In early February, Cameco Corp. (NYSE:CCJ) reported its fourth-quarter and fiscal 2017 numbers. To investors' surprise, the uranium giant reported a smaller-than-expected loss for the quarter, handily beating analysts' estimates on both its top and bottom lines. The uranium stock's up almost 8% since the earnings release, as of this writing.
Cameco's latest report has fueled hopes among investors that the uranium markets may have bottomed, and that the stock has reached an inflection point, waiting to rebound. Is now finally the time to buy Cameco?
Cameco's making some tough but good decisions
To say that the uranium markets have had to face challenges in recent years would be an understatement. The Fukushima Daiichi nuclear disaster of 2011 brought the industry to a halt, even raising concerns at one point whether companies like Cameco that manufacture nuclear fuel, uranium, will survive.
Cameco not only survived the ordeal but also remained profitable through 2015, thanks largely to contracted commitments. Nuclear power generation is a complex process, which is why utilities generally buy uranium from manufacturers under long-term contracts. Cameco has adopted a 40% fixed-pricing and 60% spot-pricing strategy, which means 40% of its revenue is at pre-determined, contracted rates.
Unfortunately, uranium prices tumbled in the past couple of years, forcing Cameco to curtail production at several plants, including Rabbit Lake in 2016 and McArthur River and Key Lake operations in Saskatchewan earlier this year. With uranium prices hitting multiyear lows last year, Cameco's net losses surged to $205 million in FY 2017 from $62 million in 2016 despite its average realized price coming in at 66% above the spot uranium price, thanks to contracted revenues.
Cameco is, however, a well-managed company that's a victim of circumstances, and management has been proactive so far in dealing with tough end-market conditions. That was evidenced when the company recently suspended operations at its key mine, McArthur River/Key Lake, and slashed its annual dividend by 80% after having maintained its dividend all through post the Fukushima disaster. CEO Tim Gitzel elaborated why those decisions were important:
With the continued state of oversupply in the uranium market and no expectation of change on the immediate horizon, it does not make economic sense for us to continue producing at McArthur River and Key Lake when we are holding a large inventory, or paying dividends out of proportion with our earnings.
Clearly, Cameco's turnaround depends a great deal on a recovery in the uranium markets, which could, fortunately, be headed for better days.
Why the macro scene could improve
Cameco isn't the only one to cut down production. The world's largest uranium-producing country, Kazakhstan, recently announced its intention to trim production by 20% over the next three years.
That's a huge deal, one that could go a long way in providing a floor to uranium prices as the supply glut eases. As prices recover, utilities and nuclear reactors that are under construction and projected to come on line -- there are currently roughly 57 reactors under construction worldwide -- in coming years could return to the contract market and fuel demand for uranium.
Cameco isn't sitting on its hands, though. During its latest earnings call, management gave useful insight into its plans for 2018.
Why Cameco is gearing up for a better year
To begin with, Cameco has commitments to deliver 32 million-33 million pounds of uranium in 2018. To fulfill them, Cameco plans to produce only around 9.1 million pounds versus 23.8 million pounds last year, and instead, draw down on inventory and even buy uranium at spot prices while they're still low, if required. That's a prudent move as declining inventory should free up cash for the company.
At the same time, Cameco expects to cut down costs drastically in 2018, including direct administration costs by at least 14% and capital expenditures by 24%. Management expects these moves, combined with a dividend cut, should "result in significant cash flow in 2018."
It's worth noting that Cameco delivered one of its best free cash flow (FCF) figures in recent years during the trailing 12 months, generating nearly $393 million in FCF during the period. With the trend likely to continue into 2018, the stock starts looking a bargain at under 10 times price to FCF.
There's another contingent development that could boost Cameco's cash flows further in the next year or so: the $682 million in damages that it's seeking from Japan-based TEPCO for abruptly terminating a uranium supply contract last year that was to run from 2017 through 2028 and could've added 5% to the Cameco's top line. The arbitration is still some quarters away, but it's a development worth watching out for.
On the riskier side -- and mind you, it's a big risk -- Cameco is embroiled in a long-pending tax dispute with the Canadian Revenue Agency. With the final court decision due any day now, a negative ruling could hit Cameco with tax bills upward of $2 billion.
While the tax risk is hard to ignore, aggressive investors might want to consider Cameco at current prices, more so given its tidy dividend yield of 3.5%.