In 2010. Cameco Corporation (NYSE: CCJ) had big plans up its sleeve. Nuclear power was touted as the next big source of power, and nations worldwide were drawing up plans to tap the energy source. Japan was a front-runner, deriving almost 30% of its electricity from nuclear and aiming to push the total up to at least 40% by 2017. Because nuclear reactors run on uranium fuel, Cameco -- the world's largest uranium producer -- was staring at exponential growth opportunities.
And then the unthinkable happened. A deadly earthquake and tsunami rocked Japan, shuttering all of its nuclear reactors. The Fukushima Daiichi disaster of 2011, the world's second deadliest nuclear disaster after Chernobyl, overturned Cameco's fortunes overnight. The company is still reeling, with shares trading at less than one-third of their 2011 value.
Whether the uranium producer will ever be able to get back to its 2010 profit levels remains a question, but from where things stand now, it at least looks headed for better days. Here's why.
Uranium prices slumped, but Cameco's sales didn't
You'd expect Cameco's top line to have fallen off a cliff after 2011, yet it didn't. An 11% revenue drop is nothing for a company that's survived an ordeal that put its very survival into question. It's also not so bad when you consider that other uranium players, such as ; NexGen Energy Ltd. (NASDAQOTH: NXGEF) haven't even succeeded in commercializing any mines and generating revenue yet.
A major reason Cameco's top line has been so resilient is long-term contracting. Nuclear utilities usually buy uranium directly from manufacturers under long-term contracts, since the fuel needs to be purchased well in advance to give it time to pass through various stages before it can be used as a final fuel in power plants.
Cameco follows a 40% fixed-pricing and 60% spot-pricing strategy, which means 40% of its contracts are at pre-determined rates. That insulates the company from price swings to a great extent. Consider that Cameco's realized selling prices last year averaged almost 60% higher than spot uranium rates, thanks to contracts. That sounds even more incredible when you realize that uranium prices hit a 12-year low last year.
Cameco already has commitments to sell roughly 24 million pounds a year on average for the next five years, which means it has already locked in a good portion of its revenue for at least the next half-decade. For perspective, Cameco sold 31.5 million pounds last year, which includes sales from its Nukem subsidiary.
Cutting costs, but no cutting dividends
While long-term contracting helps Cameco, management knows it can't time market recoveries, which is why it's doing exactly what's needed to ride out the storm: Aligning production with demand and controlling costs.
Cameco initiated major restructuring efforts last year, beginning with the suspension of operations at some mines. The company also plans to reduce its workforce by 10% this year at its McArthur River, Key Lake, and Cigar Lake operations, in a bid to focus on lower-cost mines to maintain margins.
Investors have been worried about Cameco's declining profits, especially after the company reported losses last year. But what they may have overlooked is that one-time impairment charges hit Cameco's bottom line in fiscal 2016, without which the company would've still been profitable. That's no mean feat, given the plunge in uranium prices.
In fact, Cameco didn't even cut its dividend in the aftermath of the Fukushima disaster. On the contrary, it has retained the steep 43% dividend increase it rewarded shareholders with in 2011.
There's no denying that Cameco's free cash flow payout was negative for the better part of recent years, but in a positive sign, its FCF has been able to cover its dividend comfortably in the past couple of quarters.
Uranium markets could rebound
It's clear that Cameco isn't taking any chances and is positioning itself well for a market recovery. The big question, however, is: When will the markets recover?
While no one can answer that definitively, there are some encouraging signs. For starters, the world's largest uranium-producing country, Kazakhstan, announced its intention to trim production by 10% this year, after which uranium prices bounced back from multi-year lows.
While uranium prices have cooled off a bit since, Denison Mines (NYSEMKT: DNN) CEO David Cates recently observed during an interview with The Northern Miner that utilities are significantly "uncovered" for 2020 and beyond, which means they'll have to buy uranium soon enough to be able to support operations later.
Meanwhile, the U.S. Energy Information Administration's International Energy Outlook 2016 report estimates electricity from nuclear power to nearly double to 4.5 trillion kilowatts between 2012 and 2040. Countries such as China could be the next Japan when it comes to tapping nuclear power.
The road ahead won't be easy for Cameco, but the company has proved its mettle and will probably continue to do so even if things were to take a turn for the worse.
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