MP Materials Has Collapsed 60% From Its Highs. Here's Why I'm Not Buying (Yet).

Last October, MP Materials (NYSE: MP), the rare-earth mining company, traded for about $100 a share. Today, the mining stock has lost significant value, currently trading at about $40. That's a 60% decline, and the sell-off, by the looks of it, might not be over yet.

However, analysts across the board see strong upside in MP, with the average price target at about $71. Still, there are some good reasons to remain bearish on MP, one of which is currently holding me back from buying.

MP Materials: America's rare-earth champion

First off, MP Materials, if you don't know, owns and operates the Mountain Pass mine in California. As one of the only active rare-earth mines in the U.S., Mountain Pass puts MP at the center of the U.S.'s effort to reduce dependence on China for critical minerals. It has also landed MP lucrative deals with top manufacturers in the U.S., like GM and Apple.

Of course, mining is a capital-intensive industry, but it's even tougher for rare-earth miners: China's dominance of the global supply makes it extraordinarily difficult for American companies to compete on price. As such, MP has to deal with the double whammy of competing against an established industrial juggernaut while also building its own domestic rare-earth industry. Not easy -- at all.

That's where the U.S. government comes in.

Last July, the Department of Defense entered into a landmark agreement with MP. Under the agreement, the Pentagon established a 10-year price floor of $110 per kilogram for neodymium-praseodymium (NdPr), one of MP's key products. If prices fall below that threshold -- whether because of market fluctuations or a flood of cheaper supply by foreign companies -- the government has promised MP it will make up the difference.

Obviously, a 10-year price floor makes MP much less vulnerable than other mining companies. So why am I hesitant to buy right now?

One reason to wait before buying MP Materials

Strangely enough, the deal supporting MP's growth -- the price floor on NdPr -- is also a reason to closely consider MP's future before buying.

If we stripped away the U.S. government's price-protection income -- $17.6 million last quarter -- we'd also remove more than 60% of MP's adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA). Yes, that means the government's price floor commitment is working. But it also raises a very important question: Should we value MP stock based on its own earnings without Washington's support, or are we OK paying a premium for earnings that depend so heavily on the government?

And remember: The NdPr price floor expires at the end of 2035.

The counterargument to this, of course, is -- why wouldn't we count in MP's valuation? The Pentagon's payments are real income. It's still profits, right? To this I mostly agree.

What I would like to see, however, before I feel more confident in MP is evidence that its underlying business can generate substantial profits on its own. I would like to see reliance on the Pentagon's price-protection income dwindle.

MP has time to do this, nine years to be precise. I, too, have time and can be patient.

Steven Porrello has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Apple and MP Materials. The Motley Fool recommends General Motors. The Motley Fool has a disclosure policy.