In February 2010, U308 (UWE CN) and Mega Uranium (MGA CN) entered into a transaction wherein U308 purchased Mega's South American exploration properties and received $4mln cash in exchange for 30.6mln U308 shares. Mega entered into this transaction to simplify its structure as the company focuses on its major, near-production Australian assets and dividended the U308 shares to its shareholders (1 U308 share for every 8 shares of MGA owned) with distribution on April 26th. I believe this transaction has the attractive elements of material selling pressure from Mega shareholders  combined with a potentially transformative transaction for U308 and could provide for significant upside from the current depressed share price.

Company Overview
U308 is a junior uranium exploration company (no production) with operations in South America.  Prior to the Mega transaction, U308's efforts were focused on the Kurupung Batholith in Guyana where the company had 7mln lbs of NI 43-101 compliant reserves with the potential for material reserve growth (near term target ~15mln lbs, longer-term target 30-50mln lbs).  U308 has now added Mega's Berlin project in Columbia with 38mln of historical reserves which need to be reproved and Laguna Salada in Argentina which has 5-10mln lbs of estimated reserves which the company hopes to make compliant by late 2010/early 2011

Capital Structure
Before the transaction, U308 had 23.7mln diluted shares and now has 53.6mln shares pro-forma for the Mega shares. At UWE's current price of CAD 0.23, the company would have a CAD 12mln market cap and 7mln of net cash for a CAD 5mln EV.

Why Mispriced/Interesting
I believe there has been material selling pressure on U308 due to this transaction which has left the company trading at an inexpensive valuation.  Firstly, Mega's non-Canadian shareholders (~10% of Mega shareholders or 3mln shares) could not receive the shares of U308 in the distribution and so the company was forced to sell their shares after the distribution in the market.  Given that U308's average daily volume has been ~150k shares since 4/26, this forced selling is likely to have materially pressured the stock. Also, Mega shareholders may have be sellers of their U308 shares as the distribution was small relative to their Mega shareholding and represented assets that were not considered very important to the Mega story. Mega shareholders and analysts have mainly been focused on the company's large Lake Maitland project in Australia and have generally not focused significantly on the company's other assets. Finally, there could be small index selling as well.  Since the closing of the transaction, U308's share price has collapsed from CAD 0.44 to CAD 0.23 currently and the volume has been materially higher than U308's volume before the transaction was announced in February.

The action of insiders here is also potentially attractive.  Mega's CEO Sheldon Inwentash already owned 11% of U308 through his investment firm Pinetree Capital which is a natural resources focused investment company.  In this transaction, he and two other Mega executives will join U308's board suggesting that they are not using this transaction as a chance to dump bad assets and believe in the future of U308.  Also, in the last week, Keith Barron, a U308 board member, purchased 282k shares at CAD 0.22.

Finally, this transaction has the potential to be transformative for U308.  Buying these Mega assets significantly increases their potential reserves and provides them needed capital to continue to drill out their prospects.  In this transaction, U308 will add ~45mln lbs of reasonably low-risk (38mln historical) non-compliant reserves which could dramatically increase the company's currently reserve base as they are proved out.  U308 also doubled the cash on its balance sheet, increasing their ability to complete their exploration programs and removing what had been a material overhang from the stock.

Upside
The upside here is uncertain and difficult to predict with any precision but could be material if the company continues to prove out its reserves.  U308 is working to prove out the Kurupung (current 7mln compliant, conceptual 30-50mln), reprove Berlin (38mln historical) and prove out Laguna Salada.  According to street analysts, junior miners are generally valued between $2-$3 per LB.   Valuing 15mln LBs  of conceptual reserves at Kurupung at $2 per LB and valuing the conceptual assets at Berlin and Laguna Salada at $1 per LB (haircut for earlier stage) would value U308's assets at ~CAD 1.50 per share.  This back of the envelope estimate is merely meant to demonstrate the potential for multiples of upside at U308 if things work out and should under no means be considered any kind of price target or precise estimate of U308's value.  I think rough estimates here are much safer than any kind of attempt at false precision.

Upside could also come from a recovery of uranium prices (see MPK's 3/17 report on U CN for the bull case on uranium) which would clearly boost the prices of all the junior miners (U308 was a $5 stock in 2007 when uranium prices were 3x current).

Downside
One way of looking at downside is to assume the company fails in its exploration and is forced to sell its compliant reserves. If we value only Kurupung's 7mln compliant reserves at $1/lb instead of $2, then Kurupung would be worth $0.14 per U308 share assuming no value for other assets (efforts to prove out reserves fail) or cash on the balance sheet (assume it is wasted on efforts to prove).

Another way to think about the downside is that prior to the transaction, U308 traded at ~$0.44 per share, suggesting that the market valued U308s assets at CAD 10mln. Combining that value with the $4mln in cash that U308 received from Mega provides an adjusted value of $14mln or $0.26 per share, while providing 0 value for the other assets received from Mega.  

Risks
Realistically though, the longer-term downside in U308 is CAD 0. U308 is a speculative, junior miner that is burning cash and has no producing assets.  If the company's drilling plans fail over the next few years, total loss on the equity could be completely possible.  

 

An equity raise is also quite possible as the company will probably need more capital to continue its exploration plans so investors could face some dilution.

Another major problem here share liquidity which is very low. The company plans to more aggressively market itself post this transaction and plans to put effort into drumming up interest in the stock.

 

Success in proving out reserves