Long North American Uranium, Steer Clear of Kazatomprom
Updated: Jun 12, 2022
As we enter the first week of April 2022, we note that uranium spot price recently closed at $58.50/lb (UxC quote), representing a YTD increase of 39%. Even more telling is that following over a decade stagnant/weak pricing, the latest spot price represents the highest post-Fukushima level. The same can be said for the uranium term price (where the vast majority of utilities transact), which also hit a decade+ high, reaching $49.00/lb. Looking at 1-year performance since April 2, 2021, the spot has gained +89% while the term price has advanced by +45%. Though the shift to carbon free power generation and principles of ESG have been gaining strength over the past few years, the unprovoked Russian invasion into Ukraine has placed even more emphasis on energy independence and homegrown supply chains, while also severing commercial ties to all commerce emanating or transiting through Russia. Though all of these drivers alone can (and were) instrumental in the renewed strength of uranium prices, the recent entry of a new class of buyer active in the uranium space also played a large part in pushing up the price. Since the start of 2021, new, non-traditional buyers such as uranium developers (Denison Mines, Uranium Energy Corp.) have raised funds in order to acquire and secure physical inventory. Since last spring, Denison Mines acquired 2.5M lbs U3O8 (at $29.61/lb) while Uranium Energy Corp. purchased 2.1M lbs U3O8 (at approximately $30/lb). Additionally, the holding companies such as Yellow Cake PLC have been particularly active last year, taking delivery of an additional 3.4M lbs U3O8 and thus bringing its current total inventory amount to 18.8M lbs U3O8 (representing an increase from the 8.1M lbs at time of IPO in July 2018). Most importantly, the largest entrant to the inventory scene has been the Sprott Physical Uranium Trust which began trading on the TSX last July following its acquisition of Uranium Participation Corp, and its re-organization as a Trust. As a testament to strong investor demand, the Trust raised a total over $2.0B since the July 2021 IPO, and has accordingly increased its physical uranium inventory from 18.1M lbs to the current 53.6M lbs. The Trust currently has arrangements for a $1.0B ATM it can call upon at anytime to make additional purchases. Note that along with the strong demand side fundamentals (the global nuclear power plant buildout), the current uranium story has a compelling supply side dynamic as well which further adds support for higher prices. The market continues to be in deficit (by 25M in FY/2020) while the closures last year of the Ranger and Cominak mines have removed an estimated 7.0M lbs U3O8 going forward. This will be partially offset by increased production from Cameco. Increased production from Cameco’s McArthur River/Key Lake is expected as FY/2022 production is seen at up to 11.0M lbs, representing a notable increase from the 6.1M lbs produced in FY/2021 (24.3M lbs delivered however). From the world’s largest uranium producer, Kazatomprom, FY/2022 production is expected between 46M-49M lbs U3O8, a number which has been relatively flat since 2019.
Given the strong macro fundamentals, strong fund flows have pushed stock prices of the above mentioned uranium companies to gains of between 20-30% YTD. There has been one large outlier however – Kazatomprom (KAP.IL), the world’s largest uranium producer which is down -21% YTD. More specifically, since the Russian invasion on February 24th, Cameco (CCJ) advanced by +28% while Kazatomprom was flat at +1%.
Despite the strong market fundamentals, we believe this disconnect will continue, entirely due to factors related to de-globalization, security of supply and a general rejection of any company overly tied to Russia or in its sphere of influence. Recall that on January 2nd there were political protests and numerous days of social unrest in Kazakhstan. The Kazakh government declared a state of emergency and only got a handle on things after they requested military aid from ...Russia (you guessed it). One month later in February, following the unprovoked Russian invasion into Ukraine on February 24, coordinated sanctions were imposed by the West, affecting Russian financial institutions (including some of the largest Russian banks such as VTB Bank and Sberbank). The coordinated sanctions have far reaching affects on all commerce emanating from Russia. Though all of Kazatomprom’s mining operations take place in Kazakhstan, the Q1/2022 financial results specified that “there are risks associated with both transit through the territory of Russia and the delivery of cargo by sea vessels“. Moreover, the company has a Uranium Processing Agreement with the Uranium Enrichment Center (UEC) which happens to reside inside Russia. “There may be a risk of difficulty in making mutual settlements in US dollars with UEC in the event of restrictions and blocking of the UEC's foreign currency accounts or in the event of the withdrawal of Russian banks from the SWIFT system”. In light of Kazatomprom’s new reality and in line with rapidly shifting investor appetites, investment outflows from Kazatomprom have found new homes in the North American miners/developers such as Cameco (CCJ), Energy Fuels (UUUU), Ur-Energy (URG), Uranium Energy Corp. (UEC) and Denison Mines (DNN), among others. With additional hard hitting Russian sanctions still in the pipeline, any company with exposure to Russia or dependent on Russian infrastructure (be it financial or logistical) will increasingly be viewed as toxic. Not only is it best to keep away, more importantly, it is the right thing to do.
For exposure to the uranium sector, we prefer a basket approach involving current producers (Cameco), near-term producers (Ur-Energy) and exploration/development exposure (Denison Mines).
Ur-Energy: In our view, the pre-eminent US focused ISR producer. Production began at Lost Creek (Wyoming) in 2013 and the company has consistently held sub $20/lb production costs. Though production has been curtailed due to depressed prices, the company continued to benefit over the last few years by buying at the spot and delivering into attractively priced term contracts. Once a production re-start should be warranted, a very manageable $15.0M re-start capex would be very manageable along with an expected 6-12 month ramp to approximately 1.0M U3O8 lbs/year. Note that Lost Creek is permitted for 2.0M lbs/year. With final permits also in hand for the Shirley Basin, the company has visibility to production of approximately 2.0M+ low-cost U3O8 lbs/year. Add to that a conservative management team which has delivered the least amount of share dilution compared to peers dating back to 2011.
Denison Mines: We view Denison Mines as one the premiere development stories in the eastern portion of the Athabasca Basin. Over the past year the company has consolidated its ownership (now 95%) in the flagship Wheeler River project – the largest and highest grade undeveloped uranium project (132M lbs U3O8 in the Indicated category) in the infrastructure rich eastern portion of the Basin. A 2018 PFS envisioned a freeze wall + ISR recovery method at an all-in cost of below $10/lb at Phoenix, producing approximately 6.0M lbs/year over a 10 year LOM. Including the Gryphon deposit, the base case Wheeler River pre-tax IRR was seen at 38.7%. A Feasibility Study and Draft EIS is expected in 1H/2022. Having raised over C$70M in 2021 (some of which was used to purchase physical U3O8 inventory), the company is currently fully financed through to a construction decision. We additionally see Denison Mines as the most compelling name from a developer/asset quality valuation standpoint as well.
Cameco: The pre-eminent uranium producer with a quality portfolio encompassing both conventional mining and ISR. The company has re-focused its operations over the last few years to prioritize tier-1 assets highlighted in North America and Kazakhstan. Though producing well below its current capabilities, tier-1 assets are licensed to produce over 53.0M lbs U3O8 annually (100% basis), backed by 455M lbs U3O8 in the Proven & Probable category. The company also offers exposure to uranium refining, conversion and fuel services. Now that the overhang of the CRA tax dispute has been resolved (in Cameco’s favor), the company can concentrate on ramping up the flagship Cigar Lake and McArthur River/Key Lake mines as guidance for FY/2022 is expected to be as much as 11.0M lbs U3O8.
Select uranium correlations have been calculated in the matrix above, along with the Materials Sector SPDR (XLB) and select base metal producers: Rio Tinto (RIO), Freeport McMoRan (FCX), Teck Resources (TECK) and HudBay Minerals (HBM).