Commodities | Feb 26 2007
By Greg Peel
Analysts at ABN Amro were forced to give in to the realities of the uranium oxide market last week following a 13% jump in the auction price. Having previously assumed a 2007 average of US$65/lb, dampened by a ramp-up in capacity, the pace of the demand surge has provoked the analysts into a rethink. ABN is now assuming a 2007 price of US$95/lb.
The market is still unsure of the situation at the world’s largest uranium producer – Canada’s Cameco. With 10% of the world’s forecast production for the next decade sitting under water at the Cigar Lake mine, speculation has been rife that the uranium price could do nothing but spike. Sellers backed off their prices at auction, and for a couple of weeks the market was at an impasse. Something had to give, and give it did, with 100,000t being sold last week at US$85/lb – a US$10 increase on the previous sale and the single highest dollar increase since 1968 when records began to be kept. There were reportedly another 2Mt of ore bid for at the price.
It is no wonder that the market is beginning to refer to U3O8 as a “precious metal”.
Long term demand for uranium now exceeds 54m pounds according to the Nuclear Market Review. While demand is surging, supply has also begun to accelerate, with US producers increasing production by 53% in 2006 to 4.1m pounds – the highest production level since 1999. US production is up 76% since the market bottomed in 2002, but then the US only produces 7% of what even its own reactors require each year.
UBS points out that the 10-year average price for uranium is US$13.89/lb, and thus we are currently 500% higher. While uranium is actually abundant in the world, Paladin Resources’ (PDN) Langer Heinrich mine in Namibia is the first new mine in 15 years.
It’s bad enough that Australia’s biggest producer – Energy Resources of Australia (ERA) – has been locked in to long term contracts at low prices, but at least they’re now rolling off gradually. The owner of the world’s largest uranium deposit, BHP Billiton (BHP) will be smarting that production from its Olympic Dam site is locked into long term contracts at US$18/lb. Paladin, on the other hand, will shortly commence production for sale at spot prices.
Paladin has also gained approval from the government of Malawi, as expected, to develop the Kayelekera mine. UBS notes the project is expected to produce 3.3Mt of ore over its first seven years – up from the market’s consensus estimate of 2.2Mt. While this is good news, interest payments demanded by the Malawi government have been set higher than expected, leading UBS to reduce its NPV estimates for Paladin by 1% in FY08 and 3% in FY09.
UBS has reduced its target price for Paladin from $11.50 to $11.00, but in the meantime the analysts at ABN have been applying their new uranium price assumptions. This has led to their Paladin target being increased from $8.60 to $12.10 (current share price just over $10), and their ERA target being increased from $19.31 to $29.20 ($25.50). In so doing, ABN has also lifted both miners from Hold to Buy.
This takes the FNArena average target price for Paladin up from $9.51 to $10.51, although only three brokers cover the stock and Deutsche Bank is looking a bit behind the times at $8.42. Similarly, ERA’s target moves from $25.08 to $27.50, with four brokers covering and JP Morgan’s extreme call of $31.00 no longer looking so extreme, however Deutsche is again looking dated at $20.31.
Paladin now boasts a 1/2/0 B/H/S ratio while ERA enjoys 2/2/0.
If demand significantly exceeds supply, what can stop the uranium price sailing through US$100/lb?
The first consideration is the Cigar Lake factor. We will not know the extent of the damage, nor the length of production shut down probably until April. Speculation is, however, that the news will not be good.
Australia, in the meantime, is key. BHP is tripling the size of its Olympic Dam mine, but this will take a long time and production has already been largely pre-sold, mainly to the Chinese. ERA is still sitting on its expansive Jabiluka resource, and most analysts expect that this mine will come on line once Ranger winds down, some time in the next ten years. The problem at Jabiluka is environmental and indigenous ownership concerns, it being situated in the Kakadu National Park.
Then there is the uranium mining policy. Hints from the Labor party are that the April conference will see the new mine ban overturned, but this still does not guarantee Queensland and Western Australia – two extensive sources of uranium – will follow suit. To date it is expected Queensland will bow but WA won’t. Either way, it will still take time for potential mines to ramp up, and the world wants uranium NOW. The average lead time from exploration to production is five years.
There is the potential, however, that the US government could release stockpiled low-enrichment uranium onto the market to cool things down and particularly provide for start-up reactors in the US that form part of the Bush Administration’s energy policy. UBS understands that this stockpile has been asked for by US utilities, but only for the start up phase. Nuclear reactors need large quantities or fuel to fire up, but a lot less once running.
So there appears little end in sight at this stage. Uranium prices aside, ABN notes that the recent takeover bid by SXR Uranium One for UrAsia signals the beginning of what could be a period of industry consolidation.
