Hefty price tag for Avalon’s Nechalacho

It may be the first feasibility level study completed on a major heavy rare earth project outside of China, but the $1.58 billion price tag of Avalon Rare Metals’ (AVL-T, AVL-X) flagship Nechalacho project in the Northwest Territories has left at least one market watcher with a little sticker shock.

“Resource stocks in general are simply out of favour at present and finding the resources for a $1.58 billion capital expenditure does not seem likely,” Jon Hykawy of Byron Capital Markets in Toronto penned in a research note. “Rare earth oxide (REO) prices continue to fall and demand is stagnant or shrinking. While we believe that this trend will reverse itself to a certain extent with reliable non-Chinese suppliers, investors do not seem to have subscribed to this way of thinking.”

Other analysts were more forgiving. “A lot of work has been completed on Avalon’s Nechalacho,” CIBC’s Matthew Gibson remarked. “However, much still has to be completed in order to reach production, including firm off-take partnerships, financing, as well as obtaining permitting. We believe investors will take a wait-and-see approach until at least a partner is found.”

Not surprisingly, Avalon has a much different view. In a press release management said the long-awaited feasibility study confirms that the project is “technically feasible and economically robust” and noted that the construction capital costs of $1.58 billion include a 13% contingency and $122 million in sustaining capital.

Revenues are expected to average $645.8 million a year of which $456.5 million will come from separated REOs and $189.3 million from the sale of an enriched zirconium concentrate known as EZC.

Avalon says it has found a market in Asia for EZC and has signed a memorandum of understanding with a potential Asian customer with pricing that was factored into the feasibility study. The enriched EZC will contain about 50% of the project’s heavy rare earths as well as zircon, niobium and tantalum elements.

Sales of the five critical REOs — neodymium, europium, terbium, dysprosium and yttrium — would make up more than 82% of the separated REO revenues. (Sales of lanthanum and cerium would account for less than 4.5% of total revenues.)

Operating costs would average $264.5 million per year and the project’s measured and indicated resources “would conceivably be sufficient to support continued mining operations at Nechalacho for over 90 years, if the mining rate is unchanged and mineral resources are converted to mineral reserves at the same conversion rate experienced in the feasibility study” the company concluded.

As for the key metrics of after-tax internal rate of return and after-tax net present value, the numbers are 19.6% and $900 million.

Avalon says it has identified “several major and numerous minor” project optimization opportunities that could improve the economics. These include, among others, reintroducing the cracking of zircon at a later date to increase the direct production of heavy rare earth elements (HREE) and separate the by-products from the EZC; improving reagent selection and flotation recoveries at the hydrometallurgical plant; and potentially deferring the building of the refinery and instead toll process Avalon’s mixed rare earth concentrate through a refinery or refineries that have been built and are operated by others. Alternatively it could use excess capacity at its own refinery to toll process third party production and cut operating costs.

Under the current plan, the concentrator would be located at the underground mine at Thor Lake, about 100 km southeast of Yellowknife. The hydrometallurgical plant also would be built in the Northwest Territories at Pine Point, 85 km east of Hay River.  And a rare earth refinery that would produce high purity separated REE oxides and carbonates would be built in Geismar, Louisana. (The refinery would be built close to a CN rail line and an existing chlor-alkali plant that is big enough to supply the refinery with its principal chemical-reagent requirements.)

The feasibility study differs from the prefeasibility study in that it includes a refinery and excludes the zircon caustic cracking process. The prefeasibility study envisioned selling a mixed REE concentrate at a discount to market prices for separated REE oxides). Avalon explains that it decided to include the refinery after “several potential consumers expressed a desire to see a refining solution outside of China.”

Its decision to exclude the cracking process (which would have recovered zirconium, niobium, tantalum and other light and heavy rare earth elements) was made to remove potential technical risks and cut capital costs. (Management also pointed out that it can always bring zircon cracking back into their model at a later date.)

CIBC’s Gibson notes that at the time of the prefeasibility study, he believed that the caustic cracking stage of the plant “was imperative for the economics of the project.” But now, he says, Avalon considers it an optimization opportunity. “This has led us to believe that this is no longer a priority for the company and transfers a significant amount of value for the project to the potential off-taker of the EZC production, indicated to be an Asian processor,” he says. “Excluding this from our model has had a significant impact to our net asset value for the company and until firmer plans are in place, we will continue to view this potential upside with a fair amount of skepticism.”

The feasibility study envisions the underground mine and concentrator will run at a rate of 2,000 tonnes per day and should reach its design capacity of 730,000 tonnes a year within six months of the start of production.

Avalon has about $16 million in cash and no debt.

At presstime in Toronto Avalon was trading at 98¢ a share, within a 52-week trading range of 93¢-$2.59.  

[Editing note: a previous version of this story incorrectly stated that Avalon’s share price hit a 52-week low after the release of the feasibility story, when in fact the stock rose off its 52-week low of 93¢ and closed at $1.01 for the day in response to the feasibility study news.]