Cameco Corporation: The Bear Case From a Bull

Cameco Corporation (NYSE: CCJ) is the world's largest pure-play uranium miner. That hasn't been a great business to be in lately, but the outlook for uranium appears pretty enticing. For aggressive investors, Cameco's nearly 80% price decline over the past decade could be a huge buying opportunity. But what if the bull case doesn't pan out? While I'm optimistic, here's what could go wrong from a bull's perspective.

It's been tough

The first thing to note about Cameco and uranium is that the miner has actually managed to weather a deep industry downturn pretty well. To give you a feel for the pain, uranium prices hit a 12-year low in 2016. But last year was the only year of the last 10 that the company dipped into the red. And that $0.16 per share loss was largely driven by one-time charges to adjust the business to the difficult market environment.    

Image source: Getty Images.

So even Cameco will tell you times have been tough. The outlook, however, remains bright. That's because of increasing demand for power and the increasing preference for carbon-free energy sources. In fact, there are over 50 nuclear reactors being built right now. That should help to soak up the oversupply in the uranium market today. Add in Japan's slow march toward restarting nuclear power plants shut after the Fukushima disaster and there's even more reason to be positive.    

In fact, if you are a uranium bull, Cameco could be a great buy today. But before you jump in, you might want to think like a bear.

A dour view of things

For example, look at Cameco's impressive streak of profits in the face of a deep fall in the price of uranium. A big reason for that is the company's use of long-term contracts. It's a very big deal. The company's realized price for uranium in 2016 was 60% higher than the average spot price for the year. Those contracts simply won't last forever. If demand doesn't pick up before its current contracts expire, it will be forced to sell on the spot market at much lower prices.    

CCJ data by YCharts.

Demand growth is going to be important. Those 50 new plants being built and Japan's push to restart its nuclear fleet are big positives. But there are plants being shuttered, too. For example, after Fukushima ocurred, Germany swore off nuclear power.It's in the process of phasing nuclear out completely with little to stop the process because there's virtually no support for nuclear in the country. Japan is feeling the heat of negative public opinion, too, which is one reason why the restarting process is taking so long. And never forget that just because someone says they are going to build a nuclear power plant doesn't mean that they will. In the end, nuclear has a bad image and that could easily leave demand weaker than expected today.    

Uranium prices, however, are a mix of supply and demand. And supply could be a bigger problem than you think. Cameco pulled back production in 2016 by 5% and is likely to rein production in even more this year. But money-losing Denison Mines and NexGen Energy Ltd. (NYSEMKT: NXE) are both working to develop new uranium mines from the ground up. In fact, NexGen could end up developing Canada's largest uranium deposit. That means that even as Cameco is reducing production, new sources of uranium are looming on the horizon that could leave the nuclear power industry with more than enough supply to keep uranium prices low.  

Food for thought

I tend to be an optimist, so I believe that carbon-free nuclear power will continue to be an important and growing part of the world's power grid. That, in turn, will lead to higher prices for uranium as supply and demand balance out. I'm also of the opinion that Cameco's management team will deftly handle whatever the industry dishes out.

But that doesn't mean you should go in blind to what could go wrong. A few of the big ones are Cameco's contracts rolling off before it has a chance to replace them, the potential for continued weak uranium demand, and new uranium supplies creating a headwind to higher commodity prices. Even if you're an optimist like me, these are issues you should be keeping an eye on, just in case.

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Reuben Brewer has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

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