Like most natural resource sectors, graphite has been hot at times… and not so hot. Back in 2011, when there was extreme excitement about coal, potash, iron ore and precious metals, graphite stocks experienced a day in the sun. However, when gold, silver, coking coal and iron ore prices crashed in 2012-13, so did graphite pricing.

Too Much Graphite Supply?

Tech-savvy investors and industry pundits have long believed that the demand for graphite, used in a wide range of consumer electronics and notably in lithium-Ion batteries, is poised to explode. Higher demand is great, but doubters of the graphite story noted that expected supply additions would overwhelm increased consumption, thereby constraining graphite pricing. While a lower graphite price is good for consumers, it’s not good for emerging graphite players.

For example, Australian-listed Syrah Resources (ASX:SYR) has a proposed graphite project in Mozambique that could be in production of 200,000 metric tonnes of graphite a year by the end of the decade. That’s a heck of a lot of graphite for an overall annual market of just about 1.2 million tonnes. Therefore, a knock on graphite was that Syrah’s project alone could flood the market. Another concern was that a key area of graphite demand that drew breathless attention in 2010-11, might not live up to the hype, i.e. battery demand for electric vehicles.

Supply / Demand Fundamentals Moving in the Right Direction!

In the past few weeks there’s been some highly significant news on both the demand and supply front that’s bullish for graphite juniors. On February 18th, Tesla Motors (NASDAQ:TSLA) announced that it proposed to build a giga-factory to supply car batteries for its wildly popular electric vehicles. It appears that the EV market is more than just hype as Tesla has almost single-handedly revitalized that market.

Tesla a Game Changer in Electric Vehicle Battery Demand

It has been reported that the proposed giga-factory might require the opening of six new graphite mines. While six mines might not seem like a lot, there’s less than 10 prospective mines of considered likely to reach meaningful production levels by the end of the decade. Companies in that group include Syrah Resources, Focus Graphite (FMS.TO / FCSMF), Northern Graphite Corp (NGC.v / NGPHF), Graphite One (GPH.V / GPHOF), Zenyatta (ZEN.V / ZENYF), Flinders Resources (FDR.V / FLNXF) Big North Graphite (NRT.V / BNCIF) and Mason Graphite (LLG.V / MGPHF).

In searching through company filings and corporate websites, it quickly becomes apparent that even the more advanced and/or larger graphite projects proposed by the above listed companies would not flood the market. For example, Northern Graphite’s proposed project could be in production by next year, with upfront capital needs of about $100 million. This project is forecast to generate 21k tonnes of graphite per year. Focus Graphite’s mine plan calls for 46.6k tonnes per year. These are not big mines.

Syrah Resources & Chinalco Sign Blockbuster Off-take Agreement

The 800 pound gorilla is Syrah Resources’ Mozambique project, expected to start production in late 2015 or early 2016. Upwards of 200,000 metric tonnes of graphite per year is forecasted. However, half of that amount appears to be headed to China. Chinalco, the world’s 4th largest producer of aluminum, signed an agreement with Syrah for 80,000-100,000 tonnes. In addition to the Tesla news, this off-take agreement between Chinalco and Syrah is the second piece of bullish news for graphite juniors.

Chinalco is not only soaking up loose graphite supply, it’s also using Syrah’s flake graphite as a substitute for petroleum coke and anthracite in its aluminum production. This is a really important development because this end use was largely not factored into graphite industry growth models. Further, this new segment (anodes in aluminum smelting) is a 14 million tonne per year market. That’s 10 times the size of the flake graphite market.

Chinese Exports of Graphite in Decline

Importantly, annual graphite supply is not static, it declines naturally as existing mines are depleted. Roughly 70% of graphite production is in China. The mines there are small, inefficient and polluting. Therefore, China is cutting back on production and exports above and beyond natural mine depletion. Some market pundits believe that China could become a net importer of graphite by the end of the decade.

Companies to Watch This Year….

Of the above listed companies, two stand out as worthy of further consideration. Graphite One [GPH.v / GPHOF] is a U.S. junior with a massive deposit in Alaska, easily the largest in North America. This deposit is BOTH at surface and high-grade. The size and quality of Graphite One’s deposit is comparable, albeit not quite as good as, that of Syrah Resources’ deposit in Mozambique. Yet, Graphite One has US$ 20 million valuation and Syrah a US$ 500 million + valuation. Neither company is in production yet. Syrah is probably 2.5 years away and Graphite One, 3.5 years away. Key catalysts for Graphite One are 1) a Preliminary Economic Assessment, “PEA,” within 12 months and 2) an off-take agreement within 6-12 months after that. In addition to Syrah’s stock price spiking on its recent off-take news, several others have spiked as well. Look no further than Focus Graphite, Buxton Resources and Kibaran… Kibaran is up 500% from it’s 52-week low.

Tiny Big North Graphite [NRT.V / BNCIF] is a Canadian-listed player with a market cap of just US$6 million. Yet of all the companies mentioned in this article, Big North is the ONLY one actually in production today. Make no mistake, revenues are small, but the growth potential at the company is huge. Big North is buying and mining amorphous graphite in Sonora Mexico. It crushes the run-of-mine ore and sells locally. Again, small potatoes so far, but this simple operation could grow towards 1,000 tons per month by year-end. That’s my estimate, not guidance from management. Next year, this segment could be generating a run-rate $US 2 million of cash flow annually. The real exciting part of the story though is a flake graphite acquisition the company recently announced. This past-producing operation could be up and running next year. Since most infrastructure is already in place, cap-ex to get into production will be quite manageable. By my rough estimates, this operation could be generating US$ 4 to 6 million or more annually by mid-2015, with ample success based, self-funded upside.

Conclusion

Three important developments, all fairly recent, point to a possible strengthening in the supply/demand dynamic of graphite prices. Tesla is single-handedly revitalizing the EV market, Chinalco has effectively taken up to 100,000 tonnes of future graphite supply off the market and China is rapidly cutting exports to the world. These developments are unequivocally good for graphite juniors, especially juniors that could reach production in the next five years. Of the names mentioned, Graphite One and Big North are very interesting investments to consider. Please see click on these links for more information.