Uranerz Energy Corporation (NYSEMKT:URZ) makes for an interesting play with uranium prices trading at near decade lows and the company recently starting up initial production. The combination doesn't appear ideal, but some under the surface catalysts suggest a company hitting full stride by 2016 an optimal scenario. The re-start of nuclear operations in Japan provides one of those catalysts for the industry, but many headwinds exist in the short-term that the industry must overcome.
The company is a junior uranium miner that operates an ISR, or in-situ recovery, mine at Nichols Ranch in the Power River Basin of Wyoming. The miner owns over 79,000 acres with six primary uranium projects and up to 30 potential prospects under exploration and research.
The recent stock collapse, along with starting up production on apparently attractive contracts, provides a huge catalyst for the stock along with improving market dynamics going forward for various reasons. The company competes for investments with other junior uranium minors, including Ur-Energy (NYSEMKT:URG) and Uranium Energy Corp. (NYSEMKT:UEC), but in general the limited production from these miners and expected supply/demand imbalance makes them less competitors than industry foes promoting nuclear as a viable energy source.
A primary determination of the value of Uranerz Energy and the other junior miners depends heavily on the price of uranium in the market. As anybody should've noticed with domestic natural gas or even coal in the last couple of years, great operators can't overcome sharp price declines for the commodity mined.
Due to many factors discussed later, including increasing demand and lower supply on the markets, analysts forecast a sharp increase in uranium prices. Uranerz provided the following chart of uranium price forecasts in the recent investor presentation.
Uranerz claims three long-term contracts, including one with Exelon (NYSE:EXC); two of the contracts start immediately and one starts in 2016. According to the Executive Chairman in this corporate video, the company signed the deals when uranium pricing was around $65/lb.
The investor presentation is a little less specific, claiming the agreements are for a portion of planned production. Either way, it appears the company has a decent portion of pricing locked-in along with the ability to sell future production at what will potentially be higher spot prices.
Supply and Demand
A key understanding of the uranium market is that a supply deficit exists to the point where existing production can't meet current demand, much less future requirements. A large portion of current demand is met by the use of existing inventory stockpiles from Russia and the U.S.
To best understand the industry, despite the post-Fukushima concerns, up to 70 reactors are under construction with a base of over 430 in operation now. Numerous other reactors are in the planning process or proposed. The future of nuclear is not nearly as dead as probably envisioned by the market.
If anything, the biggest impact is the supply of uranium, with numerous large-scale projects around the world cutting back due to low prices. More importantly, according to J.P. Morgan's research reported by Uranium Energy Corp., conventional uranium mining isn't economical under $80/lb. The ISR method is marginally economical at prices around $40/lb, but those projects are only attractive to these junior miners due to limited supplies produced from the process.
So, while a lot of issues exist with developing new supplies, the existing supplies hitting the markets are disappearing. The U.S.-Russian Highly Enriched Agreement expired in November removing 24 million lbs from the markets. In addition, several government stockpiles are no longer hitting the markets, effectively pushing supplies to the current production.
The combination leads to the scenario below where supply doesn't meet demand without a significant increase in new mines:
Uranerz has several projects in the works led by the aforementioned Nichols Ranch that began production back in April. The company recently submitted a third license for a Powder River Basin mining unit. The Jane Dough permit area is located directly south of the Nichols Ranch area. The junior miner hopes to add the area as an amendment to the existing license, which includes the Nichols Ranch and Hank units.
In total, the company has five mining properties with measured and indicated U3O8 resources in excess of two million pounds. The three mining projects in the works of Nichols Ranch, Hank, and Jane Dough have roughly 8 million pounds of resources with Reno Creek and West North-Butte adding another 7 million pounds to the measured and indicated totals.
With all of those properties in the Powder River Basin around existing projects of Cameco Resources (NYSE:CCJ), Uranerz has the expectation of expanding the reserve base further than the current resource totals. In addition, the proximity to the 2 million pound processing facility at the Nichols Ranch provides the ability for these adjacent projects to reduce costs going forward. As an example, the Jane Dough project is close enough to build a pipeline to deliver product for quicker and cheaper processing.
As mentioned above, the Nichols Ranch project started production back in April. The company spent roughly $50 million on the project that includes a processing facility licensed for maximum annual production of 2 million pounds of U3O8. The company plans to begin production at an annual rate of 600,000 to 800,000 pounds.
As with all of these junior miners, a key element will be the costs. In the case of Uranerz Energy, the direct operation costs are estimated at around $24/lb and up to $35/lb when including taxes and the royalties of up to 8% for prices of over $45/lb. The company hopes to achieve savings from synergies going forward, including the potential pipeline solution from the Jane Dough project. For comparative purposes, Uranium Energy Corp. listed the ISR mining process economical at prices around $40/lb.
Assuming costs are maintained, investors need to keep in mind that a portion of production is already sold to Exelon and others at contractual prices. For a competitive example, Ur-Energy recently disclosed 2014 sales commitments for approximately 518,000 pounds of U3O8 at an average realizable sales price of $51.10/lb. For 2015, the secured sales commitments equal 630,000 pounds of U3O8 at an average realizable price of $50.10/lb, or equal to about $31 million in contracted revenue. The company plans to hold excess production in inventory to complete discretionary spot deals or wait for better market prices.
Uranium Energy Corp. has taken a different approach choosing to not lock-in long-term contracts at the current rates. The company is more in line with the analyst forecasts for prices reaching $70/lb and is choosing to scale back production in order to wait out the market.
Uranerz utilizes ISR to recover uranium in a method used by 45% of global uranium production. Basically, miners are using a water solution to dissolve uranium underground and then pump it back to the surface dissolved in the water. The water solution extracts the uranium from the sandstone host below the surface. The collected solution including uranium is processed through an ion-exchange process to extract the uranium. Further processes dry the uranium to create the finished product, which is called yellowcake.
The below slide summarizes the method used by Uranerz:
According to the U.S. Nuclear Regulatory Commission, or NRC, only 12 ISR facilities exist in the country.
The stock of Uranerz Energy is without doubt a high-risk situation. Any number of issues can occur on the start-up of a mine, not to mention the initial production mine for a small company. Any substantial delays or mining interruptions could have a material impact to the cash flow and financing situation for the company.
Besides the normal operational issues, the company faces the fears that another nuclear reactor accident could impact future market demand. The expected uranium price gains won't occur without a robust market for new reactors.
The stock currently has a valuation of around $135 million with roughly 100 million diluted shares. With the ability to process two million pounds annually at the existing Nichols Ranch processing facility, the company has the potential to reach revenues in excess of the current market value in a couple of years providing for strong stock returns.
As with all of the uranium stocks, Uranerz Energy has gone continuously downward after the Fukushima accident back nearly three years ago. As a group, the stocks sit virtually at the same levels as five years ago.
Uranerz Energy doesn't have the largest listed reserves of the domestic junior miners, but it does have the immediate production and the potential to add to reserves at economical costs. Remember that the total production forecasts by the domestic junior miners of Uranerz Energy, Uranium Energy Corp, and Ur-Energy have limited impact on the global supply/demand equation where existing demand of 170 million pounds far exceeds a few million pounds of production in the near-term by these miners.
For Uranerz Energy, the startup of production now under attractive long-term contracts sets the company up for hitting full stride when the uranium market balances out in 2016. The stock is very attractive at current depressed prices.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities. Before buying or selling any stock you should do your own research and reach your own conclusion or consult a financial advisor. Investing includes risks, including loss of principal.