Why we've sold our shares in uranium producer Cameco

Benj Gallander, Ben Stadelmann, and Philip MacKellar
October 27, 2022

Do you invest in stock market darlings or dogs? Personally, I like to invest in the latter, but only if I think they can return to form – or better yet, morph into market darlings. Our recent experience with Cameco Corp. (CCO-T) illustrates one company’s journey from dog to darling. In the aftermath of the 2011 Fukushima nuclear disaster, the uranium sector entered a protracted downturn. Japan shut down its reactors, other countries followed suit, and uranium supply outweighed demand for years. Here at Contra the Heard, Cameco caught our attention as early as 2016, and in 2019 we decided to take a stake at $11.86.

At the time we bought, most investors did not want to touch it. The post-Fukushima chill still gripped the sector, and Cameco faced various legal issues, including with the Japanese utility Tepco and the Canada Revenue Agency. This CRA litigation was particularly important, as it pertained to a tax dispute dating back to the early 2000s and tied up more than $2-billion. However, the company was the industry leader – it controlled the world’s largest uranium supply outside of Kazakhstan via its low-cost mines in Saskatchewan, and had deep relationships with utilities around the globe. After considering these factors plus the level of insider buying, climate trends, and management’s strategy to mop up excess uranium supply, our purchase was made.

This bet turned out well. The company’s stock tanked nearly as soon as it was purchased owing to the onset of COVID in early 2020, but rallied sharply from there. We are now completely out of the name, selling over the past year in three tranches of $34.14, $37.59, and $40.40. These gains translated into returns of 187.9 per cent, 217 per cent, and 240.6 per cent, respectively. Selling in batches instead of all at once allowed us to lock in gains while hoping to take advantage of momentum.

The fact that we no longer own any of it does prompt the question: Why? The first reason was valuation. When the final shares were sold last month, the stock was trading at its highest level since 2011, the price-to-sales ratio was at its uppermost point since 2010, and the price-to-book ratio had not been as elevated since before the financial crisis. Not only was Cameco expensive versus where it had traded historically, it was lofty versus peers and the market.

These valuations may explain why the executives and directors sold $12.3-million in stock over the year before we exited the position. Though following the actions of insiders is not foolproof, it is often a good strategy. Insiders are regularly the best informed about their corporation’s prospects and will generally have a reasonable idea of their stock’s value.

A lot of optimism seemed to be priced into Cameco when we sold the last tranche. The world had awoken to nuclear’s importance in addressing climate change, the uranium deficit was recognized by the market, and governments around the world were shifting their position on nuclear. Finally, Elon Musk – known for many things, including moving markets – was promoting nuclear in the days prior to our sale.

Though we were comfortable selling our final stake in September, this is not to say that Cameco’s stock price cannot go higher. It could grow into its valuations, the enterprise has a strong balance sheet, and uranium is one of those sectors that can swing wildly. It is also possible we have underestimated the size of the growing uranium deficit, which could buoy the stock further.

Since we sold our position, Cameco has released its latest quarterly results, which saw revenues up 8 per cent, the net loss shrink from $72-million to $20-million, and the 2022 outlook maintained. More importantly, Cameco has partnered with Brookfield Renewable Partners LP and purchased a stake in Westinghouse Electric Co., a giant U.S.-based nuclear services business. This entity provides services and equipment for approximately half of the globe’s nuclear power stations, which means it has stable recurring revenue. Moreover, Westinghouse will almost certainly benefit with Russia’s Rosatom as its primary competitor. Following the invasion of Ukraine, many customers using Rosatom parts or services are looking to change providers – given sanctions, uncertainty, and concern over doing business with Russia. Finally, Cameco will become a vertically integrated entity, and it will be able to leverage Brookfield’s clean energy expertise too.

Though the strategic rationale of the deal makes sense, the market was not impressed. This is because Cameco funded the deal in part by issuing 34.1 million shares at $21.95 a share, for proceeds of $747.6-million. That was well below the trading price of $36 before the deal was done. While doing this preserves the balance sheet’s strength, it dilutes shareholders, and the lowly price indicates that Cameco owners were getting the short end of the stick. Nevertheless, this deal will grow sales over time, improve the top line’s consistency, and diversify the enterprise.

For our part, though, we are now happy to watch from the sidelines, reflect on our gains, and seek out new dogs on which to place a bet.