The only significant commercial use for U3O8 is as a fuel for nuclear power plants for the generation of electricity. Through the process of nuclear fission, the uranium isotope U-235 can undergo a nuclear reaction whereby its nucleus is split into smaller particles. Nuclear fission releases significant amounts of energy, creating heat to generate steam to spin a turbine, and is the basis of power generation in the nuclear industry.
Uranium has other commercial uses in the fields of medical diagnosis and other industries, but these markets are very small in terms of volume. Uranium is also used as a feedstock for over 200 private nuclear reactors, which are operated for research purposes and for the production of isotopes for medical and industrial end uses.
Uranium Production Process
The initial step in the process of preparing uranium for use in a nuclear reactor is the mining and upgrading of the ore in a uranium processing facility to produce uranium concentrates containing 80-90% U3O8. Uranium concentrates are priced and sold based on the U3O8 content.
The second step takes place at licensed uranium conversion facilities where U3O8 is converted to UF6 (or to UO2 for Candu type reactors). Above 56 degrees Celsius, UF6 is a gas and is in a suitable form to be enriched to produce fuel for the majority of reactors. Following the production of UF6, enrichment and fuel fabrication are the next steps before the nuclear fuel is ready for loading into a nuclear reactor.
Uranium Industry Overview
In fiscal 2017, the uranium industry continued to face challenges as uranium prices endured their sixth consecutive year of bear market conditions, which emerged following the Fukushima incident in March 2011. The uranium spot price dropped 44% during the fiscal year, starting out at US$32.15 per pound U3O8 at the beginning of the fiscal year, hitting a 12-year low of US$18.00 per pound U3O8 in November 2016 and recovering slightly to US$22.25 per pound U3O8 at fiscal 2017 year end in February 2017.
The depth and breadth of this uranium market downturn has finally begun to take a meaningful toll on the production side of the supply and demand equation, with production cutbacks becoming the norm as higher priced legacy long term contracts begin to fall off. Uranium prices in the low US$20.00 per pound U3O8 range are unlikely to be sustainable, given that the all-in production costs of the lowest cost producing mines, as reported by UxC, are higher than the current depressed price level. Further, the current price environment fails to incentivize the majority of undeveloped uranium projects towards construction.
The sustained low uranium price levels have persisted despite positive developments on the demand side during calendar 2016. Per the U.S. Energy Information Administration and American Nuclear Society, 2015 and 2016 have seen more new nuclear capacity additions to the global electricity grid than any other years in the past 25 year period. Nuclear energy continues to expand globally due to its ability to deliver large amounts of reliable and constant baseload energy, without carbon emissions or air pollution, at competitive generating costs compared to alternative forms of electricity.
Uranium Demand -- Nuclear Energy Growth
Ten nuclear reactors were added to the global grid during the 2016 calendar year, exceeding the mark set in 2015 for the highest rate of growth of nuclear power capacities in the past 25 years. The World Nuclear Association ("WNA") reports that 447 reactors are operable in 30 countries as of March 2017. These reactors generate 392 gigawatts of electricity and supply over 11.5% of the world's electrical requirements. Currently, 59 nuclear reactors are under construction in 14 countries with the principal drivers of this expansion being China (21), Russia (7), India (5), the USA (4), and the United Arab Emirates ("UAE") (4). Additionally, based on the most recent statistics from the WNA, there are a total of 164 reactors that are either on order or planned, and a further 350 reactors currently proposed to be built in the coming years. China continues to be a leader in this growth story, expanding from the currently installed 31 gigawatts of capacity from 30 reactors to close to 100 gigawatts within 10 years, which will exceed the currently installed U.S. capacity.
The Chinese government has increased its emphasis on nuclear energy as a way to deliver vast amounts of electricity without adding to the severe crisis-level air pollution and carbon emission conditions that exist in China's major cities. As a case in point, in 2017, China is expected to add five nuclear units to the grid and is expected to break ground on an additional eight reactors. New nuclear countries, such as the UAE, continue to make progress in their new build programs -- most notable are the four new South Korean-built units at the Barakah site in Abu Dhabi, which are all under budget and on schedule to be producing electricity by 2020. Many of the established nuclear markets are also committed to building and operating new nuclear energy stations, like the United Kingdom, where the government's current energy policy calls for a doubling of the installed capacity in the coming years through cooperation with French and Chinese partners.
The United States has seen challenges to its growth plans, particularly in de-regulated markets, from highly subsidized renewables and sustained low natural gas prices; however, recently there have been positive developments towards the recognition of the value of nuclear energy in the overall energy mix, with its fuel cost advantages, grid stability, reliable 24/7 supply, 95% capacity factors, and clean air and carbon avoidance attributes. A number of states have introduced legislation, or are considering similar steps, to ensure the preservation of nuclear energy as a key contributor of clean, baseload energy to their grids. In the regulated markets of the Southeast, four new large reactors are under construction in South Carolina and Georgia, which, despite construction challenges inherent in projects of this massive scope, will be the energy cornerstones of their service territories for many decades into the future. Furthermore, throughout the United States, all existing nuclear reactors have received, or are applying for, license extensions that will add 20-40 years to their operating lives.
Finally, the Japanese recovery, while slow and deliberate, now has 12 units approved by regulators for restart and as many as seven reactors could be back on-line by the end of 2017. Although slower than expected -- six years having elapsed from the events of Fukushima -- such a development would be viewed as a positive development for both market fundamentals and sentiment in the uranium industry.
Significant (and Growing) Uncommitted Reactor Requirements
The world's fleet of operating reactors, and those nearing construction completion, are now expected to generate a cumulative fuel requirement of 174 million pounds of U3O8 in 2017. The fuel requirement level is forecasted to grow at an average rate of 2% to 2.5% per year from the end of 2016 through 2030 according to UxC. While the demand for uranium is fairly steady and predictable, the procurement decisions of utility companies can vary based on the level of current contract coverage, existing inventories, forecasts of future prices and risk tolerance. The previous contracting cycle, brought on by uranium price spikes in 2007 and 2010, resulted in utilities rushing to contract at higher prices and for very long terms. While these old contracts are expiring, the utilities have not been moving to replace these contracts and the forward coverage of utilities have therefore fallen appreciably, resulting in uncommitted needs continuously building. UxC reports that these unfilled needs may total just under one billion pounds of U3O8 over the coming ten years and over 81% of expected reactor requirements are uncovered by 2027.
Primary Uranium Production -- Rationalization Finally Underway
According to UxC, in their Uranium Market Outlook -- Q1 2017 (the "Q1 Outlook"), global uranium production amounted to 163 million pounds in the year ended December 2016. While this continued the trend of recent annual uranium production increases in the face of low prices, the rate of increase has finally slowed and would support observations that a "peaking" of mine production is occurring. A number of high profile production cutbacks have been announced, including Cameco's Saskatchewan and U.S. operations, Paladin's Namibian Langer Heinrich mine and Kazakhstan's 10% reduction in output, all pointing in that direction. The 10% reduction in output from Kazakhstan is particularly significant, as Kazakhstan is the world's largest producer of uranium, accounting for 40% of global mine supplies, and signals a disciplined and responsible market approach. Going forward, it is reasonable to expect further global production cutbacks as higher priced legacy supply contracts, signed in previous cycles, are expiring and ceasing to provide protection for sources of higher-cost production. Furthermore, the incentive price for meaningful new uranium production (new developments or mine expansions) to come to the market is estimated by BMO, in their March 2017 uranium market outlook, to be higher than US$60 per pound U3O8. This, and the prolonged licensing and permitting process required to bring on new production (as much as 10 years or more for a major conventional mine/mill complex), make for an interesting situation as the uranium market is expected to move into a near term supply deficit amidst higher contracting volumes.
Secondary Supplies -- Still Meaningful, But Insufficient to Meet the Supply Gap Going Forward
The uranium market is unique among commodities, where since the late 1980's, the industry has consumed more uranium annually than it produces from global mine sources, with a combined production shortfall of approximately 1.4 billion pounds of U3O8 from 1990 through 2015. This is due to the availability of secondary uranium supplies and has been the basis of the secondary supply-driven market that has prevailed for decades. However, while these sources of supply are still significant, they have finally begun to diminish in importance, and the shift to a production-driven market is occurring. The end of the U.S./Russian highly-enriched uranium deal (the landmark nuclear weapons dismantlement initiative), in 2013, removed approximately 24 million pounds annually from the market, which disproportionately fell on the U.S. market. While this significant development was somewhat offset by the effects of Fukushima, it is an example of the finite and diminishing nature of secondary supplies in a rising demand environment. The curtailment of older-generation enrichment centrifuges, coupled with the renewed demand for enrichment services, is also expected to result in reduced capacity available for so-called "underfeeding" of enrichment plants which has added to secondary natural uranium supplies. Additionally, the U.S. Government (Department of Energy) inventory sales, which historically totaled 5 to 8 million pounds per year, continue to be opposed by the domestic industry and compromise legislation has been introduced to cap the amount of U.S. Department of Energy uranium that can be sold going forward. The U.S. Secretary of Energy has recently reduced its guidance for the amount of government inventory sales expected in each of 2017 and 2018 by over 1 million pounds U3O8 per year.
Uranium Market Developments in 2017 -- Turning the Corner?
In the early part of calendar 2017, uranium has bucked the trend of other commodities and spot prices have increased on the improved fundamentals noted above, not the least of which was the Kazakhstan production cut announcement in early January 2017. The spot price climbed from US$20.50 per pound U3O8 at the start of 2017 to a peak of US$26.50 per pound U3O8 in mid-February 2017. Since February, the price has retreated to US$21.50 per pound U3O8 as of May 15, 2017, however still remains up 5% for the year. While these price developments have been encouraging, much of the market activity appears to have been a result of speculative purchases by traders, and not utility procurement for reactor needs. This leads the discussion to the key catalyst for a sustained recovery of uranium prices over the course of 2017, which is the resumption of more robust utility procurement levels. The market is beginning to see increased off-market and public tenders from end-users (including meaningful demand from non-US utilities), and market observers will watch to see if this develops into a trend for the rest of the year. As noted above, the substantial level of uncommitted uranium requirements in the coming years would point to a future procurement cycle that may test the supply dynamics of an industry that has failed to be incentivized to develop the next generation of uranium mines.