Disclosure: Author has no formal or informal pecuniary interest in Mega Uranium. However, author has acquired hundreds of thousands of Mega Uranium [MGA.TO] shares in the past three weeks. This investment opportunity is very high risk and is not suitable for most investors. Always do your own due diligence and please consult an investment advisor.

Epstein

Mega Uranium Trading Absurdly Cheap, Even For a Uranium Stock!

First posted on AU-Wire.com. Follow Peter Epstein, CFA

Mega Uranium is trading at C$0.06/share with a market cap of C$16 million and zero debt. Mega’s valuation is wildly out of whack with its underlying asset value. On August 12th, Mega announced a deal to sell its Lake Maitland uranium project to Australian-listed Toro Energyfor 415 million newly issued shares of Toro Energy stock. The value of those shares today is C$34.7 million, (C$0.13/Mega Uranium share). NOTE: The AUD/CAD exchange rate = 0.995.

At the time of the announcement, Mega was trading at C$0.09/share. Within a few weeks it traded as high as C$0.11/share, giving it a market cap of C$29 million at the time. The market cap has fallen 45% in the past two months. By comparison, [UEX, Denison Mines, Laramide Resources, Macusani Yellowcake, Forum Uranium, Nexgen Energy, Forsys Metals and Kivalliq Energy] are down an average of about 23% over the same period. A simple explanation might be that the Toro transaction is falling apart, but the opposite is true. The deal has met all required conditions and is expected to close in November. Did Toro’s stock price collapse due to the deal’s implied 28% equity dilution? No, Toro traded at A$0.086 the day of the announcement and is at A$0.084 now. NOTE: The Australian dollar has recently strengthened vs. the Canadian dollar to the benefit of Mega holders

Undervalued, Underappreciated, Even For a Venture Exchange-Listed Stock…..

This is unusual, (or perhaps not, given the TSX market lately) the market cap of Mega Uranium is C$16 million, yet the value of the consideration being paid for Lake Maitland is C$34.7 million. Mega is trading at a 54% discount to the value of the Toro shares alone. Adding insult to Mega’s injury, the company owns a lot more than just Lake Maitland, which is being sold to Toro for approximately C$1.6/lb of uranium resource.

Investors in Mega at just C$0.06/share get ALL of Mega’s assets for FREE…. except 205 million of the company’s 415 million shares of Toro Energy

Mega owns equity stakes in a portfolio of 12 publicly-listed uranium companies that, marked-to-market, is worth ~C$10 million. Adding that to the value of the Toro shares, C$34.7 + C$10 = C$44.7 million, or C$0.167/share in real, tangible value. Therefore, Mega is trading at a 64% discount to the current value of its 28% stake in Toro & portfolio of publicly-listed, marketable securities…..But wait, there’s more.

Mega owns 17 million pounds of Indicated & Inferred uranium resources split between the, “Ben Lomond” and, “Georgetown” projects in Queensland, Australia. Ben Lomond boasts 10.7 million pounds at a weighted average grade of 0.25%, one of the highest grades outside of the Athabasca basin in Canada. Assuming a 50% haircut to the C$1.6/lb that Toro is paying for Lake Maitland pegs Mega’s 17 million Queensland pounds at C$13.5 million. C$44.7 million + C$13.5 million = C$58.2 million, or C$0.218/share.

Hard Tangible Assets, Liquid Assets, Non-Core Assets, Monetizable Assets

Mega owns a highly strategic, 25% project-level stake in an emerging Australian silver project with a maiden resource of 20 million ounces. Like so many other junior resource stocks, shares of the project’s 75% owner, Investigator Resources, have been demolished. Even at what appears to be an oversold level, Mega’s 25% stake is worth about C$5 million. Adding that C$5 million to the asset pile = C$63.2 million, or C$0.237/share. Next, Mega has a royalty on one of Paladin Energy’s major uranium mines in Namibia. This royalty is worth up to C$4.5 million based on the mine’s remaining reserve-life and a 5% discount factor. Hair-cutting that prospective valuation by two thirds adds another C$1.5 million, for a new total of $64.7 million.

Finally, Mega has an earn-in agreement with Cameco by which Cameco can earn into 70% of an Australian uranium project for C$4 million. Analysts believe Mega’s 30% stake could be worth up to C$5 million. Assuming this 30% interest is worth half that, or C$2.5 million, the grand total of Mega’s assets is C$67.2 million. That’s an implied price of C$0.252/share vs. the current price of C$0.06/share. Strangely, Mega Uranium is trading at roughly a 76% discount to its estimated asset value.

Talk about a margin for error…. If Mega’s stock were to double to C$0.12/share it would still be valued at close to a 50% discount to the sum of its parts!

Possible Reasons For ~76% Discount to Estimated Asset Value

1) fear of an imminent equity raise
2) Fear and loathing of reverse stock splits, “Rollbacks.”
3) risk of the Toro acquisition of Lake Maitland falling apart
4) risk that Mega’s portfolio of equity holdings, (including Toro) is substantially overvalued

Fear of Imminent Equity Raise

Of course, management does not wish to issue new shares at current depressed levels, in fact it is their least favored option. As described above, Mega has a number of attractive assets, one or more of which could be monetized. One capital raising scenario would be to conduct a Rights Offering in combination with modest asset sale(s). Assuming 10% equity dilution, the estimated per share valuation would fall from C$0.253 to C$0.23/share. That’s still almost quadruple the current share price.

The Dreaded, “Rollback” of Shares

I’m convinced that the announced 1 for 10 reverse split is weighing on Mega’s share price as well. If true, this is a good thing. Why? Because share consolidations that are not done in desperation to maintain a listing, provide investors with a compelling buying opportunity. Mega’s rollback is not a fundamental factor, it’s a temporary technical factor. Clearly, retail (non-professional) investors don’t like rollbacks no matter what the circumstances. However, the smart money buys shares that are technically oversold. That’s because the smart money has a time horizon of longer than a day or week! I believe that Mega’s market cap could increase 100%-300% within 6-18 months. Or 400%-500% in a uranium stock bull market. I place the odds of a 300%+ return in Mega Uranium at 10%. Note: Admittedly, appreciation of 200% or more would likely require a moderate rebound in the uranium price.

Deal Risk, Is the Lake Maitland Transaction at Risk of Failing?

Absolutely not. Shareholders Toro Energy overwhelmingly approved the Lake Maitland transaction. All required conditions have been met. Deal risk is close to zero. The transactions is expected to close within 2-3 weeks.

Market Risk of Portfolio of Uranium Company Equity Stakes, Including Toro Energy

While it’s important to be conservative when valuing a company, it’s possible to be overly conservative. Mega’s assets are already discounted due to depressed uranium fundamentals and extremely negative sentiment on TSX-listed stocks. Further, there’s no need to liquidate a large portion of the company’s assets, or liquidate anything in haste. However, as a valuation exercise, if one took a 25% discount to the publicly-listed portfolio holdings and applied a 50% haircut to the less liquid, non-mark-to-market assets, the valuation would fall from C$0.26 to C$0.17/share, still almost triple the current share price.

Taking these additional haircuts to asset values is not even necessary. Although I’ve conducted a simple sum-of-the-parts exercise, this is not a distressed liquidation analysis. There’s no debt, and mandatory funding requirements are minimal. Management is on track to cutting its quarterly cash burn to approximately $250k-$300k. Unlike depreciating assets like equipment and inventory, Mega’s equity portfolio could appreciate, perhaps by quite a lot. There’s a great deal of option value embedded in Mega’s current stock price.

Is Toro Energy Overvalued?

Toro Energy is the most advanced uranium project in Australia. It has strong community and shareholder support and could reach initial production within 2.5 years. Cap-ex to get the show on the road is manageable and the company believes it has access to project-level debt financing. Trading at an EV/LBS ratio of approximately $1.4, Toro’s valuation is largely in-line with global, near-term producers and Australian peers. Each 5% decline in Toro Energy’s stock price would impact valuation by about C$0.01/share.

Real, Tangible, Publicly-Listed Securities:

1) 415 million Toro Energy shares at A$0.084 = A$34.9 million = [C$34.7 million] – based on AUD/CAD exchange rate of 0.995.

2) 12 portfolio company equity stakes, the 4 largest; Nexgen Energy, Energy Fuels Inc, Mawson Resources & Macusani Yellowcake. [all 12 combined = ~C$10 million], Note: The Nexgen position alone = C$6.3 million. Nexgen is exploring in the Athabasca basin, adjacent to the very well known activity and highly successful drill holes of Alpha Minerals andFission Uranium. Nexgen has a market cap of ~C$30 million, while the soon to be merged Alpha and Fission will have a market cap of about C$400 million. Nexgen is about a year behind Alpha & Fission. If Nexgen hits some monster holes like its neighbors did last year, Nexgen stock could soar. Mega owns ~20% of Nexgen, a very strategic and potentially valuable stake if/when Nexgen becomes a prime takeover candidate.

Total Tangible, Publicly-Listed Assets = C$44.7 million = C$0.167/share.

Less Liquid, Non-Mark-to-Market Assets:

1) 2 Queensland, Australia uranium deposits totaling 17 million Indicated & Inferred pounds, 10.7 million of which are at a weighted average grade of 0.25%. [17 million lbs x C$0.80/lb = C$13.5 million] Note: C$0.80/lb metric is 50% of what Toro Energy is paying for Mega’s Lake Maitland project. While less advanced than Lake Maitland, Ben Lomond and Georgetown have higher ore grades, much higher in the case of Ben Lomond at 0.25%. A combined A$18 million has been invested in the two projects. Queensland is significantly closer [northeast Australia] to Asia than Lake Maitland/Toro Energy [southwest Australia], a meaningful shipping difference.

2) Highly strategic, 25% project-level interest in an Australian silver project, the Peterlumbo JV, 75% owned by Australian-listed Investigator Resources, worth [C$5 million] Note: based on the current Enterprise Value of Investigator Resources. The 25% interest in the Peterlumbo JV is on Investigator Resources’ flagship Paris silver prospect.

3) Fixed A$0.12/kg royalty on an established, long-life, Paladin Energy’s Langer Heinrich uranium mine in Namibia, [C$1.5 million] Note: About one-third of an indicative valuation provided by management.

4) Intent to Farm-out the, “Kintyre Rocks” uranium tenements in western Australia toCameco. Analysts estimate this asset at up to C$5 million, assuming a 50% haircut, valued at [C$2.5 million]. Cameco paid A$495 million for the main Kintyre resource, located near Mega’s property, in 2008.

Total Non-Mark-to-Market Assets = $22.5 million = C$0.085/share

Total Publicly-Listed & Non-Mark-to-Market Assets = C$67.2 million = C$0.252/share.

Conclusion

While Mega Uranium is trading at a massive valuation to its sum-of-the-parts valuation, it doesn’t fit a traditional conglomerate discount, nor is it too hard to value due to highly illiquid assets. Instead, Mega is an absurdly cheap stock that is wildly under-appreciated and oversold. Given a substantial margin for error, Mega is arguably a defensive way to get exposure to uranium. The risk/reward is quite compelling. If over time the valuation discount were to fall by half, from 76% to 38%, the stock price would rise to about C$0.16. I see this potentially happening within 6 months.

First posted on AU-Wire.com. Follow Peter Epstein, CFA