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Ur-Energy: The Ultimate Survivor

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About: Ur-Energy Inc. (URG)
by: Prime Value
Prime Value
Hedge fund manager, contrarian
Summary

First nine months of the year showed negative FCF, but Q4 will be a strong cash flow generation period.

Uranium demand is growing, supply is shrinking fast and utilities have significant uncovered needs.

Nuclear Fuel Working Group report expected shortly.

Ur-Energy: quick overview

As stated in our previous article, Ur-Energy (NYSEMKT:URG) is one of only a very few primary US uranium producers still able to operate in today's tough market conditions. This is because in the past they signed long-term uranium supply contracts at much better prices than today's terrible prices. Their primary strategy thus far has been locking up into long-term contracts at ~$50/lb. Derisking the company by securing contract revenue streams in an uncertain market has proven to be an excellent strategy.

The company weathered the storm pretty well all of these years. While the majority of the industry is burning cash right now, URG is aware that cash is king. Moreover, they were able to push out their principal repayment on Lost Creek mine, their flagship project, for the next 18 months. Ur‐Energy CEO, Jeff Klenda, stated:

"We find ourselves in the enviable position of awaiting the outcome of the U.S. Nuclear Working Group without the need for near‐term financing. We will defer six quarters' principal payments on the State Bond Loan, while continuing to make quarterly interest payments. The deferred payments, beginning with the October 1 payment, represent approximately $8 million savings for that period. Considering our financial position and the ability to ramp‐up our operating, low‐cost Lost Creek mine quickly and cost‐efficiently, we have a distinct advantage over our peers."

Ur-Energy: Stress test

Although Ur-Energy has been cash flow negative for the first nine months of 2019, cash flows are set to rebound sharply in Q4 as their remaining 2019 contractual sales commitment is 180,000 pounds in Q4 at an expected average price of $60 per pound. Gross profits from uranium sales are expected to be approximately $6.3 million in Q4 excluding any net realizable value adjustments, which represent a gross profit margin of approximately 59%.

In the first half of 2019, they suspended further MU2 development activities, secured purchase contracts for 500,000 pounds of uranium at favorable prices, and sold 165,000 pounds related to 2020 obligations under existing term agreements. Despite the fact of the persistently weak uranium market, URG was able to not burn too much cash, just ~$0.450MM in the first nine months of the year:

Source: Author based on Company data

Looking Ahead

More recently, in response to the President's July 2019 decision regarding the Section 232 Trade Action, they once again took aggressive cost cutting measures in the form of additional staffing cuts and a renegotiation of the State Bond Loan to defer principal payments for 18 months:

"Source: 10Q 3Q 2019"

Additionally, they put in place purchase contracts for our 2020 contractual commitments and as we said above, cash flows are set to rebound sharply in Q4 as their remaining 2019 contractual sales commitment is 180,000 pounds in Q4 at an expected average price of $60 per pound:

Source: Author based on Company data

As at October 31, 2019, their unrestricted cash position was $6.6 million after collection of the October 1, 2019 sales proceeds, more than enough in case uranium prices remain low for foreseeable future. However, we believe Ur-Energy will continue to improve in the years to come, driven in large part by an improving uranium market environment.

Is the worst behind us?

After an over 80% decline in the price of uranium and even more of a decline of the stock prices of most uranium miners, we think the uranium market has bottomed and the equities of certain uranium miners are significantly mispriced. Mining at today's prices is uneconomical. Uranium miners are under water as extraction costs exceed spot pricing - by a large amount. This has led to reduced capital spending by miners on exploration as well as cuts in production:

"Source: Uranium Participation Corp. November presentation"

Many nuclear power utilities locked into long-term contracts for uranium at the peak of the prior bull market 9 years ago. Those contracts are entering a roll-off phase and there is not enough production to meet future demand:

"Source: Uranium Participation Corp. November presentation"

In fact, Kazatomprom, Kazakhstan's state owned uranium producer and the leading global uranium producer is making little money. In H1 2019, they made $244MM of free cash flow at $27.43. Then they pay $205MM of dividends and another $205MM to reduce debt:

Image

"Source: 3Q earnings 2019"

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"Source: 3Q earnings 2019"

"Source: 3Q earnings 2019"

I don't suspect they'll have liquidity issues. They can issue more debt in order to pay dividends etc., but their financial statements are clearly signaling to the market that they need higher prices. Hopefully Kazatomprom is signaling a shift in the global uranium markets as the Kazakhs begin to move away from policies that enabled Kazatomprom to seize a significant amount of market share to policies that are more committed to market discipline.

The Big Catalyst: US Nuclear Fuel Working Group

Big changes could be coming for the US uranium mining space. By establishing the U.S. Nuclear Fuel Working Group, President Trump initiated the most comprehensive review of US nuclear fuel supply chain in decades.

Domestic miners can't compete with low prices from Russia and former Soviet republics. Nuclear Utilities, by contrast, have argued that uranium is plentiful and that allies like Australia and Canada are reliable suppliers. The truth is that the US uranium mining industry produces less than 1% of the uranium needed to fuel U.S. nuclear power plants and there is a lack of any domestic uranium enrichment capability.

The results are hoped to boost the US uranium miners. There is the possibility that US Nuclear Fuel Working Group made recommendations that would end the importation of uranium from Russia, ramping up US production to fill the gap, so that US can terminate the Iran nuclear waivers without fear of supply cut to US reactors. However we find it hard to believe since US production is far from economic and nowhere close to producing enough to replace former Soviet republics' imports.

We should all know the NFWG's recommendations before year end. Any significant support for US uranium producers should be a boost for Ur-Energy and hopefully end the bear market for US uranium miners.

Conclusion

Ur‐Energy is cash flow positive in the most difficult uranium market in decades, with a producing US uranium mine, a second uranium project close to production (next 2 years), and other projects to follow. Moreover, they have the ability to ramp‐up our operating, low‐cost Lost Creek mine quickly and cost‐efficiently, so this is the main advantage over their peers.

Disclosure: I am/we are long URG. 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.