DNN - NexGen Energy's Large Capacity May Have Negative Implications

2023-03-21 00:43:32 ET

Summary

• NexGen Energy’s Arrow deposit has a reserve of 240Mlbs (probable) of U3O8 and a resource of 338Mlbs (M&I&I).
• The company plans to extract 28.8Mlbs/y during the first 5 years, making it the world’s biggest uranium mine.
• NexGen’s Arrow Project may be so large that its production may overhang the uranium term market.

NexGen Energy Ltd ( NXE ) is a Canadian uranium developer currently focused on bringing its world-class Arrow Deposit to production. And once fully operational, the project will become the largest and lowest cost uranium mine in the world.

Given such a pedigree, one would expect NexGen's stock to be trading at valuations well above those of other uranium developers. However, that's not necessarily the case, as its stock price trades within a reasonable range to that of other developers who have projects in Canada's Athabasca Basin. In this article, we'll review the reasons why NexGen's stock may be trading at a discount as well as the issues unique to the company given the size and quality of its deposit.

Company Background

NexGen's Arrow/Rook 1 Deposit, located in the Canadian province of Saskatchewan, has a Resource size of 3.8Mt (M&I) graded at an average 3.1% as well as another 4.4Mt (Inferred) graded at .83%. These numbers are quite considerable, and they translate into an impressive 257Mlbs (M&I) and 81Mlbs (Inferred) of U3O8, respectively.

A 2021 Feasibility Study classified 240M of those pounds as a Probable Reserve which the company plans to extract over an 11-year timeframe. The first 5 years of the project will see an average annual production run-rate of 28.8Mlbs of U3O8 while the mine's total 11-year run will average 21.7Mlbs per year. These are remarkable numbers, but we'll get back that in a minute.

As one would expect, a project of this size brings with it some big numbers when it comes to valuation; although, granted, the company's CAD$1.3 billion Capex projection may be somewhat conservative, especially when the recent surge in inflation is taken into account. However, when using a base case of $50/lb, the company's Feasibility Study projected an After-Tax NPV8% of CAD$3.47 billion, an After-Tax IRR of 52.4%, and an almost negligible payback period of 0.9 years. These are respectable numbers to say the least. And, as can be seen in the exhibit below, those numbers improve substantially if the price of uranium rises to just $60/lb.

Valuation

But in spite of all that, the market doesn't seem to be cutting NexGen much slack. Its current Enterprise Value per Pound of U3O8 is $6.73, very close to the $6.35 EV/lb at which Denison Mines Corp. ( DNN ) trades. Denison is another Canadian development-stage uranium miner with properties in the Athabasca basin.

However, there's a bit more difference in their Total Acquisition Costs ('TAC') on a per pound basis as NexGen comes in at $21.14 TAC/lb relative to Denison's more modest $17.14. In order to present a more conservative picture, these numbers use only the Measured and Indicated Resources and, in the case of Denison, only use the Wheeler River numbers, excluding its other small properties. The numbers are stated in US currency and used a 1.36 USDCAD exchange rate for their calculation.

Given that information, it becomes apparent that NexGen is currently trading at close to a 60% discount to the spot price of uranium. Now, granted, a discount is appropriate given that its operations are years away from commercial production, but, nevertheless, NexGen's stock does appear to have a lot of upside. The company provides a sensitivity analysis, letting investors know how much upside they'll potentially benefit from if uranium prices continue rising.

These numbers are impressive and paint a bullish picture for the stock, but before pulling the trigger, investors may want to consider an additional factor.

The Forward Price

NexGen's website states that its Arrow property will become the largest and lowest cost uranium mine in the world when it eventually begins commercial production. During its first 5 years, the mine will churn out 28.8Mlbs of U3O8 per year, an amount greater than the 24.5Mlbs that Cameco Corporation ( CCJ ) intends to produce in 2023.

NexGen's annual production will be equal to 13k metric tons (tonnes), an amount equal to about 23% of global uranium production in 2021. Granted, 2021 was a down year in terms of production, and it was a year in which the world's uranium mines only satisfied 77% of global demand, equal to about 74kt. However, NexGen's 13kt would still have filled about 18% of global demand for U3O8.

Much discussion about NexGen tends to assume that the start of full production at its Arrow property will have no impact on the spot and term prices of uranium, but that's unlikely. Granted, more reactors will be added to the global fleet before Arrow is fully operational and some of the mines that are currently producing will be depleted by then, but it is highly improbable that the addition of supply equal to 18% of current global demand would not cause a ripple in price. This is probably a major reason why NexGen's EV/lb and TAC/lb are so heavily discounted even when considering the size and quality of its deposit.

Takeaway

Paradoxically, NexGen's Arrow Project may be so large and of such good quality that its production will overhang the uranium term market. Its start later this decade may eventually be a factor in preventing uranium prices from reaching the $75 per pound level discussed earlier.

Granted, the tide is turning in the nuclear sector, and current production will eventually need to be replaced. But I don't know if that will be enough to neutralize the price impact of Arrow's addition to global supply. For now, I rate NexGen a Hold , but given its sheer size, I will be keeping a close eye on this project in the years to come.

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