospace and military technologies, so there are critical defense applications. Cobalt also has many industrial uses such as a catalyst in desulfurizing crude oil and in hydrogen generation oxidation. It is used in natural gas-to-liquid technology, orthopedics and life sciences. But it is rare to find it in economical standalone deposits; even though it is one of the 30 most abundant elements in the earth's crust, it has an extremely low concentration, just 0.002%. So, cobalt is almost always produced as a byproduct of copper and nickel mining. There are very, very few primary cobalt deposits in the world today.

About 40% of the cobalt consumed in the world originated as a byproduct from copper production in the DRC. China went in and made a deal with the DRC. It gave the DRC something like $9 billion and built roads, a couple of dams, hospitals, schools and railways. In return, China got the rights to most of the production from the most prospective areas in the Congo for cobalt. So, China has literally tied up a majority of the world's cobalt. The leading global producers of refined cobalt are China at 39%, Finland at 15%, and Canada at 8%.

It has been forecast that close to 40%–50% of the incremental cobalt production over the next five years is going to come from the DRC. China is extremely short of cobalt itself and needs to import it. China uses what it needs and then exports it to everybody else, making it the leading supplier of cobalt imports to the United States. So, again, like the REEs, we have a situation where most of the world is relying on China for its critical metal supply. This is an untenable situation.

TCMR: Obviously, China is looking at it from the standpoint of insuring adequate raw material supply.

RM: True, and China does deals differently than we do. We'll go in and finance a company. We'll talk on a company-to-company basis. China goes in and talks on a government-to-government basis. It wants offtake agreements in exchange for building the infrastructure that a country needs. It's very hard for us to compete on that level.

TCMR: We used to be worried about "Japan Incorporated" because it was the industrial-government complex in Japan, but now we've got "China Incorporated" and it is an even bigger force.

RM: It is by far. A few years ago China's state-owned enterprises and sovereign wealth funds were armed with hundreds of billions of U.S. dollars from the country’s foreign reserves and sent out to scour the globe for resources. They deal in straight cash and don't mind operating in high risk areas, and they want offtake agreements from early stage development projects in exchange for cash and infrastructure.

TCMR: What has happened with U.S. production of cobalt and other strategic metals since the big investment push for them in the early 1980s?

RM: The U.S. used to be a leading producer of a lot of the strategic/critical metals and even the rare earths. But domestic production and research dropped off in the 1980s and 1990s because China ramped up production so much and undercut prices. China could produce at a much cheaper price than anyone else could because it had low production costs and non-existent environmental regulations and oversight. It could get away with anything it wanted. Dump waste/tailings in the bush, drop them in a lake, pump them into a river. They didn't care. Just produce and undercut everybody.

China basically stole all the production and drove everyone out of the markets. We got complacent because we could get it from China cheaper than we could ever produce ourselves. Now China has this stuff locked-up and they're increasingly cutting back exports. It's critical to us as well and we've got to get our own supply. The security of supply situation has to be remedied.

TCMR: Do you expect that there is going to be a strong demand for cobalt and the other critical metals for as far as we can see into the future?

RM: I do. There are very few primary producers of cobalt. We're in a different environment today than in the 1980s and 1990s. People are starting to realize just how important these elements are to the green sustainable technology movement and the functioning and defense of our modern economy. China's exporting less and less as its own internal demands increase. Cobalt is the king of critical because the applications continue to expand and there are so few primary cobalt deposits.

TCMR: So how are cobalt prices established?

RM: The London Metal Exchange has commenced cobalt futures trading. Now we have an open market in cobalt. The last price I got was for August 11. A cash buyer could buy one ton, minimum 99.3% pure cobalt for $36,000.

TCMR: So, it's in the multi-dollars per pound category like nickel and molybdenum.

RM: Exactly.

TCMR: You follow some companies that are trying to develop cobalt production in North America. Can you tell us about some of those?

RM: Well, I follow two companies on Ahead of the Herd. The first one is called Formation Metals Inc. (TSX:FCO). Its main asset is a high-grade U.S. cobalt deposit in Idaho. The company is planning to begin cobalt production mid-2012. Formation expects to close an extremely large financing soon and this will give it enough money to cover the capital costs to put the Idaho Cobalt project into production. When/if the financing closes and people see that Formation is going to get into production, the market could definitely revalue the stock price. I think it is undervalued at this time. The U.S. relies on recycling its scrap for 15% of its cobalt and imports most of the remaining 85% from China. It looks like Formation is in a pretty sweet spot in its lifecycle right now.

TCMR: How did Formation end up with that project considering that cobalt is so rare in the U.S.?

RM: Formation has had it and has been bringing it along for 15 years. Back then, cobalt was so far off people's radar screens that I am pretty sure there were one or two properties laying around that it could have picked up. Foresight, I guess.

TCMR: That certainly gives people one good opportunity to invest in U.S. domestic cobalt. What's the other company?

RM: Puget Ventures Inc. (TSX.V:PVS), which will, upon completion of the company's Pafra acquisition, be renamed Global Cobalt Corporation. The company is doing a transaction that will make the new Global Cobalt Corporation, the former Puget Ventures, a first mover into an incredibly resource-rich area in southern Siberia. It is the Republic of Altai, on the border with Mongolia, Kazakhstan and China. It's a bit removed from mainstream Russian industry.

The company is doing a financing and has the European Bank for Reconstruction and Development as a shareholder. The bank is a bit like the World Bank and provides equity and debt financing for projects in emerging countries and emerging economies. The bank is partially owned by the Russian government, which gives Global Cobalt an added political safety net. So, it has taken care of the political risk issue. The European Bank for Reconstruction and Development does an incredible amount of due diligence on projects they are going to invest in. The bank is incredibly thorough on assessment, and the management milestones that they request are extremely high.

Another thing about this deal is the Altai government and the Federal Government of Russia confirmed the commitment of CAD$475 million (M) over the next five years. This is for mining related infrastructure development. CAD$400M is allocated to the main project, Karakul. The money is going for development, mine and mill construction, and construction of the rest of the infrastructure. The reason the Russians and the Altais are doing this is because they want to kick-start industrial development in Altai and build out a mining industry.

Puget Ventures is working on this transaction now. The company expects it to be closed in a couple of weeks. Puget Ventures is not trading as we speak and there is some risk that this deal may not go through. But this is something that investors need to have on their radar screen. Puget is working on a transaction to take over a complete mining district with several deposits that already have resources, feasibility studies and mine plans. This is not greenfields; it's a development play with several very advanced projects.

It is quite an incredible deal. It should catapult the new Global Cobalt into the forefront of junior resource developers and the company is going to attract a lot of attention. The Karakul project is the flagship asset and it has near-term production potential from one of the largest known sources of primary cobalt outside of Africa. A large amount of exploration and predevelopment work has been conducted in the whole region, which has a number of cobalt and critical metals projects, including a past producing tungsten mine. They are all located close to Karakul and are included with a right of first refusal with Global Cobalt.

TCMR: So, basically, the stock is halted at this point pending all this coming together, and the expectation is that it will start trading under its new symbol and new name in a couple of weeks. Is that right?

RM: Yes.

TCMR: Well, that should turn out to be a substantial operation once it gets going.

RM: I think people should be definitely watching it. You have got to give hats off to the management team for seeing the opportunity and taking it. The financing gets done and the company is going to go in there and march these things down the development path to production. In addition to cobalt, there are also silver and tungsten, both named as critical metals in the above-mentioned reports. So this is pretty exciting stuff!

TCMR: Do you have any parting thoughts that you'd like to leave with us as far as the general environment at this point either economy-wise or specifically as far as these critical metals go?

RM: Too many times I read that investing in the junior resource market is akin to gambling. Too many investors take that to heart. They think the junior market is a casino, in and out, a quick trip to riches. In reality, nothing, and I mean nothing, could be further from the truth. Occasionally somebody gets lucky and their stock goes for a ride very quickly, but for the most part people who are smart and have patience are the ones who make the money in the juniors. Look at the two stories we talked about today. What I want to do is get behind a management team that is out to build something of real value and create real wealth for the shareholders and themselves.

So, to me that is not gambling. Get in. Put your money behind a team like that and sit back and watch the story unfold. Stick with it as long as everything is staying the same with regard to why you got into the story in the first place—a quality management team with an exciting story to tell and they're willing to tell it. It has got quality projects that are capable of huge news flow and they fit into a dominant overriding theme. That's a story that you follow and you leave your money in. You let them go to work and build something of real value.

I believe that Puget Ventures to Global Cobalt has all the attributes an investor needs. I think Formation is the same. Take a position and watch the story unfold. These management teams have vision for their companies and they're going to work. That is not a gamble. That is a smart investment for smart, patient people. And, the reward could be very nice.

TCMR: Those are certainly a couple of very promising companies with solid fundamentals and definitely something that people should be watching. Thank you very much for your time this morning. You've given us some good insight into an area that most people are not acquainted with.

Richard (Rick) Mills is host of www.aheadoftheherd.com and invests in the junior resource sector. His articles have been published on more than 300 websites, including: The Wall Street Journal, SafeHaven, Market Oracle, USA Today, National Post, Stockhouse, Lewrockwell, Uranium Miner, Casey Research, 24hgold, Vancouver Sun, SilverBearCafe, Infomine, Huffington Post, Mineweb, 321gold, Kitco, Gold-Eagle, The Gold/Energy Reports, Calgary Herald, Resource Investor, Mining.com, Forbes, FNArena, UraniumSeek and Financial Sense.

DISCLOSURE:
1) Zig Lambo of The Critical Metals Report conducted this interview. He personally and/or his family own shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of The Critical Metals Report: Puget Ventures Inc.
3) Rick Mills: I personally and/or my family own shares of the following companies mentioned in this interview: None. I personally and/or my family am paid by the following companies mentioned in this interview: None.