Why I think the Allkem share price is in the buy zone

Here’s why I think Allkem is a lithium share to buy right now…

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Key points

  • Allkem's shares have fallen heavily since hitting a record high last month
  • The company appears well-placed to benefit from sky-high lithium prices in the near term
  • Thanks to its low costs, it should remain highly profitable even when prices normalise

It was another red day for the Allkem Ltd (ASX: AKE) share price on Thursday.

The lithium miner’s shares dropped almost 5% to $10.70.

This means the Allkem share price is now down 25% from the record high of $14.27 it reached in April.

Is the weakness in the Allkem share price a buying opportunity?

Firstly, while the Allkem share price has fallen heavily in recent weeks, it is impossible to know if it has found a bottom yet. And given how high up the risk scale lithium miners are, their shares are likely to remain under pressure for as long as the market volatility continues.

But that aside, I think the Allkem share price is attractively priced for long-term focused investors.

This is due to the significant free cash flow its diverse operations are already generating and its plans to increase production materially in the coming years.

Growth plans

In respect to the latter, Allkem recently revealed plans to increase lithium production three-fold by 2026 in order to maintain a 10% share of the global lithium market over the next decade.

This means that Allkem remains well-placed to benefit greatly from the sky-high prices that lithium is commanding due to the seemingly insatiable demand from the electric vehicle and renewable energy markets.

Though, it is worth remembering that as supply increases and catches up with demand, those high prices are likely to fade.

Low costs

Fortunately for Allkem, it has some of the lowest costs in the industry. This should ensure that it remains highly profitable even when prices eventually pull back to more normal levels.

During the most recent quarter, Allkem reported a cash cost per tonne of US$349 for its Mt Cattlin spodumene concentrate and US$3,811 per tonne for its Olaroz lithium carbonate. This is meaningfully lower than the mid-to-long term prices being forecast by a leading broker.

A recent note out of Goldman Sachs reveals that its commodities team is forecasting the following for lithium prices.

Lithium spodumene concentrate:

  • US$1,750 per tonne in 2023
  • US$950 per tonne in 2024
  • US$900 per tonne in 2025
  • Long-run average of US$800 per tonne

Lithium carbonate:

  • US$20,500 per tonne in 2023
  • US$17,180 per tonne in 2024
  • US$14,468 per tonne in 2025
  • Long-run average of US$11,500 per tonne

Even using the long-run average prices, which are down materially from current levels, Allkem will be operating with very attractive margins.

This bodes well for its earnings in the coming years and ultimately dividends when the company stops investing in growth opportunities.

Foolish takeaway

All in all, with the Allkem share price trading at 9x FY 2023 earnings (based on Citi’s forecast of earnings per share of $1.18), I think it could be a top option for investors looking for opportunities in the resources sector.

Motley Fool contributor James Mickleboro has positions in Orocobre Limited. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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