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Sociedad Química y Minera de Chile S.A. (NYSE:SQM) is a Chilean business with global reach involved in the production and supply of chemicals, plant nutrients/fertilisers, lithium, iodine, and potassium. With all of these areas currently experiencing growth worldwide – with fertilisers and lithium being particularly in vogue – coupled with the company’s fantastic financial position and its proclivity to issue generous dividends, I consider the recent run-up in the share price to be highly likely to continue. Although trucking primarily in commoditised spaces, the safety net this company offers in the form of its exposure to other growth commodities makes this a fantastic vehicle through which to gain exposure to the current lithium boom. I am therefore confident issuing a strong buy recommendation for the stock to be included as a small part of the speculative side of one’s portfolio.
In this article, I break SQM down into its main constituent parts – examining them individually for their position and growth potential – before reassembling it as a whole, and taking a holistic view of the company as a prospective investment opportunity.
Lithium and Derivatives
The mining of lithium and its derivatives represented 33% of SQM’s revenue in 2021, and over 75% of the company’s revenues in Q1 of 2022. Lithium production, principally for its use in battery technology, is one of the most patent growth areas visible to investors today. Battery storage is one of the main points of focus of green energy technology, and lithium is currently a crucial component of these batteries.
Demand for lithium is set to continue at its blistering pace, with some questioning whether we even have enough lithium to make all the batteries that we need. Elon Musk said this week that lithium refining is a “license to print money”, and I have previously written an article covering a lithium battery ETF which outlines some of the main reasons for growth of the trend.
Lithium demand was recently predicted to grow at a staggering CAGR of 12% to 2030, but this figure could easily have underestimated the impending demand for the metal. One of the main drivers in the growth of demand for lithium is that it is an essential component in the batteries of electric vehicles (EVs). EVs are currently growing at approximately 40% to 80% per annum. With many governments setting directives phasing out the sales of legacy vehicles, as well as shifting consumer tastes towards EVs as charging infrastructure is built up, this structural demand driver for the vehicles makes this growth figure appear locked-in for the coming decades.
Although there is the possibility to use other compounds in these battery technologies, with sodium-ion being touted as one of the front-runners in terms of its suitability as a potential replacement, this looks unlikely to occur in the near-to-medium future. 74% of lithium use worldwide is directed towards battery usage, and with just an 8% penetration of EVs, there is clearly a lot of room to go in this area. With the likelihood of its being used to store other green energy in addition to its use in EVs (such as for wind and solar energy), lithium seems a sure bet to continue its position of being in high demand for the foreseeable future.
The recent surge in lithium prices has contributed significantly to SQM’s stellar first quarter, and if we extrapolate those earnings out to the rest of the year, this leaves SQM with a forward PE of 7.93 – extremely low for a company exhibiting such growth trends as SQM does.
Specialty Plant Nutrition
SQM is a huge producer of specialty plant nutrition products, which in 2021 accounted for 31% ($909m) of its revenues. This consists principally of potassium nitrate, of which SQM is estimated to be the world’s largest producer. Potassium nitrate is typically used for high-value crops (fruits, vegetables, flowers, etc.), and is touted as an ideal fertiliser for the rapidly shifting climatical conditions we are seeing throughout the world today. It is said to enable plants to be able to both better withstand droughts and extreme temperatures, and also to recover well after excessive rains and flooding.
Fertiliser is a topical issue today with the ongoing situation in Sri Lanka, where their import was banned and farmers had to make do with homegrown substitutes, which led to massive crop failures. In addition to potassium nitrate, SQM also produces other specialty fertilisers, including sodium nitrate, sodium potassium nitrate, and other blends.
Although perhaps not representing an issue quite as front-of-mind for the regular person as the company’s lithium division does, the specialty plant nutrition department makes up a significant part of SQM’s growth impetus. Worldwide vegetable production’s CAGR has outpaced that of world population growth by 3 times the amount over the past decade. The fertiliser growth market is predicted to grow at a 2.6% CAGR up to 2030, and the demand for better-yielding, and less damaging, fertilisers than the more widely used commodity fertilisers looks likely to grow at an even faster clip.
SQM’s fertiliser division grew 29.5% between 2020 and 2021. It has a widely diversified customer base globally, reducing the risk of cyclicality or seasonality damaging revenue, and the current shortage of crops and inflation rates across the world can only serve to increase demand for higher-yielding fertilisers such as those this division of SQM offers to growers. It is also an area where the company can differentiate itself – a difficult task in a largely commoditised business – and exert brand power, which it does, targeting several different market segments through a portfolio of specialty plant nutrition brands.
Iodine, Potassium, and Industrial Chemicals
SQM estimate themselves to be the world’s largest producer of iodine, with it representing 15% of their overall revenues, and 31% of total global sales of iodine by volume in 2021. The Y-O-Y sales figure for iodine grew by over 50% in Q1 2022 vs the same quarter in 2021. The main uses of iodine are in areas such as X-rays, LCD and LED screens, pharmaceuticals, and iodophors and povidone-iodine. Iodine revenue increased by 27% in 2021, and it represents another significant growth prospect for the company in terms of global growth rates – iodine growth is estimated to be in line for a 4.1% CAGR up to 2031. One issue with this business line is that their customers are relatively concentrated, with two customers each representing more than their total sales of iodine. None of SQM’s suppliers represent more than 10% of their supply however, so they are unlikely to be hit by cost pressure on that end as a result of an overly-powerful supplier squeeze.
Another 15% of SQM’s revenue in 2021 came from their potassium division, which was a huge jump from their 2020 figures, representing 99% growth over the previous year’s figures. This leapt another 89% in the Y-O-Y performance in the first quarter of this year vs Q1 of 2021, as demand for the commodity fertiliser exhibited significant growth. This product acts to complement SQM’s offering of the higher-value-added specialty plant nutrition division and enables them to target other segments of customers. SQM estimate themselves to represent just 1% of the global market for potassium, so there is also significant room to grow this division of the company.
5% of SQM’s revenues come from other industrial chemicals – these are mainly different grades of the products they offer to the agricultural markets. Industrial nitrates actually follow the same process as that used for agricultural nitrates, requiring just one additional step in the processing to qualify for this grade. This therefore represents a good source of optionality for the company – should there be a difference in the market prices offered for the products, they can easily switch production towards the more profitable end.
Within the industrial chemicals unit, SQM’s industrial nitrates are becoming increasingly popular in their usage as a component of concentrated solar plants, which provide long duration electricity storage. The company expects to supply 400,000 metric tonnes of solar salts to this end between 2020-2022. With other applications of these chemicals currently being worked on (such as industrial heat processes and heat waste solutions), it represents yet another potential growth area for the company in the future.
Financials
SQM is a company with some outstanding financial characteristics. It boasts an extremely healthy net margin figure of 20.45, cash and cash equivalents of 2.3bn on the balance sheet, and extremely healthy cashflow pouring in off the back of a surge in demand for its lithium products. Estimating an EPS for 2022 of $11.42 would give the company a forward PE ratio of just under 8, which is a fantastic figure for a company inextricably linked to one of the most obvious growth areas of the coming decade. To boot, SQM is a company which is looking to proactively grow its operations in the lithium space, evidenced by the $1.8bn joint venture of a lithium mine, concentrator, and refinery in Australia (the only country which produces more lithium than Chile) to which it is a party. Although SQM does have a somewhat high debt-to-equity ratio of 1.64 as per Q1 2022 figures, its current cashflow is such that we can expect this to coalesce towards a more reasonable level over the coming months. SQM is a committed dividend payer, issuing a quarterly dividend of $2.60 in Q1. Although this was an exceptionally high figure, its 4 year average dividend yield is 83.92% higher than the sector average.
Apart from the principally commoditised nature of the business, which means its performance will largely be dictated by the vicissitudes of market forces outside of its control, the main other risk to SQM comes in the form of the current government threatening the potential nationalisation of its mines. Indeed, the recently inaugurated far-left president Gabriel Boric has voiced his desire to do so. An overlooked fact when it came to the media hype that surrounded this story, however, was that it would require a change to the constitution, which necessitates a two-thirds majority vote from the government’s constituent assembly – an outcome that Sergio Bitar, former Chilean minister of mining, education and public works, thinks there is scant chance of occurring. In any case, it is a development worth keeping an eye on, and however small the likelihood of this coming to pass, it is an indicator that it would likely be prudent for an investor to not over-concentrate in the stock.
Summary
In conclusion, although an investment in SQM largely represents an investment play where one can express a thesis regarding the continued success of the lithium space, the company offers a wide array of business lines which all look to be in a strong and growing position, and which offer some diversification away from a pure lithium play, and the potential for enhanced returns should these areas grow also. It is a very well capitalised company, with an excellent dividend policy, and some exciting investment prospects. The main detractor from the stock is the risk posed by the potential for a nationalisation of Chile’s lithium mines. However, this seems unlikely, and although it may deter investors from over-concentrating in the stock, I feel at current prices, SQM is an excellent stock to consider including as a small part of the speculative side of a portfolio.
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