A major supply shortage is coming in the global uranium market. Yellow Cake PLC (OTCPK:YLLXF) and Uranium Participation Corp. (OTCPK:URPTF) provide direct ways to profit from as prices rise.

Covid-19 in the long term is likely to make this supply shortage even more extreme. There was only a minor temporary reduction in demand for nuclear power. Yet many mines had to shut down due to outbreaks.

This chart shows global production cuts have been accelerating in recent years:

Source: MacroVoices, Sachem Cove Partners

Years of underinvestment exacerbated by the Covid-19 shutdowns is leading to a major supply gap that is going to increase in the coming years unless prices rise enough to bring new mines online.

Source :Yellow Cake

The supply gap in the chart above assumes a relatively benign political environment. If there is a geopolitical shock, the supply gap could widen even further.

Geopolitical Risks

Uranium supply is highly sensitive to geopolitical risks. This chart shows how the US has come to depend on foreign sources of uranium.

Source: Energy Information Administration

Although Athabasca is poised to become an important source of supply in coming years, Kazakhstan and Russia remain the largest sources of production. A likely scenario in the near future is that over 10% of the electricity production in the developed world will be dependent on a small group of producers in unstable jurisdictions. The slightest increase in geopolitical tensions could send prices soaring.

Most uranium buyers are not prepared for a sudden rise in the price of uranium.

Front Run the Utilities

Nearly every uranium thesis these days contains a chart like this one showing the historical boom bust cycle of uranium:

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Source :Yellow Cake

Looking at the details of what happened during the last cycle provides further insight. In early 2005 and 2006, hedge funds started buying up physical uranium and holding it. As the prices started rising, nuclear utilities needed to lock in long-term contracts, but they suddenly found a shortage in the market. So they went and paid exorbitant prices to lock in supply that they needed to run their operations. Mike Alkin discussed the impact of hedge funds stockpiling uranium in a recent MacroVoices Podcast.

A similar dynamic is occurring today. Investors are waking up to the uranium opportunity just as the supply crunch is starting. Moreover, utilities will need to start locking in longer-term contracts soon.

This chart from Sachem Cove Partners shows how similar this setup is compared to what happened in the last uranium bull market:

Source: MacroVoices, Sachem Cove Partners

Just like the last bull market, we are entering a time when utilities have a lot of uncovered demand that they must meet either through the spot contract or through locking in contracts at higher prices. Moreover, global uranium inventories are even lower than they were back in 2007:

Source: MacroVoices, Sachem Cove Partners

Buying Yellow Cake and Uranium Participation Corp. today is like front-running the utilities. The average retail investor is not going to buy physical uranium and store it at a warehouse. But owning Yellow Cake and Uranium Participation is the next best thing.

In some ways, it’s even better. If you purchase uranium on the spot market, you need to pay full price, plus transportation and storage. Yellow Cake and Uranium Participation both trade at more than 20% discounts to their net asset value based on the recent prices of uranium that they hold.

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Share Repurchases

Yellow Cake and Uranium Participation are rare examples of companies in the resource space with shareholder-friendly management teams.

Mining companies typically issue large quantities of stock both to compensate management and to fund further exploration. Indeed if you are a couple years early when you invest in mining stocks, you face the risk that by time your thesis proves correct, your ownership will have been diluted so much that you enjoy far smaller upside from success. Fortunately, Yellow Cake and Uranium Participation each have been doing the exact opposite.

Between January and March, Yellow Cake purchased approximately $726,320 worth of shares at an average NAV discount of 15%. In June, it expanded the program to allow for the repurchase of $10 million worth of shares (nearly 5% of market cap). Records from the London Stock Exchange indicate that it has been in the market almost daily buying back shares at the currently discounted price.

Uranium Participation has been following a similar plan. Between April and August 2020, it repurchased CAD10.1 million worth of shares at an average price of CAD4.94, approximately a 5% discount to net asset value. These repurchases were part of a plan to buy back up to 12 million shares (approximately 9% of shares outstanding) by April 2021.

Anytime a company repurchases its own shares from the market at a discount to intrinsic value, the result is an increase in the per-share value for shareholders who continue to hold. Investing in “cannibals” that aggressively repurchase their own shares has a well-documented track record of success. Sometimes it’s difficult to determine intrinsic value, but with companies set up to hold a physical commodity with a quote price, it’s a much easier calculation. Regardless of what happens to the share price in the medium term, these share repurchases have been highly accretive to patient investors.

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Yellow Cake and Uranium Participation are radioactive cannibals. The market doesn’t yet recognize their value, but their managements clearly do. When the market wakes up to the supply demand imbalance, investors will benefit from both the increase in the uranium price and the closure of the NAV gap. These companies might even trade at a premium if there is a global supply crunch.

Disclosure: I am/we are long URPTF, YLLXF. 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.



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