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ERA: Hope for a new ERA?

Energy Resources of Australia (ASX: ERA) shares have risen 28.5 per cent in the last five days and up 10.7 per cent in today’s trading. Broker’s Merrill Lynch and UBS both upgraded the stock to “Buy”, on the belief that the company had finally addressed its key issues of water, traditional land owner relations, financial viability and growth.

The miner and owner of the Ranger mine and Jabiluka uranium deposit in the Northern Territory, recently raised $500m via a rights issue to fund capital expenditure from 2012 to 2014. The company is spending over $200m on a Brine Concentrator, which is used to treat process water, and expects it to be fully operational in the second half of 2013.

Being in the middle of a world heritage site, and on indigenous owned land, the company must go to incredible lengths to minimise the damage mining causes to the surrounding areas. Kakadu National Park surrounds the Ranger mine, so the company has to be especially careful with what happens to toxic process water.

More problems

Unfortunately, nature has taken a hand in ERA’s future, with wet weather playing havoc with production in the last two years.

In fact, the past decade has been the wettest on record, with five of the six highest wet seasons occurring since 1999. Water and rainfall is a major issue for the Ranger mine. It’s now over 30 years old, and beginning to show its age. ERA had to cease production of uranium from 28th January to 15th June 2011 to contain the volume of water that needed to be processed, thanks to the heavy rains.

As a result, the company had to purchase $244m of uranium to meet its contracts, resulting in a net loss after tax for the 2011 financial year of $153.6m.

So far this year, there has been significant rainfall, although about half of what was received in 2011. ERA still has 1.2 gigalitres of water in Pit 3 of the Ranger mine, which won’t be pumped dry until July 2012.

Falling production

Production has been steadily falling over the past five years from 5,412 tonnes in 2007 to 2,641 tonnes in 2011. Production for Q1 2012 was predominantly from stockpiles and totalled 612 tonnes. The company has forecast to produce between 3,200 and 3,700 tonnes of uranium in 2012, as the company continues to mill stockpiles.

Another issue is that the Ranger open-pit is running out of uranium and the company is embarking on a plan to mine underground, which is a whole new ball game. The problem for ERA, and its 70% major shareholder, Rio Tinto Limited (ASX: RIO) is that ERA’s other uranium project, Jabiluka, is currently being run on care and maintenance, as the indigenous owners of the land have objected to the mine.  I don’t see this changing in the near future, if ever.

ERA doesn’t have many options available, but to start underground mining at Ranger.

Uranium prices & strong Australian dollar

At the start of 2011, the short term uranium price was at US$72, but following the Fukushima accident, the price fell to US$49, before rising above US$55 in the latter half of the year. The current short term price is hovering around US$51.

ERA’s strategy has been to focus on long term contracts, but nuclear energy remains a controversial subject, especially after the Japanese accident. This has consequences for ERA and the production of uranium, especially if the uranium price continues to be weak, or falls back again.

The strong Australian dollar is also having an effect on profits, with uranium sales in US dollars.

The Foolish bottom line

With nature seemingly against it, low uranium prices, the high Australian dollar and running out of uranium and other options, ERA is a stock to avoid. Investors would be better off with Rio Tinto shares, to mitigate the headwinds ERA still faces.

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Motley Fool contributor Mike King doesn’t own shares in ERA or Rio. The Motley Fool’s purpose is to educate, amuse and enrich investors. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson. Click here to be enlightened by The Motley Fool’s disclosure policy.

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