EnCore Energy (NYSE: EU / TSXV: EU)

A leading US uranium ISR producer

EnCore Energy (EU) is a uranium producer that has pieced together an enviable portfolio of in-situ recovery (ISR) amenable properties in the US over the past couple of years. I’ve held a small % of EU in my portfolio for some time, but have avoided adding to the position because of the high frequency of acquisitions that made for a messy story. However, after the closing of the Alta Mesa acquisition earlier this year, I believe the company has finally reached a point where it can take a break from M&A and offer investors a more focused story with a clear pathway to production over a well defined timeframe.

M&A History:

• September 2020: Acquisition of Westwater Resources including two fully licensed ISR uranium processing plants (Rosita & Kingsville Dome) as well as mineral leases in Texas and mineral rights in New Mexico.

• September 2021: Acquisition of Azarga Uranium for C$140mm in an all-stock deal. The acquisition included two advanced stage projects, Dewey Burdock in South Dakota (the ‘crown jewel’ asset) and Gas Hills in Wyoming. Both assets have advanced through a feasibility study.

• November 2022: Acquisition of fully-licensed Alta Mesa ISR processing facility and a large land package of 200K acres in Texas. Notably, the current CEO of EU Paul Goranson, built and ran this plant during his tenure at Mestena Uranium (acquired by Energy Fuels in 2016) and is therefore very familiar with the facility and the blue-sky potential of the land package.

As a former M&A banker, I’m skeptical of companies that are liberal in deploying capital towards acquisitions; M&A transactions are rarely as value / ROIC accretive as management would like shareholders to believe. But what I like about EU is that their acquisitions are strategic and within their core business model: ISR production + exploration upside. This is a business model that the current management team has deep experience with given their professional history.

Through the above string of acquisitions, EU owns 3 of the 4 fully licensed uranium processing plants in Texas and 3 of the 11 licensed plants in the US. This makes EU strategically important in light of uranium market bifurcation and the US government / DOE’s recent focus on kick-starting domestic uranium production. In fact, EU is one of only five qualified US mining companies approved to sell domestically-sourced uranium to the US government’s Uranium Reserve Program, having been awarded a contract to sell 100K lbs of U3O8 to US government at a price of $70.50/lb.

With its current portfolio of assets, EU is aiming to produce 3mm lbs of uranium annually by 2026 and 5mm lbs by 2028. This would be composed of 3mm lbs/yr coming from the Texas properties, 1mm lbs/yr from Dewey Burdock / South Dakota and 1mm lbs/ yr from Gas Hills / Wyoming. EU has refurbished the Rosita processing facility and production will start as early as Q3 / Q4 of this year, but at a modest 200K lbs/yr rate until the start of Alta Mesa production in 2024. In May, the company released an update stating that the Alta Mesa plant upgrades and refurbishments were “ahead of schedule and under budget”. Alta Mesa produced 4.6mm lbs of U3O8 over 2005 - 2013 and the mill has 1.5mm lbs / yr production capacity. 2024 production will start at 500K lbs / yr rate.

Valuation

At the current share price of ~US$2.5, EU trades at a market capitalization of ~US$360mm which is a modest valuation for a US-based company that could be a 3 - 5mm lbs/yr producer in a couple of years. At a US$80 / lb uranium price and a AISC of ~US$35, EU will be cash flowing ~13% of its current market cap for every 1mm lbs of U3O8 production. For comparison purposes, Paladin Energy, which is similar in size / scale trades at a A$2.5bn / US$1.7bn market cap (though EU is ~2 years behind Paladin’s production of 4.5mm lbs/yr).

On an NPV basis, post-tax NPV10% for Alta Mesa and Dewey Burdock is ~US$2.3 / sh at US$70 / lb uranium price and ~US$3 / sh at US$80 / lb. Valuing Gas Hills and Crownpoint / Hosta Butte at $1.5 - 2.5 / lb M&I resource and accounting for Rosita processing plant adds another ~US$0.4 / sh in value. Adjusting for cash and debt, one can triangulate to an NPV in the US$3 - $3.5 / share. One can also justify a 1.05 - 1.1x NAV multiple given the favorable jurisdiction (all assets located in the US) and accelerated timeline to production.

Of course, this NPV calculation doesn’t account for the significant ‘blue sky’ / exploration potential on EU’s properties. Texas is the most progressive permitting and production jurisdiction for uranium in the US and EU owns 200K acres of private land in South Texas, with exploration opportunities along 52 miles of stacked uranium roll-front of which only 5 miles have been explored. EU also holds a ‘checkerboard’ position of 300K acres of mineral rights in New Mexico’s Grants Uranium District (one of the largest in the world).

EU currently has 93.4mm lbs of resource in the M&I category (“measured and indicated”), 25.8mm lbs in the inferred category and 68.4mm lbs in the historic category. Based on the current share price EU trades at a EV / lb of ~US$3.5 (indicated + inferred). For sake of comparison, Denison Mines, another North American ISR producer, trades at ~US$8.5 / lb, and during the height of prior bull market, traded at more than double the current multiple. Denison is a Tier 1 deposit (vs. EU being Tier 2) with a much lower AISC (~US$16) so a higher multiple is justified, but the point is that there is ample room for multiple expansion as the bull market progresses. It’s also important to note that many Tier 1 deposits like NexGen and Denison won’t be producing until 2027 - 2028, and given the rapid tightening of the spot market and elevated geopolitical risk, investors should ascribe a premium to more near-term production in safe / friendly jurisdictions.

Capital Structure / Share Issuance Considerations

One of the major overhangs on EU stock over the last couple of years has been the consistent share issuance associated with management’s M&A strategy. The Azarga Uranium deal was structured as an all-stock deal with EU issuing 0.375 shares for every share of Azarga. This created selling pressure on the stock in 2022 as Azarga shareholders looked to monetize their position in EU stock.

The Alta Mesa acquisition was funded with $60mm cash and $60mm vendor take back convertible note. The cash portion of the purchase price was funded with a C$70mm bought equity deal at a share price of C$3.00. Investors were also offered a warrant struck at C$3.75 for each common share they subscribed to. The warrants expire in February 2026. The convertible note has a two year maturity, 8% interest rate and is convertible into EU stock at the election of the holder at a price of US$2.91 per share.

Learning from the Azarga transaction, EU managed to negotiate with the seller (Energy Fuels) to get them to agree to not to transact in EU common shares received from converting the notes (including hedging and short sales), with exceptions for sale transactions of up to US$10 mm in value in any 30-day period, block trades and underwritten distributions. Energy Fuels also agreed to a standard standstill provision restricting additional acquisition of EU shares.

The current share structure includes 144mm shares outstanding, 37.2mm warrants, 9.3mm options and 20.6mm shares underlying the US$60mm convertible promissory note. On June 26, the company entered into an at-the-market (ATM) equity offering agreement with its underwriters, allowing it to issue shares for up to US$70mm gross proceeds. I like the ATM offering construct better than a private placement for two reasons: 1/ EU won’t have to offer warrants as consideration 2/ ATMs avoid pre-shorting that often occurs during private placement negotiations due to leaks.

As of June 30, 2023 the company had only US$0.5mm in cash and US$2.1mm in marketable securities, which means investors should expect continued share issuance this year for development of the company’s various properties. The good news is that EU is also exploring non-dilutive methods of financing, including non-core asset sales. On July 20th, EU completed the sale of Marques-Juan Tafoya Uranium Project to Anfield Energy for C$5mm in cash and 185mm in Anfield shares worth ~C$10mm at the current Anfield share price. It’s also worthwhile noting that the company has already entered into contracts for 2.9mm lbs to be delivered to various customers from 2023 - 2027 and also has an agreement to purchase 100K lbs of U3O8 at $49 / lb, which would result in a profit of close to US$1mm at current uranium spot prices.

Conclusion

• EU is in the process of becoming a leading US-based ISR uranium producer

• Stock price has been under pressure due to consistent M&A and share issuance, but the M&A strategy allows management to consolidate its core ISR + exploration strategy and will reward shareholders over the long-term

• With market bifurcation and geopolitical risks rising (See Global Atomic / Niger), western utilities will have to pay a premium to secure supplies from domestic producers like EU

• EU’s properties have large ‘blue sky’ / exploration potential not currently captured in valuation

• Management has extensive experience in the sector and with ISR in particular, including EU’s recently acquired Alta Mesa assets

• At the current market cap of <US$400mm, EU is attractively valued for an ISR producer with potential 5mm lb/ yr annual production and 120mm of indicated and inferred resources

  • NPV and comparable valuations suggests 50-100%+ upside, but investors should be aware that the company will need to continue issuing more shares to fund the balance of capex needs and therefore be opportunistic when building a position in the shares