URCWF - Uranium Royalty: A Look At The Leverage On The Warrants

2023-12-12 15:55:48 ET

Summary

• Uranium Royalty Corp (UROY) has experienced a decent rally in response to the recent uranium bull market.
• UROY aims to build a diversified portfolio of royalty assets and hold physical uranium to capitalize on the supply-demand imbalance.
• The company's financial statements show no revenues and relatively tiny royalty assets, making valuation challenging.
• We examine the warrants as well.

In our last coverage of Uranium Royalty Corp. ( UROY ), ( URC:CA ), we gave it a neutral rating. Our rating incorporated the improvements in valuation and told investors that an upswing would only materialize, if we got a full blown uranium bull market coming to the forefront. That was in March of this year and of course as everyone who has not been living under a rock, knows, the uranium bull market is back. You can see that in the right hand side of this chart as both spot and long term prices have gone vertical recently.

UROY has responded in kind. While it has lagged the larger stocks in the sector like Cameco Corp. ( CCJ ) and even the Global X Uranium ETF ( URA ), it has managed to put together a decent rally.

We look at where the company stands and how it is progressing on achieving its goals. We also weigh in on the warrants for more potential upside.

The Company

UROY is a royalty company that hopes to capitalize on the emerging supply demand imbalance for uranium. It aims to build a diversified portfolio of royalty assets across the globe, while holding physical uranium with the cash on hand. The latter serves as a modality to remain exposed to the potential bull market as it seeks out royalty opportunities.

It has had some success at building its royalty portfolio as shown in its presentation. Some of these assets are indeed world class.

But if you observe carefully above and below, you will notice that while these are large mines, UROY's share of the production or potential production is extremely small.

It might be hard for a novice investor to put weightage on what all of this means for actual success of the company. But they can glean some knowledge of this by examining the financial statements.

Q1-2024

UROY has an April fiscal year end, so July 31, 2023 represents the first quarter of the 2024 financial year. The income statement directly gets to what we were talking about in the earlier section. There are currently no revenues and the statement starts with expense items.

While some of the royalty assets are in production, they have not yet shown up on the income statement. The reason for that is these royalty agreements are generally full of complex terms and conditions and the "sharing" begins after certain targets are met. Another place which gives you an idea of just how small all of the royalty numbers will be (even when they do ultimately show up) is the balance sheet. Total royalty related assets are just $46.25 million.

That represents the entirety of the invested amount (adjusted for any currency fluctuations). So needless to say, that investment amount will at best produce a small fraction in actual royalties every year. You also have to account for the fact that most of these won't be in production till quite a few years from now.

Valuation

Established royalty companies have a standard framework for valuation and depending on whether that royalty right is perpetual (like that for a Pizza chain), or depleting (like mineral assets in a mine), one can come up with a multiple of revenues that works. Of course the key to success in the case of a mining royalty assets is to buy at a low valuation (low price to sales) at a point where the underlying is about to appreciate. You can see our framework for that in our previous work on Royal Gold Inc. ( RYLD ). In the case of UROY there is a lot of guesswork involved. The main reason is that there is nothing remotely interesting on the income statement. You cannot even use a price to revenue number.

So the rough gauge here is an adjusted price to NAV. We can get to this in a couple of steps. Starting with the price to tangible book value, we can see that UROY is trading at about 2.1X the last known tangible book value.

This tangible book value uses the Uranium price as of July 31, 2023. Keep in mind that there is a lot of Uranium inventory on the balance sheet.

As at July 31, 2023, the Company holds 1,548,068 pounds (April 30, 2023: 1,548,068 pounds) of U3O8. The carrying value of $85,705 (April 30, 2023: $85,561) includes an accrual for the Company's entitlement of the production from the McArthur River mine of 1,038 pounds U3O8 for calendar year 2022 and the estimated production from the McArthur River mine from January 1, 2023 to July 31, 2023. On August 31, 2023, the Company received 1,038 pounds U3O8 related to the production in calendar year 2022

Source: UROY Financials

So you need to adjust that upwards based on the price changes for Uranium since then. That would push up the value of Uranium inventories by about 40% and value of total equity by about 20%. URPY also did another secondary offering and since this was done above tangible book, it was accretive to that tangible book value. Adjusted for the cash burn, we estimate that UROY is close to about 1.75X tangible book value. That number is not particularly high. It certainly is not anywhere in the ballpark of where it was in March 2022, where we suggested you might as well sell (see, A Good Point To Exit ). So despite the nice rally, UROY has actually become a bit cheaper than it was since the beginning of the year. This is of course attributable to the big rally in uranium prices and investors must decide if this new price for uranium is sustainable.

The Warrants

Uranium Royalty Corp. WT EXP 120624 ( OTC:URCWF ),(URC.WT:CA) are an interesting play for those who think that the Uranium bull market is just beginning. UROY has no options listed on the Canadian/TSX side. There are options present on the US side and these run till July 2024 . URCWF is the officially issued warrant from UROY and it expires on December 6, 2024.

The Company's common shares and common share purchase warrants, each of which is exercisable into one common share at an exercise price of $2.00 per share until December 6, 2024 (the "Listed Warrants"), are listed on the TSX under the symbols "URC" and "URC.WT", respectively. The Company's common shares are traded on the NASDAQ Capital Market under the symbol "UROY".

Source: UROY Financials

This warrant is deep in the money as the price on the TSX side is currently CAD3.81.

So this warrant basically gives you a 2X leverage on UROY, which itself is leveraged to the price of Uranium. With warrants, generally we prefer an out of the money strike with a very long expiry for speculation. The one-year out expiry is actually quite dangerous and we see risk of very high percentage losses if we have a generalized bear market in 2024.

Verdict

UROY is still in its early stages of establishing a royalty portfolio. The valuation is not demanding, thanks to an appreciating asset on the balance sheet, uranium inventory. We don't own this and don't have plans to either. For a direct exposure to Uranium, we have recommended the Sprott Physical Uranium Trust ( OTCPK:SRUUF ) ( U.UN:CA ).

The warrants add leverage on top of an already speculative investment and will amplify the beta. That is not our style. A more prudent strategy would be a covered call strategy on the US side, something similar to what we did with Denison Mines ( DNN ) with a 50% return (See, Valuation Is Compelling For This Uranium Play ). We will revisit this in 2-3 quarters to see if we actually can see the first hints of revenue on the income statement to reconsider our decision.

Please note that this is not financial advice. It may seem like it, sound like it, but surprisingly, it is not. Investors are expected to do their own due diligence and consult with a professional who knows their objectives and constraints.

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