Changes in Real Estate with Brett Moody

Brett Moody, CEO of Moody National, shares his point of view on how the real estate market has been impacted by COVID-19.
Brett Moody, CEO of Moody National, shares his point of view on how the real estate market has been impacted by COVID-19. Moody believes that companies will begin moving their office spaces from central business districts due to tenants potentially invoking a MAC clause – material adverse change – on existing credit facilities. He states that people who live in densely populated cities will begin migrating to less densely populated areas while elderly people looking for ease of access will transition into more densely populated places.

While he fears the unknown surrounding these current events, he believes that there are still great investment opportunities to be exploited during this crisis. Moody explains that there are “gateway cities” that will continue to grow and thrive like Austin, Nashville, and Seattle.

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Ryan Morfin:                    Welcome to Non-Beta Alpha. I’m Ryan Morfin. On today’s episode, we have Brett Moody, the founder of Moody National. Today, he’ll talk to us a little bit about the global real estate environment, and what has changed post-COVID, after the Great Pause. This is Non-Beta Alpha.

                                           Brett Moody, thank you today for coming on the show. I appreciate your time.

Brett Moody:                   It’s good to be with you, Ryan.

Ryan Morfin:                    Well, you guys own a large portfolio of real estate, over 200 transactions you guys have completed in your career. Can you tell us a little bit about your views of commercial real estate going into 2020, and maybe a little bit about how the coronavirus shock has changed your perspective?

Brett Moody:                   How long do we have Ryan, today?

Ryan Morfin:                    As long as you want.

Brett Moody:                   And as long as I can do a recap, because I think at the end of my monologue, my perspective may have changed depending on the new information. There’s a lot of science coming at us, a lot of market information coming at us, and there’s just a ton of uncertainty. It’s hard to really get a grip on where we are. I think we have some major themes that we see in the works and [inaudible 00:01:47] in real estate, and in the market in general, and I think it’s going to be a wait and see in general, to see how it pans out. We know that the culture has been pushed forward into technology, and just forced to advance, like our call today. Instead of an in the face meeting where we would love to come out and sit with you and your guys and have a face-to-face meeting, and today we’re doing it by a webcam.

                                           So I think we’ll see a lot more of that in almost every industry. The Amazon effect has really sprung forward, and retailers that are able to take the product off the shelf and deliver that to the consumer with the methodology that is seamless, then they’re going to thrive, they’re going to survive, and we think that those that can not do that will not be in business. I think you’ll have a blockbuster, right? A Kodak, Polaroid, you’re going to see companies that were household names no longer in existence, just due to the shift that’s going to take place in the consumer demand. This economy was really humming on average, as you know, it’s 70% is consumer spending of the GDP, and we were up to almost 90 before the setback of COVID-19, coronavirus.

                                           So how that consumer comes back, I don’t think a light switch is going to flip on and then all of a sudden, we’re back at a healthy GDP of where we left off, but I do think we will get somewhat of a springboard, as people are released from their cells of shelter in place, and back into the marketplace. I think there’s a lot of catch-up activity that’s going to take place, but I think that is not the same as saying, “We’re just going to all return to some type of previous marketplace experience that we had prior to COVID”. So that’s going to be interesting.

                                           Real estate in specifically, we were humming the multi-family, we’re adding units. We had added 254,000 units nationally last year, but we absorbed 299, so 300,000 of those were absorbed. Office space was tightening in most of your major metropolitan markets. You had steady RevPAR growth in the last 12 months, we had about 1% on a national average, but your major metros, your top 25 metros, had about a 35% premium to that. So those major metropolitan markets were outperforming the nation as a whole, and we’re seeing that in multi-family, we’re seeing a flight-to-quality in office, which in our hometown in Houston, was interesting to watch, just the demand of the new millennial worker wanting to have a live-work-play environment, wanted to really be in an office environment that was lively, updated, fresh, all your latest technology from the elevators, and to food service that was easy, fresh, organic, healthy, lots of options.

                                           And so, business owners were trying to create that environment companies needed to be in a massive activity center, but I do see that there was a flight from downtown because of the congestion and how that would eat on a commute, especially for cities like Houston, that don’t have a mass transit. And so across the South, you have many major metros that have difficulty getting in and out of the CBD or your massive activities centers like the Galleria in Houston with almost 30 million square feet of office space. And so it’s going to be different.

                                           I think there’s going to continually be that press forward to bring people into a better standard of living where your commute is condensed, your choices that you have for food and activities before and after work, your gym, your place of socialization with your peer group and friends, and that’s coming a big factor. And as everyone has been home and experienced, I think not being at work for 50 hours a week, I think that when they come back, I think they’re going to increase their social lives as well. And companies are going to have to cooperate with that new lifestyle. So it’s going to be interesting.

Ryan Morfin:                    I think productivity is going to be an interesting calculation going forward. I do think a lot of folks have had time to take some inventory of how they spend their time in the Great Pause and are looking for more life work balance. And I think technology, as we found is really the great equalizer. People are able to do a lot of work that they were otherwise having to do in the office from home. And I think with the unemployment rate at where it’s at, I think you have a lot of people honestly working diligently from home. So the genie’s out of the bottle on some of this office space. How do you think office space is going to change though? Do you think it’s going to be more per square foot per employee needed for companies? Or do you think that people are going to stay with the same floor plans and try to maybe rotate workers, let more flexible work from home kind of unfold?

Brett Moody:                   That’s a great question. Days of old you know kind of a rule of thumb 250 square feet per person. I know in our office building, as of late, we’ve seen that condense and move closer to 200, a trading floor maybe is as high as just slightly below 150, but in our current office building that is a new development, we’re seeing people push their four plates to literally 150 180, for not even a trading floor, but I see that expanding that was pre COVID. And I know I was pretty when I saw the four plates of various companies moving in and so the dense, even though they had mini huddle rooms and relaxation rooms, and there were different types of private phone rooms for those that were in workstations, that they could go in and make a private call, those exist, but they were pretty tight.

                                           And I do see that relaxing a bit and having a little bit more space in between the desk going forward. And I don’t know if anybody’s going to redesign, but I think that’ll be a factor going forward. So I do think we’ll see some relaxing of that tightening.

Ryan Morfin:                    And you have a lot of relationships in the real estate market. What are you hearing about the WeWorks in the reaches of the world. How are they performing as office tenants to landlords?

Brett Moody:                   Unfortunately, that probably has to do more with credit and on the WeWork side. And then usually when you have a bellwether in the space, like WeWork, it’s experiencing difficult credit facilities like it or not, they usually works it way through the rest of the participants in that space. So they’re not the desire tenant that they would previously been. I was just looking at a large building last night and WeWork had two floors. And you could understand by the tone of the conversation that they were not full, they were not occupied. And the landlord was not that excited about … it was more of a caution light than it was a, “We’re excited to have WeWork thinking they might expand”. And I know landlords are finding a difficult time getting that through their credit committees for approval.

Ryan Morfin:                    It’s definitely going to be interesting to see how that tenant nationally plays out. We’ve heard some horror stories on the East coast they’ve been not paying rent and it’s probably going to ripple through the office market here, a little more robustly.

Brett Moody:                   But I do think the concept is going to remain. I think you’re going to have building owners and landlords continuing to allow for … Ryan, I lost you somehow. There we go. And so I think you’re going to have landlords trying to provide space for the WeWork type of situation, where you have smaller startups that maybe need 10 to 15 desks. And then they don’t know if they’re going to need 45 or pin at a reduced number in the near future. So those that are expanding and contracting that concept is a good concept. It was just the … I think the amount and the aggressive take down of space that we saw with WeWork prior to having the financing behind them was just not the most ideal situation for them to be leading that charge. But I think the concept will stay. I think you’re seeing landlords provide space in new buildings and old buildings, converting space for that concept of a shared four plate for different companies that are expanding and tracking.

Ryan Morfin:                    And to stay in office just a little bit longer, you mentioned the flight to quality and office, but with the lack of we’ll call it choice on standard of living and commute times being tested underneath the guise of productivity gains from technology. Do you think that suburban office will become a more desirable subtype of office versus the CBD downtown?

Brett Moody:                   That’s a great question. The polarization, if you will, between the two is a little bit of a misnomer because you’ll find Macs. If we mentioned earlier massive activity centers that will be at points in between the CBD, the central business district, the downtown, and the immediate suburb, where they’re just single family rooftops and their local grocery anchored retail. And so there are some Macs in between, and I think you’ll see that those Macs in between will begin to be a little bit more fruitful, a little bit higher occupancy and become more developed.

                                           So I do see a migration out of the CBD and into these Macs that are serving these bedroom communities, if you will, or the area of which much of your commuters are coming from. It’s not to say, “I do not think CBD is going away by any means”. As a matter of fact, we just see a flight to quality in downtown by larger companies. Some companies need 20 floors or five floors of a high rise and many law firms and accounting firms need to be downtown. Many of your large oil and gas for instance, want to be downtown in Houston. And they just feel that that’s where they need to be. So I don’t think CBDs go away, but I do think you’ll see expansion, medium sized companies float out and not find the need to be in the CBD.

Ryan Morfin:                    In a corollary, because it impacts the credit of tenancy. You brought up oil and gas and you’re in Houston and Houston still has a tremendous amount of it’s MSA GDP correlated to oil and gas industry. What are your thoughts about what’s going on? It seems like the oil markets are in a dangerous dynamic. What are people on the Houston real estate market thinking about some of the major tenants that they have in that industry?

Brett Moody:                   It’s a great question. In the olden days it used to be, “As all the gas goes, so goes Houston”. We’ve found some relief from that over the past decade or so healthcare, technology, financial services. So oil has been reduced to about 30%. The 30% is still a large number in any GDP. And so there’s going to be pain, the volatility and the production decline that needs to take place at this moment in time due to the lack of demand, it’s just inevitable. And as you’ve seen the tankers line up off the coast of California, and they’ve gone from charging 25,000, I think for a ship stores to 250,000. So storing that oil is just the phenomenon taking place from the oversupply. Is that going to change? Yes. How long will that take?

                                           I don’t think anybody really knows, it depends on OPAC and depends on Russia and it depends on, “Are people going to take the discipline to cut back that supply”, but we’re going to see that happen. I don’t think any of us think the oil and gas demand is not going to rebound whether that’s three months or six months, it’s a big story, but like in any industry, there’s some companies that had great balance sheets. There’s some hedge bonds. There’s one hedge bond I was talking with yesterday that they’d raised $7 billion. They’d only put out a billion. So they’re going to really enjoy this market, come back and buying assets from those companies that not have a good balance sheet. And you’re going to see a lot of companies in bankruptcy, not only in the oil and gas side, but on the retail side, as we mentioned earlier. So you’re going to see a reshuffling of the deck for those that were anticipated this and had the right balance sheet. And those that were not prepared.

Ryan Morfin:                    Yeah, no. And I do think you guys are the home of the … we’ll call it the majors, right? And I do think some of these marginal producers are going to be the ones that get really, really crushed. And it maybe short term pain may be really longterm gain for the multinationals that call Houston home. So it might be a consolidating industry move and strengthen the credit longterm. You have a very interesting portfolio. And before we go to the hotel side, I’d love to just ask you. So I looked at where your geographic distribution of properties has been over your career and it’s in great markets. And so maybe you could share a little bit about what you were looking for in a market to grow into, to buy assets and then maybe how that might have changed with the coronavirus.

Brett Moody:                   Yeah, that’s a great question, Ryan. In general, we like major metropolitan markets and then we also pursue those major metropolitan markets. We think they’re going to outperform in general, the rest of the country, and they do, rent seem to increase more in CBDs and Macs and major metros than in the Midwest, for instance. And so we concentrate on those, but we also want to be in those gateway cities that are going to even outperform the balance of the other major metros. And so we found those in Seattle. We find those in Denver, we find those in Nashville. We find those in Austin. And so we have a … we like to call them silicone juniors. Hard to have a startup in Silicon Valley, now I’m in the garage is a $200,000 outfit, right? So we see just some of the younger, talented human capital in some of those other major metropolitan markets like Austin and Nashville and Denver and Phoenix and Seattle.

                                           And so we want to focus on those types of markets. We have a hotel portfolio out there now that has about 67% in those top 10 markets like Austin, 22% in Austin, 20% in Nashville, 17% in Seattle, they’re 15 in Dallas Fort worth, which is been a tremendous job growth market for the last few years. And so we like that type of setting to deploy our capital in. We feel like the water’s going to rise. And even though real estate, still a local business and a local corner business to have the right building and the right market, we will be in those markets. We think that water’s going to rise on all asset classes.

Ryan Morfin:                    And do you think … we were just on a call last week with Douglas Elliman, talking to them about the change in the residential demand in New York city. And they’re still bullish longterm, but there’s right now a lot of headlines about major metropolitan area starting to lose people to go to the suburbs or moved to other States. Do you think that the densification of some of these gateway cities may play out to be a inhibitor and may drive populations to want to leave those cities to go to a place with a little bit more home residential square footage per higher square foot per person.

Brett Moody:                   I would have thought that for decades, but Manhattan still seems to grow and to thrive and Boston continues to grow and to thrive. And history has just proven that not to be the case, but it’ll be interesting to see if COVID has a larger impact that we’ve seen in the past on that concept. So we do see a migration into the suburbs in a sense in your major metros and it has been going on, but at the same time you have some of the elderly moving out of their home they’ve lived in for 35 and moved into a not a work-live-in-play, but a live- in-play multifamily. They’ve watch the lawn care service mow their lawn for 20 years and aren’t going out and playing in it and aren’t in it. So they want to move into a multifamily property with restaurants and more options, social options for them. So that’s been a interesting move. That’s kind of backfield at the same time as we talk about the migration out.

Ryan Morfin:                    Well, one of the interesting trends over the last call up 10 years from the financial crisis to today was the development of single family rentals as an institutional asset class. It started off as a disaster from the last crisis and they got organized with major institutional capital providers coming in and organizing, and even taking some of these companies public. Now, that that’s what we’ll call institutional grade organizations that are renting out homes. Do you think that multifamily given the condensed nature of the tight cramp spaces versus SFR, there may be some pressure on people post COVID saying, “You know what, for the same amount of money I can rent a house that doesn’t have the common areas, but I don’t want a common area, I want my privacy, or I don’t want to be next to my neighbor. So close”. Do you think there’s going to be a tension between those two asset types going forward?

Brett Moody:                   I think it’s a great, great question. I think it be interesting to watch that play out. I don’t know that you have the availability and so when you have a market that’s expanding, I don’t think there’s the SFR, the single family residential that’s just readily available to have 10,000 new units available. So I’m just think it’s a small part of any given market and especially those markets that aren’t like a Mac where your concentration in density. So you’re buying single family residential and scraping it in building up mid-rise power rise or low rise multifamily to replace that. So in some of your growing markets, I don’t see that as being an impact. So do I think it has been, like you said, institutionalized Blackstone and others have come into that space and taking those entities public, I think they’re there to stay, but no, I don’t see it being a huge impact on some of your major Metro Mac areas, no.

Ryan Morfin:                    That’s a great point. No, the availability is still nascent and I agree. So going to that property type, you mentioned a moment ago that has been really the unfortunate bear of the demand destruction in the economy, the hotel industry, what’s your view of what’s going on and what is the demand curve or the recovery curve look like for the hotel industry?

Brett Moody:                   That’s a … you want to talk about multifamily, you said?

Ryan Morfin:                    Oh, so hotels, the demand recovery curve for the hotels.

Brett Moody:                   So you want to talk about multifamily?

Ryan Morfin:                    Oh, that’s what you meant. Okay.

Brett Moody:                   Unfortunately, we’ve been here before. In 2008, the hotels took it on the chin as well, not as drastically or precipitously, as we’ve seen occupancy decline in this COVID environment. And also, unfortunately we have a downtown Seattle hotel where Seattle was your very first case. And so Seattle was aggressive and we’re across from Amazon headquarters in downtown and Amazon was aggressive, right before there were any federal restraints, they were like, okay, “Don’t come to work, work from home”. And so we saw that. So we had a little bit … again, it was by happenstance that we happened to be on the forefront of experiencing aggressive regulations towards the fight of the virus and so we were prepared. We immediately … we probably had 55 to 60 employees at that asset and really went down to eight, almost overnight occupancy drop from mid seventies.

                                           And we were all the way down to literally single digit occupancy in that asset. So our management team had some foreshadowing, if you will, of what was going to take place. And so, unfortunately that took place across the country. We do have one hotel that we actually closed Hampton in there in Austin, but we had a Homewood suites in the parking lot. So we were able to walk guests across the parking lot that would show up at the Hampton. But other than that, we did keep the hotels open, but it was on a skeleton staff. We are running literally sub 20%. Some are better than others. We did have the national guard in one hotel. We made a deal with the city in another municipality to house some of their workers and first responders. And so we’ve tried to make hay, but it has been just an unprecedented market.

                                           Hotels are in a world of pain. Fortunately, again, the management team has been here before they were. We cut landscape, we cut contracts from food service. We just eliminated just jobs immediately. And I say, “Eliminate furloughed”. And so knowing that you think it’s going to go away and then it died. So you can always bring back. We’d much rather bring back a trained employee. They know that we don’t want to have to retrain someone. And so we immediately moved to a furlough situation.

                                           So we were quick to respond. We had healthy balance sheet. It was a different story in 2008, we were in expansion mode. Our current portfolio in the hospitality was a little bit more mature. We were very low leverage. We were sub 50% leverage. We had substantial cash available to us and on our balance sheet. And so it’s a little bit different than 08, but it is much worse on the operations. And again, I don’t expect the light switch to come on and all of a sudden the hotels be full. I think it’ll be a gradual return to post COVID normalcy, whatever that looks like. But at least our portfolio at this time was a little bit better shape than it was in 2008.

Ryan Morfin:                    And do you think that’s a six, nine months curve to recovery or is it a 24 month curve? How fast is the American consumer, I guess build confidence to start traveling again?

Brett Moody:                   That’s a great question. I think the select service, for instance, I think it will recover faster than the full service. I think your business hotels and major metros are going to recover. You’re going to want to get out and see your customers, and you’re going to want to make that some of your first meetings before you and the family go off to a destination resort and hang out with thousands of other people that have large resorts. So I think that you’ll see the business Lex service come back first, and then I think you’ll see the major Metro business oriented full service back, and then your group business will follow. And then after that, I think you’ll see more leisure.

Ryan Morfin:                    Yeah. It’s funny. We have got two types of salespeople today, those who woke up during the Great Pause and always have a family, and they actually like the wife’s cooking or the other half of the coin who can’t wait to get back out on the road. And it’s going to be interesting to see if anyone wants to see those salespeople, because I think a lot of folks are cautious even … I think the sales folks that want to go on the road are willing and able, but I don’t know if there’s anyone that’s willing to go see them and so it’s going to need to be probably a bully pulpit type of a confidence building exercise for the nation to get back into the game and on the field.

Brett Moody:                   And I think the science is really going to help drive that path. And as we see that, if you … I think there’s some new science out that you do not have a pre morbidity condition, and you were between this age range between 20 and 60, your likelihood of being dramatically impacted reduced significantly. And so I think those groups will be the first to move back to a travel pattern. And then of course those that are more susceptible and vulnerable will be a little bit longer lag time.

Ryan Morfin:                    Yeah, no, I think that’s right. I think unfortunately the data hasn’t really been very well organized globally, so I’m hoping we get better at that with more tests and a better information sharing across major operation centers. Well, no, I do appreciate. I have one final question, and I only bring it up because it’s in some of your marketing materials, but in 2008, you did something that I thought was really commendable and showed a lot of leadership and I think it’s worth sharing to a lot of our viewers today. During the financial crisis, you convinced, I think a lot of your employees, that you really do believe that they are the major asset in your company and you basically asked everybody to get together and take a companywide pay cut versus letting go a lot of their peers or their colleagues.

                                           Maybe you could share a little bit about your thought about leadership on that, how that was received, how you got to that outcome. Because I think today a lot of CEOs need to be thinking about not only their responsibility to shareholders and the bottom line, but also if we don’t do more things like that in today’s economy and unemployment gets out of control to like 30%, I believe it’s just going to be a self fulfilling prophecy that we end up into a longer, more robust recession or depression. And I wonder if you don’t mind commenting a little bit about that.

Brett Moody:                   Yeah. There’s little different than this occurrence, the precipitous drop in COVID in 08, but you’re right. Unfortunately, we were in 2008 we had several large portfolios in different asset classes from multifamily to office to hospitality, hotels, and we wanted to survive, but of course you couldn’t keep the team. So we met with the key leaders of the company and decided that we would just all take pay cuts and try to keep the team together. We did that. We made it back and it was healthy. It was robust return. And when we were able to compensate everyone back for the funds that they had reduced from their compensation during the recession. And so that was a great wind. This time is a little bit different. We did have to shed some jobs where we furloughed on the hotels as I mentioned earlier, but we do want to be very quick to bring them back.

                                           Fortunately, we had the federal government stepped in and has helped. They’ve increased the … and added additional to your employee unemployment benefits, which is going to help those that are home, but you’re right. Our economy needs to get back to work. Fortunately, we were coming off the lowest unemployment rates that we’ve had in decades, if not forever in our history in 2019. So it will be great to see us return to that. So it’s not that far in the rear view mirror. And it’s something that I think nobody sees out of reach. So I do think that we will come back strong. We were able to keep our team together this time. And I don’t know that it’s a beauty contest. I just don’t think there was anybody else out in the marketplace trying to attract your capital at this given time, but we do have a culture.

                                           And I think it’s important for every company. And they’re going to have to look through that more and more in the future of creating that culture of a team and a great, just we talked about earlier, standard of living because people are reevaluating as they’re home with their families and they have more time away from work. You have time to reflect, “I really want to go back to that situation that I was in previously. And if not, what do I want to do next?” I think you’ll see a lot of that going on. And if you’re not one of those companies that have provided a healthy workplace for your associates, I think you’re going to see a deterioration of your capital, your human capital at that point. It’s a great question.

Ryan Morfin:                    I’ve interviewed a lot of entrepreneurs and one resounding trend that I found is a lot of them did a similar type of, “We’re all in this together” mentality in the last crisis. And they had tremendous outperformance in the last cycle. And so I commend you on that. I guess I’d leave it on a one final note. What keeps you up at night right now? And what are some positive silver linings you think about where we’re going as a country.

Brett Moody:                   That’s a great question. Let’s go with the positive first. The positive is there’s so many opportunities. We’re going to see opportunities that we’ve just longed for and to have the capital in place that we do. We have no one to speak about specific products, but we have the formation of a structure that’s post COVID that’ll be available. And so we’re excited to have a fresh product if you will, that will be deploying capital into the marketplace. So the value that we’ll find … I remember in 08 that we were one of those companies that we would have to sell some of our jewels and some of our gems that we had a lot of equity in because we needed to ascertain that equity so that we could keep the mothership afloat and they’re assets that I would wish that I had today, but we had to sell those.

                                           So we know there’ll be companies that will need cash and they will need to sell some of their crown jewels and some of their finer assets. And there’s not going to be just a ton of people lined up to buy new assets. So with the deteriorating purchasing market and there’ll be some real buys and some values. So our value fund is set up to really take advantage of that. Very excited about that. What keeps me up at night is just the unknown. I’m not a scientist and even if were, I think there would be a scientist, it’s almost like economist, where there’s somebody that has a different forecast and they do not see it the way scientists are not in agreement with what’s going on.

                                           There were two doctors that came out from I believe it is in Bakersfield in California. They put out a great information from their take on the front lines. And of course, unfortunately somebody sent me an email this morning that Google has taken that down. So YouTube has removed their comment to the marketplace, which I’ll take this opportunity to say, “That is a sad day for America, where two people that were obviously credible, I’m not saying they’re right, or they’re accurate. They were obviously credible they are both physicians, they’re both doctors that are emergency doctors, they’re on the front lines and they put forth their opinion and it was taken down from YouTube so that America cannot get an altered opinion in what we’re seeing promulgated or put out from the municipalities, governors and federal standpoint”.

                                           So that’s unfortunate and it’s that type of misinformation or non information that does cause me to really be caution or put in caution where to deploy capital into what asset classes, because we don’t really have a clear picture yet, and that’s a risk that I cannot measure, and I shouldn’t be deploying capital in markets or an asset classes where I can’t measure the risk. So I do need the science to play out before we make any big bets.

Ryan Morfin:                    Yeah, and that’s great advice to all. Brett Moody, founder and CEO and chairman of Mooney National, we appreciate you joining us. It was fascinating conversation. And we’d love to have you back in the weeks, months ahead to take another indicator of where we are and have the conversation continue. So we thank you so much for your time.

Brett Moody:                   As long as it can be in person next time.

Ryan Morfin:                    That sounds better.

Brett Moody:                   Thank you Ryan.

Ryan Morfin:                    Thank you [crosstalk 00:38:54] Bye, bye. Thank you for watching Non- Beta Alpha . And before we go, please remember to subscribe and leave us a review on Apple podcasts or YouTube channel. This is Non-Beta Alpha, and now, you know.

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Pini AlthausYeah, I mean, rare earths are an extremely ubiquitous part of all advanced manufacturing or technology manufacturing today's day and age. Several years ago, I had not heard too much about rare earths myself. I was not that familiar with it and being involved in this sector, in this company, for the past few years has given me an education of course. And I mean, I was sad to hear that 50% of all imports into the United States contain are earth elements and it runs the gamut from consumer electronic devices that we use every day. Our cell phones, our laptops, most communication devices, medical equipment. So there's a tie with COVID, which we can touch on at your discretion. Electric vehicles, defense equipment. So pretty much anything or everything high tech today has a rare earth element or critical minerals contained within them.

Ryan MorfinAnd what are some of the names of some of the more important rare earth? I know there's lithium for batteries, but what else is considered in this category, critical?

Pini Althaus: Yeah, so lithium is a separate category to battery material. The rare earths are 17 rare earths. The four, let's call it, key rare earths that we're focused on at our company, the four rare earths that go into the permanent magnets. And these are the magnets that are found, there are a number of them in your back of your cell phone or an iPad. But if you look at an F35 striker jet, you've got about a ton of rare earth magnets in those. And we've got two heavy rare earths and two light rare earths is part of the permanent magnets. You've got dysprosium, ytterbium are the heavies, and then you've got neodymium, praseodymium as the two light rare earths. So those would be key rare earths that are the focus.

Ryan MorfinAnd you use these in, I guess, in military applications as well, but historically, where has the United States sourced the rare earth for supply chain?

Pini AlthausYeah. And that's the shocking part. We've been securing those materials from China. So China controls the rare earth sector and has done so for the past 30 years or so. And it was a significant misstep on the part of the United States, allowing China to have this control. And actually this wasn't a question of China coming in and doing anything nefarious as far as stealing IP or anything. The US government made a conscious decision about 30 years ago to allow China to come to the United States and acquire the processing capabilities for rare earths. So just as part of some background, you've got the rare earth materials containing various mining projects, but once you extract them, you have to then process them and they go through certain phases before they get to the magnet phase. And China, the thought process was let China do the mining, let China do the processing.

Pini AlthausWe don't need to do that here. And we'll buy the materials from China cheaply and the premier of China at the time, Deng Xiaoping made the comment, he said, "The Middle East has oil. China has rare earths." And unfortunately we weren't smart enough to understand what he was saying. And the Chinese understood that the future of manufacturing is going to revolve around control of the rare earth and critical mineral supply chain. So if you think about it today, Ryan, we cannot build... Forget about consumer electronics and medical equipment. We cannot build the equipment that the US Pentagon or the US armed forces require, whether it's F35 fighter jet, Tomahawk cruise missile, communications equipment, without going to China and obtaining those materials. And it's obvious to all that this should be extremely alarming. We've seen China use this as a weapon, if you will, as far as how it interacts with other countries back in 2010, when there was a dispute between China and Japan on the East China Sea.

Pini AlthausSo China cut off rare earth exports from Japan for 40 days. Japan obviously being a significant user of rare earth elements for their high-tech manufacturing sector, that was stopped after 40 days. But in fact, it was President Obama that first made the United States aware of this, formed a division within the Department of Defense to handle this issue, but not much has happened. And we continue to be relying on China for these materials. And what has been made about trade war with China and whether the trade war is really the impetus for China withholding rare earth exports. And that is a huge misnomer. Whilst China had been talking or implying that they would cut off rare earth exports, the truth of the matter is that China, under it's made in China, 2025 mandate, its belt and road initiatives and others. And you seem to control the critical minerals and rare earth supply chain so that it can continue its dominance as a manufacturer or a global supplier of these materials and finished products.

Pini Althaus: It's the backbone of its economy. And in fact, China has become a net importer of rare earths from different countries like Miramar and others. So with that, they are decreasing the exports to countries like the United States, Japan and others.

Ryan Morfin: And was it ever a risk that the Chinese were going to turn off the exports of rare earth to the US during the trade war? How close were we to that? And was that ever some saber rattling that went down during trade negotiations?

Pini AlthausYeah, I think it was saber rattling. I think it would be paramount to an act of war. I can't say with any authority that that would not happen, but it would be probably, aside from war itself, it would be one of the most significant acts of war cutting the United States off from the ability to procure rare earths. But that being said, I mean, if you look at, as an analogy, the oil and gas sector and the reliance of the United States had for many, many years on OPEC countries to supply us with the oil. And we had embargoes and we had price manipulation by OPEC. This is far more significant given the ubiquity of where these rare earths go. And yes, we're always under the threat that China can cut off exports under the guise of a trade war or for any other nefarious reasons.

Pini AlthausBut I think even more importantly, to just as the natural run of the course of things with regards to their business and their desire to maintain themselves as the global leader in manufacturing and exporting of goods, China is in a position now where it actually requires these materials for their own domestic consumption and can legitimately cut off rare earth exports by stating that they need it for manufacturing and that would actually be somewhat correct. So we're in an extremely dangerous position here with this reliance on China. And it wouldn't just be China. If it was another country, it would be similar issues, not to the same extent, but reliance on one country for these materials is dangerous.

Ryan Morfin: And it's been mentioned in the past that in 2010, China flooded the market to really kill all the competitors in the rare earth mining industry. Where was the World Trade Organization during this period? And how did that play out and how does that set the chess board for China to run the tables?

Pini Althaus:

Yeah. So the WTO stepped in when China cut off rare earth exports from Japan, I think it lasted for about 40 days because the US and Japan protested the WTO, and they stepped in and China resumed exports. While I'm not an expert on these trade matters, one thing that I am aware of is that one of the reasons why China had to resume the export of rare earths was it did not legitimately need all the rare earths for domestic consumption. So therefore it was a nefarious act, if you will, to cut off rare earth exports. Now that has changed, which means China have to cut off rare earth exports today, they have a legitimate case to say that they require these materials. There's a shortage of these materials and they require them for their own domestic purposes. It is the backbone of their economy and there's very little we could do about this today, which is why it's becoming an even more urgent issue.

Ryan Morfin:

And the US government started stockpiling some of these after that incident. Can you talk a little bit about what DOD and DOE has done to start making sure that there's not a critical supply shortage going forward, and is it enough?

Pini Althaus:

Yeah, again, there is a national defense stock pile, and there are materials still that the United States needs to procure in order to shore up its stockpile. There are magnets, the finished magnet products as well, the United States government needs to stockpile. Again, there's a limited amount that the United States government has. It requires approval from Congress, whether it's in the NDAA or other approvals from Congress, to allocate monies for the national defense stock pile of these materials. That being said, there's no endless supply of these materials. And unfortunately, the apparatus, the way it's set up right now with the US government, it's going to continue to require having a secure supply chain of those materials for many, many years to come. So it's not a question of stockpiling for 10 or 20 years, and then this complacency and saying, we'll kick the can down the road. But keep in mind as well, Ryan, that US government accounts for low single digits of overall rare earth imports into the United States.

Pini Althaus:

We're talking about defense contractors, we're talking about the manufacturing sector. The direct impact this has on the economy, jobs, the automotive sector, and others is significant. So it's not just limited to the United States government. If you look at over the past couple of weeks, the sanctions that China have put on Raytheon, Boeing, Lockheed, et cetera. I mean, the question is where are they going to get those materials? And if we go beyond that, you need rare earths for the 5G network. Now that Huawei has been banned from installing the network, not only in the US but other countries, we have to have the ability to get a secure supply of these materials as well. Which currently, again, trying to control the hundred percent. So it runs across the board, both for government, defense and manufacturing in this country.

Ryan Morfin:

Well, and so help me paint a picture for our audience. Does China have all the mines for rare earth, or they're the only ones who started mining it? Or are their mines globally dispersed and nobody's been doing the actual infrastructure to do the mining?

Pini Althaus:

Yeah. So finding rare earth projects or rare earth elements is not the difficult part. It's finding them in significant quantities that makes a project economically viable. And part of that consideration are the environmental rigors that companies in the West have to adhere to. And China, even by their own admission, have had a complete disregard for mining these materials and even for processing these materials. And in fact, just the last week or so, the BBC did an expose on this, 60 Minutes has done an expose on this. But the Chinese have not denied this and have talked about cleaning up their act, but it has an effect on the bottom line for what the costs of mining and processing are if you have no environmental standards to adhere to. So China have exploited those rare earth projects they have, primarily in inner Mongolia, and have brought a number of projects online and quite quickly, and in a significant way, with a complete disregard for the environment.

Pini Althaus:

So it was seen as an environmental no-no in the West for many years. Now, what's happened over the past few years is you're starting to see rare earth projects in different parts of the world sprout up. You've got the Mountain World project in Australia owned by Linus, which is a producer of Nd and Pr, neodymium and praseodymium. So two of the light rare earths. They may have some heavy rare earths coming online at some point in time. And you've got Arafura, which is another company in Australia that we're working with to assist them with their processing so they don't have to send the materials to China for processing. But really these are a drop in the bucket for what the requirements are for the United States. And certainly what the requirements are for allied countries, the EU, et cetera. So there is a race, if you will, worldwide to start bringing projects online. The Chinese are very active in trying to secure assets outside of China.

Pini Althaus:

So in Africa. They have ownership of a project in Greenland. So there is somewhat of a race. The Australian government has stepped in and has started limiting the ability for China to own, or have ownership in, or off takes for the Australian rare earth projects. And that's part of the strategic Alliance between Australia and the US. Canada, similar thing as well. There are a number of projects that are looking to come alive, but these projects are, for the most part, will take many, many years to come online. We have to expedite the process. We have to assist with a [inaudible 00:14:41] supply chain and the domestic rare earth sector, because previously investors have been scared off by things like China flooding the market, which is not a possibility at this point in time, given that China can't actually afford to flood the market. They are already very heavily subsidizing their mine to magnet supply chain there.

Pini Althaus:

This is more now a case of being able to get production from non-Chinese sources so that the United States and allies have a viable, secure supply chain of these materials. And it's a concern worldwide. We speak to governments all over the world, and we're all facing the same issue. Some more than others, especially countries like Japan, that don't have their own rare earth projects there and are reliant on Australia where they've made some investments there. And in the United States, they've made an investment recently in Africa. So there is this race, if you will. And I think we've got a five-year window here to at least stand up a few projects worldwide. Otherwise we've lost this race and we will be dependent on China for many, many years to come. And Ryan, it's a bit of a hypocrisy. If you look at it where you've got materials going through clean, green energy applications, like electric vehicles, wind turbines, et cetera.

Pini Althaus:

That we're sourcing these materials from China, where they've, again by their own admission, has been complete environmental devastation to water bodies around these mines and processing facilities, to the communities. People have been getting sick around these projects yet we're putting these materials into our electric vehicles or wind turbines. It makes no sense at all. And people are starting to wake up to this. And that's why the sector is starting to see a lot of support come out of Congress and bi-partisan support. And in fact, it's one of the only bi-partisan issues right now in Washington. And it's good to see that some things decided to move in the right direction.

Ryan Morfin:

And is there a special process? You talk about the expense, is it really difficult to mine these? You have to go through a special chemical process to extract and clean and purify. Is it a lot harder than, say, gold or silver or some of the other, we'll call, more traditional elements?

Pini Althaus:

Yeah. It's all about the processing to some extent. So if you look at MP Materials in California, which used to be Molycorp before they went through their bankruptcy. They are a miner of Cerium and Lanthanum, which are two of the light rare earths, the lower valued light rare earths. Given that they do not currently have processing technology, they are sending those materials to China for processing where China is tariffing those heavily. Linus is also, they're doing their processing work in Malaysia and elsewhere. So it's really about the processing at this stage. One of the things that we've done, after we put out our PDA last year with our upgraded resource, which now includes a significant amount of lithium. We make a decision that, based on the test work that we had done around our processing methodology, that we were not going to send our materials to China. That it's paramount for us to do this work in the United States and in a collaborative effort as well.

Pini Althaus:

We've been asked by some of our investors, "Well, why would you be looking to help other projects with their processing?" And the answer is simple. There's no one project or one company that's going to put China out of business or make a dent, or somehow be able to take care of the overall demand worldwide for rare earths and critical minerals. And it's very important for us to have processing capability in the West. So that was the impetus for us opening up our own rare earth and critical minerals processing facility earlier this year, which we did in Wheatridge, Colorado. And in fact, we've made some significant progress on the method that we're using for this. And we're starting to collaborate with Australian companies, Canadian companies. We're currently talking to a group over in Europe as well, because this has to be a collaborative effort.

Ryan Morfin:

How does Europe solve for these problems? Do they have this better under control than the US?

Pini Althaus:

No, they're in a far worse position than we are. The EU commission recently put out a report, I think, a couple of months ago that the requirement for rare earths is going to increase tenfold within a short period of time. Lithium 18 times. They don't really have rare earth projects. Again, there are the Greenland projects, which people have heard in the news recently. Those need to further development work so they don't have rare earth projects ready to come online there. There are a couple of lithium projects that are spread around Europe, but for the most part, Europe is in an even more precarious position. If you look at Germany with the auto manufacturers, you look at the big companies like ThyssenKrupp and others, all these countries and companies are looking for alternatives to China, because we've already seen in the news about China withholding or reducing exports of some of these rare earths that are required for these industries.

Ryan Morfin:

And you mentioned earlier the regulatory posture of the US makes it difficult to mine. Is it becoming a more bi-partisan issue that we need to maybe relax some regulation around the mining exercise, to incentivize private sector to come in and start producing this? Or is the Republican party versus the Democratic party on two separate pages of music?

Pini Althaus:

Yeah. Good question, Ryan. I mean traditionally the Republican party is obviously being more pro-mining and in favor of less regulation when it comes to these things. With regards to our project, we're on Texas state land. So we don't trigger federal environmental permitting at this point in time. And obviously Texas being Texas, a mining state and oil and gas state, things are a lot easier in Texas than they are on projects on federal land where the Bureau of Land Management controls the environmental process around that. But the thing is here, and I don't want to step into what other companies are doing, et cetera, but we do need to be reasonable about allowing projects to come online if they're adhering to environmental standards that are acceptable worldwide. And what we do know, is that China is destroying the environment and cities and water bodies around their mines and processing facilities.

Pini Althaus:

We have standards here in the United States, and I think what we need to do is make it easier for companies to mine, while at the same time protecting the environment. And there are ways to do that. And we're definitely seeing buy-in from Congress, from both sides, with regards to looking how we can stand up a secure supply chain. And, obviously under the Obama administration, they had very strict regulations when it comes to mining. And that's changed under the Trump administration. Hopefully what we start to see is some normal middle ground that'll allow other projects to come online.

Ryan Morfin:

And typically in these rare earth mines, is it amalgamation of different minerals that are all consolidated together and you have to separate them out? Or do you ever find pure play, Europium, I can't even pronounce some of these. Gadolinium, Cerium. I mean, are they all mixed together and you've got to filter and sift them through, or are they pure play mines?

Pini Althaus:

No, they're generally they have a mix. So they're polymetallic projects. They have a number of different materials. Some projects, you more to what we call the light rare earths like MP in California or Linus in Australia. Our project is actually on the opposite end of the spectrum. We have a very high concentration of heavy rare earths. That being said, we do have to go through a process of separating these materials. But the case of our project where we've got 30 materials. We're not going to produce 30 materials. We're not going to market 30 materials. So what we're doing is we're focusing on the key materials that are marketable, that we need for permanent magnets, lithium as well, and working on the separation and the optimization of those materials in particular. But we're all faced with the same processing challenges and that is something that can't be set.

Pini Althaus:

There's no easy way to do this. There are different technologies that have been used in different parts of the world. So predominantly there's a process called solvent extraction, but it's big, it's bulky, it's not benign. It's a bespoke solution for one particular project. So it doesn't work for feedstock from other projects. What we've done is we're using a processing technology that's actually been around since the 1940s. It was part of the Manhattan Project. It's called continuous ion exchange. In fact, the Chinese use it to increase the purities from 99.99 to four nines, five nines, and even six nines. So for some applications you require higher purity levels. It's a far easier processing method to scale up and to take feedstock from other projects. In fact, we've demonstrated for the Department of Energy that we can take coal waste from Pennsylvania and do high purity separation of rare earths using our processing methods. So it's not a step that can be skipped unless one needs to send it to China for processing, which is not going to help us with our objectives here.

Ryan Morfin:

How many other, we'll call it, going concerns on any other businesses that are doing this, that are trying to, I guess, start the development of these mines. Are you guys one of a few or are you one of many? And is it an international or just a US game? Who's leading the charge at going after this?

Pini Althaus:

Yeah, well, I'd say the Australians are leading it outside of China right now. You've got some really good projects in Australia. Again, more skewed toward the light rare earths. There's one more heavy rare earth project in Australia, which is not yet producing. The United States, you've got MP Materials, you've got Ucore in Alaska, you've got the Bear Lodge project in Wyoming, which is also another light rare earth project. So as far as a heavy rare earth project that looks like it will come online in the near term, that would be our project. In Canada there are a couple of projects there as well, and again, more skewed toward the light rare earths. But we really need to get as many of these projects online as possible. Because again, I don't see it as competition. We all have a problem doing supply agreements or offtake agreements for our materials.

Pini Althaus:

In fact, one of the things that we're going to have to consider is looking at potentially scaling up our production, based on the demand that we're already starting to see. And I think other companies would find that as well. So it's all about the economics of the project. You have projects that were economically viable back in 2012 or rare earth prices with 35% or so higher than they are today, and are not necessarily viable today. So that's the challenge as well, economically viable projects. And we've got to get as many of them online as possible. It takes many, many years. I mean, our project has had over $70 million put into it to get to where we are today, and we're close to getting to the production scenario. It all revolves around processing at this point in time.

Pini Althaus:

We'd be very happy to see another couple of projects come online, because this is extremely important for national security and for the economy as well. I mean, if you think about it, Ryan, if you've got a billion dollars of rare earth materials, that translates into a trillion dollars or I should say trillions of dollars of finished product. So you've got a magnet in your phone there that's worth a couple of dollars and the cell phone's a thousand dollars. And electric vehicles and defense applications even more.

Ryan Morfin:

Yeah, everyone has one of these iPhones now, and there's tremendous amounts of rare earth on the circuit boards here. And I think people take it for granted that that supply chain is not secure right now. So one question for you, there's talk of this maybe medium term to longterm, but there's talk about mining in space. Do you think that's a feasible option in the longterm, medium term? What are your thoughts on that?

Pini Althaus:

No, that's just ridiculous. I mean, we're trying to find ways to make mining on earth economically viable. I think the cost of going up to space would be more than what our capex will be bringing our entire project into production. I mean, we've got about a 350 to $400 million capex to bring 130 year mine life into production. I'm not an aerospace expert, but I think sending a rocket, building a rocket ship and sending it up, I think maybe on the fuel alone, you could bring a couple of projects into production. So unless we have a fortunate situation or an asteroid lands on earth, and fortunate if it lands somewhere where we don't care, I don't see how that happens. And if it's big enough, it's a problem as well. It's nonsense. And even, options aside of the deep sea mining for rare earths, I mean, you've got all sorts of environmental issues around that as well. I think we need to look at projects that we can bring online, that can be done so in an economic way, that can be done so in an environmentally responsible way.

Pini Althaus:

I mean, one of the things that we've done at our project is we've got in excess of 60% of the materials that have come out around top, will have a clean green energy applicability to them. So we're using the benign processing method. We're going to be using renewable energy on site. In fact, we will likely be putting a solar farm on site as well. We've talked to a couple of companies that have approached us about that, and we'll be a net producer of power for the surrounding area. So there are ways to do it which don't affect the environment. Obviously if there's a project that's situated on a sensitive area, that's a unique situation for that specific project. We've seen it with the Pebble project, which is not a rare earth project. The Pebble project in Alaska where their environmental concerns is we've been recognized by both Republicans and Democrats, but we have to be reasonable about the projects that don't have environmental concerns.

Ryan Morfin:

So Pini, in season two, we ask all of our guests a series of six questions. They're usually, yes, no questions, but trying to take a survey of our conversations. And if you want to add a little context to the yes or no, feel free, but here goes the first question. If there was a COVID vaccine available today, would you take it?

Pini Althaus:


Ryan Morfin:

Who do you think is going to win the election?

Pini Althaus:

Which election?

Ryan Morfin:

The US election.

Pini Althaus:

Well, I think it looks like Joe Biden's going to win it, but I think what happens, if we go past January six from my understanding is that the house will vote on it and it's one vote per state. But I don't know if I see it getting there at this point in time. I really don't have a crystal ball.

Ryan Morfin:

Third question. What type of economic recovery are we in? What type of shape is it taking? A V-shape, W, U, L?

Pini Althaus:

Yeah, I think 2021 is going to be challenging. I think we've been, and rightly so. I mean, we've had no choice as of almost every other country. We've been printing money for the past year because of COVID. And I think we've got to brace ourselves that, at some point in time, the chickens come home to roost. It was a necessary step. People needed it on an individual level. Businesses needed it as well, but I think we've got to do whatever we can to stimulate the economy, give people confidence to go out and work again, employ people. So I think we've got to watch ourselves, especially in 2021. And I have some concerns, but long-term, I think the approach in the United States is a healthy one.

Ryan Morfin:

During lockdown this summer and quarantine, was there anything in particular that you accomplished that you're particularly proud of?

Pini Althaus:

Yeah. A great amount of family time, which, if you would've asked me a few years ago if I could sit at home and be at home for six months, I would have told you absolutely not. I wouldn't be able to do it for six days, but it has... I'm sure it's done this with a lot of families as well. It's brought families together. We had a baby actually last year on Thanksgiving. So I was doing a lot of travel at the time and thought I wouldn't get to see my daughter in her first year or couple of years too often. And being home with her every day is actually been just the most amazing experience. So thankful at least for some silver lining in COVID.

Ryan Morfin:

Are there any silver linings that you see in the economy going into 2021?

Pini Althaus:

Yeah, I think we've gone through an absolute beating and it looks like we've got the ability to come out of it. And I think that's a testament to how strong the economy was built up in the years preceding COVID. So overall I remain an optimist. I mean, we are a country built on opportunity and going out and making it happen. And we're not a socialist country sitting and waiting for people to send us paychecks or wealth distribution or anything like that. I think the American dream still lives on. I think if you go out and you're willing to work and put your head to it and heart in it, I think we do have the ability to climb out of it. So if we look at what the economy is doing over the past few weeks, it looks like it's starting to rebound. And to me, that's assuring because it could go completely one way as well.

Ryan Morfin:

And the last question is, is there anything that you're watching, or listening to, or reading today that has been impactful on your thinking that you'd like to share with our audience?

Pini Althaus:

Yeah, that's a good question. I think it's been more personal stories. The news, I sort of take that in context or with more than a grain of salt. In some cases stay off the news channels for a number of days at a time, it became quite repetitive. But I think on the personal side, talking to friends, my family's all back home in Australia, they've just come out of 110 day lockdown, which we can't relate to that. It's been very trying on them and seeing the fortitude that they've had to come out of that and stay intact. I think the mental health issues that will come out of COVID are going to have a far longer effect than the economic issues. I think we're going to have to focus on mental health issues in this country for a long time to come.

Pini Althaus:

The impact on kids has been significant with regards to lockdown or remote schooling, et cetera. But to see people come through it. I think it's a testament to people in general and to the country and other countries as well, to see got that fortitude and survival instinct to try to get through whatever adversity we can. So hearing the personal stories, the challenges that people have gone through, I think it's made me a lot more aware of things that I have to be thankful for and where we can help out other people as well. I think we have to be united going forward because there are things...

Pini Althaus:

I think one of the things that COVID has shown us is we can get into this complacency and life goes on and we go one day to the next. And all of a sudden we get hit by something that affects everybody equally. I mean, COVID, whilst there were groups of people, whether it was the elderly or people with underlying health conditions, that got hit the worst. I mean, we all got hit in some form or another. So really, this should be something that unites us, not divides us.

Ryan Morfin:

Well, Pini, I appreciate you coming on today to talk to us a little bit about the supply chain crimp on rare earth and we'll definitely keep an eye on it and would love to have you back in the future.

Pini Althaus:

Thank you, Ryan. Thanks for having me.

Ryan Morfin:

Absolutely. Thank you. Bye-bye. Thanks for watching Non-Beta Alpha. And before we go, please remember to like, and subscribe on Apple podcasts and our YouTube channel. This is Non-Beta Alpha, and now you know.


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