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What to Expect From Cameco Corporation in 2018

By Neha Chamaria - Feb 1, 2018 at 7:30AM

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Before you bet on Cameco stock for 2018, read this.

Cameco Corporation (CCJ -4.22%) is well versed in challenges. The going, after all, has been anything but smooth for the world's largest uranium producer, after the Fukushima Daiichi nuclear disaster of 2011 that overturned the uranium industry's exponential growth prospects overnight.

From a shareholder point of view, 2017 was yet another dismal year, as Cameco shares slumped 11.8%. From Cameco's standpoint, though, it was a year of big decisions that could pave the way for a better future. Here's what investors can expect from Cameco in 2018.

2017: Challenges galore, but Cameco didn't buckle 

Declining uranium prices hit uranium producers around the globe. Cameco's average realized uranium prices came in nearly 21% lower year over year during the nine months ended Sept. 30.

What spooked investors even more is that Cameco is still realizing prices substantially higher than the spot price thanks to its long-term contracts. However, most of its contracts are due for expiry by 2021, which means Cameco will soon have to renew or sign fresh contracts to keep its business running. Going by current uranium prices, utilities will likely want new contracts at low prices, which means Cameco's high-margin days might well be over if uranium prices fail to pick up.

A directional road sign with risk and reward written on it against a blue sky backdrop.

Is Cameco stock a risky bit or an opportunity for 2018? Image source: Getty Images.

In between, Japan's Tokyo Electric Power Company, or TEPCO, abruptly terminated a uranium supply contract with Cameco earlier last year, citing "force majeure." It was a huge blow, as the contract was to run from 2017 through 2028 and could've added 5% to the company's top line.

Sensing the gravity of the situation, Cameco swung into action late last year by making some tough business decisions. It not only suspended operations at its largest mine, McArthur River/Key Lake in Saskatchewan, but it also slashed its annual dividend by 80%. It was the first time Cameco cut its dividend.

Management didn't mince words when it explained its decisions. During Cameco's third-quarter earnings call, CEO Tim Gitzel said, "We can't control the timing of a market recovery, but we are taking action on the things we can control." Gitzel further elaborated, "[A]part from making sure we have uranium to fulfill our contract commitments, our supply is better left in the ground" at current uranium prices.

The market rightly cheered Cameco's moves and sent the stock surging, in anticipation that while a production cut could improve the demand and supply situation in the uranium market and help prices recover, a dividend cut should prevent Cameco bleeding through cash.

Nuclear reactors on a yellow field and a blue sky backdrop.

It is imperative for the world to build or restart shut nuclear reactors to fuel demand for uranium. Image source: Getty Images.

Cameco's strong decisions should help the company keep its head above water in 2018, even as it awaits a recovery in end markets.

2018: A year of better prices and profits?

Cameco's decision to suspend production at a key mine got solid support in December, when the world's largest uranium-producing country, Kazakhstan, announced its intention to trim production by 20% over the next three years. With two of the world's leading uranium suppliers keen to ease the industry supply glut, there's hope that uranium prices will recover this year.

Meanwhile, I expect Cameco to continue to focus on internal efficiencies, costs, and cash flows in 2018. While deferred purchases lowered Cameco's cost of sales by 13% during the nine months ended in September, restructuring drove its direct administration costs down by 20% during the period. The trend is likely to continue as Cameco tightens its purse strings further and focuses on low-cost mines.

As for its cash flows, Cameco is on track to report solid free-cash-flow (FCF) growth for fiscal 2017 when it reports its full-year numbers in the coming weeks. Three things are driving its cash flows higher: lower operating costs, lower purchases that are easing inventory and freeing up cash, and lower capital expenditures that are boosting FCF.

The Foolish bottom line

Long story short, investors in Cameco should keep an eye on three broad trends in 2018: production cuts, uranium prices, and Cameco's cash flows. While the first two are crucial for the revival of the uranium industry, Cameco's own efforts should hugely help it ride out the storm and position itself for growth in coming years.

So keep a long-term view should you want to bet on Cameco -- the stock is currently trading at less than 12 times free cash flow and offering a tidy dividend yield of 3.5%.

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