State-owned China Rare Earth Group is reportedly in talks to acquire Shenghe Resources (SHA: 600392), a deal that could give Beijing indirect ownership of a stake in US rare earths producer MP Materials (NYSE: MP) alongside the US Department of Defense.

Talks have been underway since earlier this year, Reuters reported Friday, citing people familiar with the matter who requested anonymity because of the sensitivity of the discussions. 

Shenghe owns about 3% of MP Materials, operator of the Mountain Pass rare earths mine in California. The Pentagon became MP’s largest shareholder last year after agreeing to buy $400 million of preferred stock and warrants.

MP Materials shares fell on the news and were last down 2.35% at $48.22 apiece, giving the company a market value of $8.6 billion.

It is unclear how having a major Chinese state-owned rare earths company and the Pentagon on the same shareholder register could affect a transaction. Reuters’ sources also did not know what would happen to Shenghe’s overseas holdings under a deal.

MP Materials, the only US producer of rare earth elements — vital for smartphones, jet engines, electric vehicles and defense systems —  has repeatedly said neither Shenghe nor the Chinese government controls its operations.

Strategic control

An acquisition would bring one of China’s remaining major rare earths mining and refining companies with private ownership under state control, extending Beijing’s decades-long consolidation of the industry.

China Rare Earth Group was formed in 2021 through the reorganization of five state-owned rare earths businesses and is the country’s largest supplier of heavy rare earth elements.

The combination could also give Shenghe greater access to government quotas governing rare earths mining, smelting and separation, one of Reuters’ sources said. Beijing typically grants those quotas to state-owned companies, which allocate them among subsidiaries.

Those quotas are closely watched as an indicator of global rare earths supply, although China has stopped publicly disclosing them.

Greater consolidation would strengthen Beijing’s influence over materials essential to electric vehicles, wind turbines, electronics and defence equipment. China has already used its dominance of rare earths as leverage in its trade dispute with the US.

Australian reach

Shenghe also expanded abroad last year by acquiring Australia’s Peak Rare Earths, adding to questions about how its international assets and investments could be treated if China Rare Earth Group takes control.

The potential transaction puts an unusual geopolitical dimension around MP Materials as Washington seeks to establish a domestic rare earths supply chain while reducing reliance on China. 

Any change in Shenghe’s ownership would leave a Chinese state-controlled company with an indirect interest in the same US producer backed by the Pentagon.