CIBC initiates coverage of Cameco and remains “bullish” on uranium sector

CIBC Capital Markets has initiated coverage of Cameco (TSX: CCO; NYSE: CCJ) with an outperformer rating and a price target in the next 12-18 months of $37 for the Canadian uranium producer’s shares, while also taking a bullish view of uranium pricing.

“We expect nuclear energy, a scalable, low-carbon energy source, to be key in reducing global dependency on fossil fuels as efforts to curb climate change persist,” CIBC analyst Bryce Adams wrote in a research note in mid-January. “We believe Cameco offers investors Tier 1 assets, with premium jurisdictional exposure, a significant reserve base, a strong balance sheet and a reasonable valuation.”

Cameco’s Toronto-listed shares are currently trading at $24.17 within a 52-week trading range of $15.79 and $35.47, and Adams wrote that his $37 target for Cameco’s shares is based on 2.0x price to net asset value (P/NAV) that captures “the high quality of the company’s uranium assets, long mine life, low cost of production, strong balance sheet, and its standing as a go-to name among uranium producer and developer peers.”

Two other factors that have influenced Adams’ share price target are the possible resolution of Cameco’s ongoing tax dispute with the Canada Revenue Agency (CRA) and the potential restart of the company’s McArthur River mine, as well as fully ramped up production at its Cigar Lake operation, both located in northern Saskatchewan.

The decade-long troubles with the CRA relate to the company’s transfer pricing methodology, and Adams says the dispute has always had the potential to have a material impact on Cameco’s liquidity and financial position. However, in February 2021 the Supreme Court of Canada dismissed an application for appeal by the CRA for several of the years in question (2003 and 2005-2006). This set a strong legal backing that Cameco’s tax practices are fully compliant with Canadian tax laws. As such, CIBC assumes a two-thirds probability of resolution between the CRA and the company, in favour of Cameco.

Adams also sees the potential restart of Cameco’s McArthur River operation, which the company shut down in 2018 due to low uranium prices. Adams notes that a “restart would be a commercial decision based on long-term contracts.” With strong supply and demand fundamentals, McArthur Lake could restart beginning in 2025, Adams said, though a nearer-term resumption of operations is possible if the current market environment proves more sustainable.

Cameco remains one the largest producers of uranium in the world, with about 12% of global primary production estimated for this year. Adams expects Cameco’s market share to increase to 18% of global production by 2025.

Cameco’s assets are the Cigar Lake mine in northern Saskatchewan and the Inkai mine in Kazakhstan. Four other assets are currently suspended: the McArthur River/Key Lake operations and the Rabbit Lake mine, both located in Saskatchewan; the Crow Butte mine in Nevada; and the Smith Ranch-Highland operations in Wyoming. (The company also has processing facilities in Ontario.)

Looking ahead, Adams also points to the widely held view that nuclear power will be a critical part of the base load energy infrastructure required to achieve global net-zero targets. Though renewable energy generation has become a much larger part of decarbonization goals, it has yet to displace fossil fuels. This gives nuclear power the potential to take on an important role as an energy source for electrical grids and create more demand for Cameco’s uranium to fuel those nuclear plants. “Our bullish thesis on uranium pricing is rooted in strong macro factors driven by a path to net-zero with many hurdles enroute,” Adams said.

However, beyond limited high-quality reserves, which could lead to the development of lower-grade deposits that require higher costs, he cautions that the biggest hurdle the uranium sector may face is the public perception of the safety of nuclear power, or the social stigma left in the wake of nuclear disasters like Chernobyl and Fukushima.

The global uranium sector was upended by the March 2011 Fukushima-Daiichi nuclear accident in Japan. Between 2011 and 2020, about 48 gigawatt-electric (GWe) of nuclear capacity was lost around the world as 65 reactors went offline or did not have their extensions renewed. The impact on the uranium sector was dramatic.

“The shock to demand, right after a price spike driven by the Chinese entering the uranium market in 2010 for their own reactor requirements, created a period of complacency that proved detrimental to uranium prices,” Adams wrote.

Nevertheless, the mining analyst points out that market fundamentals have shifted, and new financial players have entered the sector, helping to reverse the excess supply and inventory that suppressed market fundamentals for the better part of the last decade.

CIBC now forecasts a “near-term market deficit” and a spot uranium price of about US$50 per lb. in 2022 increasing to US$55 per lb. in 2024.

Based on data from nuclear industry analyst UxC, CIBC expects that China will add 14 reactors in the next three years to its existing 51 and have some 103 nuclear reactors by 2030. The United States, South Korea and Pakistan, among others, are also expected to increase their electrical generation using nuclear power.

“Nuclear power is still projected to be the low-carbon base-load technology with the lowest expected ingoing fuels costs,” Adams commented, adding that, “technologies such as small-modular reactors (SMRs) are showing promise in terms of reducing upfront capital costs, while gradually changing perception about the safety of these operations.”