Lithium demand is projected to spike in the years ahead, driven higher by the increasing number of electric vehicles (EVs) on the road that use lithium in their batteries. Wall Street drove lithium prices sharply higher a few years ago, and now the commodity is falling back down. But that could be an opportunity for you to invest in key suppliers to the EV market, an emerging niche that every major auto manufacturer is jumping into. Sociedad Quimica y Minera (SQM -2.22%) and Albemarle (ALB 0.12%) are two of the big names in the lithium space you should be looking at to take advantage of this huge auto trend. But which is the better option? Here are some things you should consider.
1. Lithium is big, but not everything
The first thing to understand about both Sociedad Quimica y Minera and Albemarle is that lithium is just one part of their businesses. That's actually pretty important, since lithium is a commodity driven by investor sentiment. A few years ago, Wall Street was hot on the industrial metal and pushed prices higher. That excitement has since faded, with the price now materially lower. That's a typical pattern in the market, with investors getting a little too excited about a story and then moving on to the next idea when the old story takes too long to unfold.
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About 50% of Sociedad Quimica y Minera's gross profits come from lithium. The rest is tied to plant nutrition (22% of gross profit), iodine (16%), potassium (6%), and industrial chemicals (5%). This diversification helped the company offset the declines in its lithium operation, which saw income drop 6% year over year in the first quarter, largely because of lower lithium prices. Overall, however, the company's revenue only fell about 3%. That doesn't mean that every other business was doing well, but diversification was clearly a benefit.
Lithium makes up roughly 42% of Albemarle's adjusted EBITDA. The rest is attributable to bromine (32%) and catalysts (25%). In the first quarter, the company's lithium business witnessed a 2% top-line decline, but sales in its bromine and catalyst operations advanced 10% and 8%, respectively. Overall sales were up 5%. Once again, diversification proved beneficial.
That said, there's another takeaway for investors looking at these two stocks today. Albemarle's collection of businesses is doing generally better than those that underpin Sociedad Quimica y Minera's top line. That will likely wax and wane over time. All in, both of these lithium miners are far more diversified than just lithium -- and that's a net positive. Investors get a big benefit here even though neither company "wins" this point.
2. Where they call home
Albemarle is based in the United States, with its headquarters in Charlotte, N.C. A quick look at Sociedad Quimica y Minera's name should give you an idea that it resides somewhere else -- in this case Santiago, Chile. Both companies have listings on the New York Stock Exchange, so buying and selling shares is relatively easy.
But there are different rules and regulations to consider when you own a foreign company. As Sociedad Quimica y Minera specifically states in its annual 20-F filing "Chile has different corporate disclosure and accounting standards than those you may be familiar with in the United States." Also, "As we are a company based in Chile, we are exposed to Chilean political risks."
You may not know all the rules and regs that U.S.-based Albemarle has to live by, but it would be easier to find out. And, if you have been investing for a little bit, you have a pretty good idea of the financial guidelines that U.S. companies follow. To get a similar level of confidence regarding a Chilean company will require extra work, and perhaps a lot of extra work. That's not to suggest you should avoid Chilean companies altohether. Just that, for investors who want to keep things simple, Albemarle is the easy call on this point.
3. Dividends
Sociedad Quimica y Minera offers investors a hefty yield of 6.8%. Albemarle's yield is a relatively paltry 2%. There's a little more to this story than meets the eye, though. First off, Sociedad Quimica y Minera pays dividends based on its financial results. So the payment will fluctuate over time -- in good years you'll get more; in bad years, less. Income investors looking for dividend consistency would not be happy with this arrangement.
Albemarle, meanwhile, has a long history of regularly increasing its dividend each year. At 25 years and counting, this streak is actually pretty impressive. The payout ratio, meanwhile, is a fairly modest 20% or so of earnings over the past 12 months. There's not much risk of a dividend cut.
SQM payout ratio (TTM) data by YCharts
For reference, Sociedad Quimica y Minera's payout ratio was over 100%, a level that should be a warning sign for conservative investors. It's complicated, but dividends are paid out of cash flow, not earnings. So dividends can be greater than earnings because noncash charges that lower earnings, like depreciation, don't actually impact cash flow. Still, paying out less in dividends than a company earns generally leads to a much more secure dividend. For most investors, Albemarle wins this point as well.
4. Leverage
A couple of years ago, Albemarle's debt-to-equity ratio and debt-to-EBITDA ratios spiked, both shooting up materially as it invested in its lithium business. Asset sales and solid financial results have allowed both leverage metrics to come back down again. They are, at this point, below the figures Sociedad Quimica y Minera sports today. That said, Albemarle recently agreed to buy a 50% stake in an Australian lithium business. The deal is expected to close in the second half of 2019 and will likely lead to higher leverage. So leverage is probably a wash.
SQM financial debt to EBITDA (TTM) data by YCharts
Neither company, however, appears to be financially weak. The debt-to-equity ratios are probably a little higher than what conservative investors might like to see for commodity-based businesses. But debt-to-EBITDA isn't outlandish, and both companies currently cover interest expenses by an impressive 15 times or more. In other words, keep an eye on leverage if you buy either of these lithium stocks, but don't lose too much sleep over the issue unless something changes materially.
5. Valuation
Albemarle's stock is down around 30% over the past year. Sociedad Quimica y Minera's shares have fallen even more, and are now off by roughly 40%. However, there's an interesting difference when you look at each company's price-to-earnings ratio. Albemarle's P/E is around 10 times, while Sociedad Quimica y Minera's is around 19 times, despite the deeper price decline. Albemarle's price-to-book value at 1.9 times is also lower than Sociedad Quimica y Minera's 3.8 times. The same trend holds true for price to sales, as well, with Albemarle's 2.1 times notably below Sociedad Quimica y Minera's 3.5 times. Although there's more to dig into on valuation, there's a clear trend emerging here. Of the two, Albemarle looks like it has a more compelling valuation.
SQM PE ratio (TTM) data by YCharts
Which is better?
There are areas where Albemarle and Sociedad Quimica y Minera are roughly similar and areas where Albemarle looks more compelling. Unless you are swayed by Sociedad Quimica y Minera's generous yield (noting that the dividend is variable), Albemarle appears to be a better option for investors interested in the lithium space today. That said, if you buy either of these stocks you have to be sure to play the long game -- the shift toward electric vehicles will likely be a multi-decade transition, not an overnight sensation.
