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COMMENTARY

The lithium cartel is self-destructing

WHAT ever happened to the lithium boom?

The electric-battery metal is trading at its lowest levels in two years. After doubling in 2016 and rising another third last year, lithium carbonate swap prices for Asia are down 30 per cent so far this year, according to Benchmark Mineral Intelligence.

If that wasn't bad enough, look at what just happened to Ganfeng Lithium Co, the world's second biggest producer. Its Hong Kong initial public offering has been priced at HK$16.50 a share, the company announced on Wednesday, at the bottom of a target range that went as high as HK$26.50.

Even at those prices investors weren't biting, with the slice available to Hong Kong investors about 40 per cent undersubscribed. That's arguably not surprising, given the run of IPO flops over the past year, including online car-sales platform Yixin Group and smartphone maker Xiaomi Corp.

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What's more telling is that international investors saw things the same way. Setting aside the six cornerstone investors and underwriters, they applied for just 77 million shares, about 19 million fewer than envisaged.

As a result, the managers had to fall back on their six cornerstone investors. LG Chem Ltd and Samsung SDI Co and four Chinese state-linked companies all upgraded their allotment by about 30 per cent, while an additional two million shares are being placed with a unit of state-owned Guotai Junan International Holdings Ltd, one of the joint bookrunners. Without this, buyer interest would have been about 27 million shares short, equivalent to about 14 per cent of those on offer.

Valuations of lithium companies have been sliding all year, with enterprise value-to-Ebitda multiples on Albemarle Corp, FMC Corp and Tianqi Lithium Corp at about half their levels at the start of the year. That doesn't explain all of the weakness, though: At the offer price, Ganfeng is valued at about 9.3 times 2017 Ebitda, compared with 10.3 at Albemarle and Tianqi and 17.9 at FMC.

The best explanation for this is the one we made back in May. Tianqi's aggressive deal-making, plus the connections between the Chinese government and both its chairman and Ganfeng's, make the lithium market look increasingly like a state-linked cartel.

Producers' cartels ought to be good for the prices of the raw materials they sell, but that's not really what's happening here. China isn't interested in lithium for its own sake, after all, but because it's a key ingredient for the rechargeable-battery industry that Beijing wants to develop.

As such, the government aims to ensure ample supplies, which keeps prices low and maximises the profits of the battery-makers and electric-vehicle companies it really cares about. Investors in lithium producers are typically counting on the opposite outcome: a situation where demand runs well ahead of supply and keeps prices high.

That would damage the margins of battery-makers but allows those who dig up and dry out lithium compounds to make extraordinary profits.

Ordinary offshore investors will have about 7 per cent of Ganfeng's share capital after the transaction completes, and wouldn't have had all that much more even if they'd shown a bigger interest in buying. Chairman Li Liangbin, who's on the ruling standing committee of the People's Congress in Ganfeng's hometown of Xinyu, will have 21 per cent.

The company's prospectus promises operational independence from its founder and largest shareholder, and by implication the government in which he's a junior officer. But this is China in 2018. If a business in an industry of national importance wants to convince investors that it will always be on their side, rather than that of the state, it's going to need a lot more than words on paper. BLOOMBERG