Uranium Market Update
The uranium sector has rung in the New Year quietly with spot prices pulling back to $42.25 per pound (from $45 in the second half of December), but the stage is set for interest to pick up throughout 2013. News of Japanese reactor restarts is perhaps the single biggest catalyst to watch for this year in the sector. A recent poll suggests that mayors in 54% of Japanese towns with nuclear reactors are in favor of restarting them, provided that safety and monitoring standards are increased. The second key event to watch for in 2013 is the expiry of the Russian Megatons to Megawatts (HEU) Agreement. A transitional agreement is in place whereby USEC Inc. (USU) will continue to source part of its (LEU) uranium supply from Russia's TENEX, but that material will be sourced from Russian commercial enrichment activities, as opposed to the downblending of Russian HEU material. This transfer of dependence from a secondary supply (downblending of Russian warheads) to a primary supply (commercial enrichment from material sourced from non-HEU sources) is perhaps the single biggest (albeit not unexpected) structural shift that the uranium market has seen within the last 20 years.
Taking the time now to get up to speed on names in the uranium sector should yield dividends down the road if and when the uranium price starts to move higher. Interest and activity continues to show itself in the market through larger vehicles like Cameco (NYSE:CCJ), Uranium One (OTC:SXRZF), and Denison Mines (NYSEMKT:DNN). We have seen two corporate take-over offers in the uranium sector in the last week alone. Activity is certainly heating up and most investors have very little, if any, exposure to the sector.
First, Uranium One received a go-private takeover offer on January 14, for CDN$2.86/sh, which should get the attention of anyone interested in this sector as the already small pool of uranium investment targets appears to have just gotten smaller. If successful, this deal should create a "halo" effect on the whole sector for two reasons: 1) fundamental money that was holding UUU for uranium exposure will have to redeploy those investment dollars into other uranium names, and 2) seeing Russian-backed ARMZ capture this large of a portion of the uranium market (Uranium One was on track to produce over 12 million pounds of uranium in 2013) should highlight ARMZ's confidence in the physical market as well as scarcity of pure-play exposure in the public markets.
Second, on January 16, Denison Mines announced an all share offer for Fission Energy's (FSSIF.PK or FIS on the TSX Venture) eastern Athabasca Basin uranium properties, valuing them at $70 million. As part of the deal, Fission's key exploration asset, Patterson Lake, is slated to be spun into a new vehicle along with $18 million in cash upon closing of the transaction.
The uranium investment universe is getting smaller at a time when fundamentals are very supportive. This bodes well for companies with good uranium deposits, as the scarcity factor continues to increase with every corporate deal. In order to meet supply, new deposits will be critical in the years ahead and I prefer to focus on deposits that have the potential to be on the low-end of the cost curve. This leads me to a quick update on the (previously discussed) Alpha Minerals (ESOFD.PK or AMW on the TSX) Venture Patterson Lake joint venture with Fission Energy where delineation and step out drilling of a uranium discovery made late in 2012 is about to start.
Patterson Lake Update
On Wednesday, Alpha and Fission announced that the Patterson lake JV (50/50 AMW/FIS) has committed to an 8,000 meter drill program, which is to begin imminently. It is worth pointing out that this is more drilling than this lightly-explored property has seen in its entire history. Preparatory work on land and on ice is largely complete and two diamond core drill rigs will be on site shortly. One rig will focus on step-out drilling on the discovery zone announced late last year, where 2.49% U308 (triuranium octoxide) was intersected over a 12.5 meter interval in basement rocks, within a broader interval of 18m of 1.78% U308 starting at a depth of just 65 meters. The other rig will drill high-priority targets farther to the east, where geophysics suggests the presence of geophysical conductors and faults, both of which are typically associated with uranium deposits.
Also, in the first week of January, Alpha and Fission announced assays from 37 more boulders recovered from the Patterson Lake Property. Over half of those boulders had grades that were greater than 10% U308, with the highest grade sample being 40% U308. Those are exceptional grades, no matter where you come from. Only eight boulders returned grades less than 1%. One has to ask the question: Where are these boulders coming from? Even a grade of 1% U308 at those depths could be highly economic if the deposit has reasonable size to it, and 10% U308 at that depth would be nothing short of amazing. Without getting into the nitty-gritty details, regional drilling and geological data shows that the Patterson Lake property is ideally situated as the boulder source area. Combine that data with the fact that the JV partners are already into basement mineralization with the last four holes of the 2012 fall drilling program and it's clear that the pending winter drill program will be pivotal for the project. Keeping in mind that Hathor Exploration (which had 100% of the ~60 million pound Roughrider deposit) was bought by Rio Tinto for approximately $650 million in late 2011, the potential rewards are significant should Alpha and Fission prove up a sizable uranium deposit at Patterson Lake.
Holes at Patterson Lake are quick and cheap. A typical hole will take only two days to drill and the nice thing about uranium exploration is that it's fairly easy to know if you've hit, because uranium is ore is a) black and b) radioactive (both of which are readily interpreted at the drill site). I expect Alpha/Fission to release batches of holes during the program (perhaps with the occasional "one-off") with visual descriptions and scintillometer (think Geiger counter) readings. After that, assays (to tell you the actual grade) typically take four-six weeks, but any time core is described as having visual pitchblende (the primary uranium mineral) and "off-scale" readings from the scintillometer, it's time to sit up and take notice.
Recent Corporate Developments
On January 9, Alpha Minerals appointed Dr. Michael Gunning as chairman of the board of directors. This comes after his initial appointment to the board in late 2012, when he joined as a director and lead technical advisor. Given that Dr. Gunning took the reigns at Hathor Exploration (another Athabasca Basin project) and stewarded that company to its ultimate sale to Rio Tinto for approximately $650 million in 2011, his deeper involvement in Alpha and the Patterson Lake project should be comforting to Alpha and Fission shareholders. Dr. Gunning's experience will no doubt continue to be a valuable asset going forward in areas ranging from corporate strategy to the technical advancement of the Patterson Lake project.
Lastly, on January 14, Alpha announced a $3.15 million in a bought-deal flow-through financing at $2.10 per share, which would put its cash balance close to $7 million. An impressive feat for a junior miner in this market. This winter's program will likely cost on the order of $2.0 million net to each of the JV partners, so Alpha and Fission are well financed.
The Quick Math on the Fission Energy / Denison Arbitrage
Dension Mines is offering Fission shareholders 0.355 Denison shares for every share of Fission held. As part of the transaction, Fission's 50% interest in Patterson Lake is being spun into a new vehicle along with $18 million in cash. FIS has approximately 140 million shares out (basic).
Arbitrage investors will undoubtedly use Alpha Minerals as the proxy for valuing the Fission spinco. While both companies have other properties outside of Patterson Lake, there can be no doubt that Patterson Lake is the vast majority of the value in the property portfolio. Alpha Minerals has approximately 18.5 million shares outstanding (basic) and approximately $7 million in cash, leaving it with an enterprise value of approximately $30 million. The Fission spinco is expected to have $18 million of cash on closing, so theoretically it should have a valuation $11 million greater than the Alpha Minerals EV, which would make it worth $41 million.
Based on a Denison share price of $1.50, Fission should see parity at approximately $0.82 ($0.53/sh for the Denison shares and $0.29/sh for the Patterson Lake spinco). Obviously parity will move around based on the trading of Alpha and Denison going forward.
A Quick Reminder of the Risks
As noted in the first article in this series, investing in junior mining exploration companies is inherently risky, no matter how good or supportive the data looks. Being informed ahead of time can make for better trading decisions on "news days" where hours and minutes count, but the best way to limit risk is to scale and limit exposure according to your own circumstances. If there's one thing that every investor should know, it's that junior mining stocks (I liken them to horses at a racetrack) are highly volatile and typically not for the inexperienced, capital constrained, or jittery investor. You always know when they cross the finish line, but it's that part between there and the starting gate where anything can happen.
Also, for those playing Fission from an arbitrage angle, the standard risks apply common to all arbitrage deals. While the deal is friendly, there are always circumstances when these deals can fall apart. Arbitrage investors should complete sufficient due diligence on the deal on both Denison and Fission.
Additional disclosure: I am also long Alpha Minerals (ESODF.PK or AMW on the TSX-Venture)