The Pilbara Minerals Ltd (ASX: PLS) share price was smashed by 11% yesterday after the company revealed the result of its latest Battery Material Exchange (BMX) auction.
The ASX lithium share sold two cargoes for a combined total of 10,000 dry metric tonnes (dmt) for an average price of US$7,552 per dmt.
Why did that matter so much?
In November, the ASX lithium share sold 5,000 dmt for US$7,805 per dmt. This represents a fall of 3.25%.
On first look, an 11% decline in the Pilbara Minerals share price due to a 3% drop in the auction price may seems a bit excessive.
What direction is the lithium price headed?
A key factor, perhaps the key factor, for any commodity business is the price of that commodity.
When the resource price rises, this largely adds to the net profit after tax (NPAT) line because costs don't move with as much volatility. That's what we've seen over the last year for operating lithium miners – strong operating leverage.
But, it's the opposite when the commodity price goes down – a fall in revenue results in a large fall in net profit.
If the lithium sector has seen the peak of the lithium price then there are concerns this could lead to further declines. The market often likes to be 'forward-looking', so the sell-off could be indicating an expectation of further falls in the lithium price.
The Pilbara Minerals share price had gone on an impressive run as the company revealed auction after auction of a higher lithium price.
Will the lithium price go all the way back down? That's the key question for 2023.
In October 2021, Pilbara announced the sale of 10,000 dmt for a price of US$2,350 per dmt. If it went back down to that level it would be a fall of around 70%. I don't think many investors were expecting the lithium price would keep going higher forever, but how likely is it that the lithium price will go through a steep and sustained fall?
My view on the Pilbara Minerals share price
Pilbara Minerals shares have benefited from the booming lithium price. But, I don't think one slightly lower auction price necessarily suggests a huge decline is about to happen – there is still a longer-term imbalance between the expected supply and demand of lithium, according to the company, with demand expected to grow strongly in the coming years.
At the current lithium price, Pilbara Minerals is still generating an enormous amount of cash flow.
While the movement of the Pilbara Minerals share price is unpredictable from here, I think the company can generate stronger profits over the long term than some of the pessimists are thinking. I believe the move to grow into the lithium value chain will enable the business to earn higher profit margins.
While the ASX lithium share could go lower in the shorter term, I think it's promising for the long term.
