Ten Bagger

Silex: Fission for opportunity

A small Australian technology business could turn the nuclear industry on its head and, in doing so, could make investors rich.

By: Gaurav Sodhi
Reading Time: 10 mins
4.4 4.437 Votes

For investors attracted to the forgotten and forlorn, uranium is a seductive temptation. Prices have halved since the nuclear disaster in Fukushima (see Chart 1) yet nuclear power, promising colossal quantities of clean energy, remains attractive to power hungry economies.
We have no wish to invest in troubled miners with sketchy economics but there is a small Australian business that offers a cheap option on the growth of nuclear power without the diabolical risks of mining.
Silex Systems has developed a revolutionary method of enriching uranium. Although its potential is vast, enthusiasm for the stock isn’t. Silex’s share price is down 65% in the past year, a decline that has forced management into a restructure of the business.
Key Points

• Laser enrichment appears to work
• The enrichment market is currently depressed
• If it succeeds, Silex offers enormous upside

The restructure, alongside the slumping share price, are the reasons we’re upgrading the stock to a Speculative Buy. The proposition is as simple as the industry is complex. The Silex enrichment technology is cheaper to build, cheaper to run, more efficient and less complex than existing enrichment methods. Best of all, the company itself owns a royalty on the technology and doesn’t have to spend a cent on building expensive facilities.
Before we can explain the opportunity, though, we need a crash course in uranium enrichment.
How to enrich uranium

After it is mined, native uranium cannot simply be plugged into a power plant to generate energy. The concentration of a key isotope needs to increase. This is the function of enrichment, which separates unnecessary material from the required isotope to increase its concentration. Uranium is first turned into a gas and then enriched by one of two methods: gas diffusion or centrifuge separation.
With gas diffusion, gas is forced through barriers to physically separate isotopes. This is an energy intensive and complex process that must be repeated thousands of times to achieve the enrichment level demanded by power plants. First discovered in 1846, this is also an old technique.

​

Today, most of the world’s uranium is enriched using centrifuge technology which separates isotopes by spinning gas in tubes. Centrifuge separation, however, remains costly, capital intensive and, because thousands of centrifuges must work in parallel, complex.
Laser separation has been theorised for decades but only Silex’s technology has proven it can work. It uses lasers to preferentially excite different isotopes, giving them different electric charges and enabling them to be separated by an electric field.
The Silex method is a tightly held state secret, said to be the only privately held technology to be classified as such, which makes researching its efficacy hard. It is claimed to be up to 16 times more efficient that existing centrifuge technology. It is also said to be cheaper to run and less capital intensive. Table 1 highlights the key differences between the three enrichment methods.

	Process	Stages for 3% enrichment	Energy (Kwh/SWU)
1	Table 1: Comparing enrichment technologies ​ ​ ​
2	Diffusion	1,000+	2,000-3,000
3	Centrifuge	10+	50-300
4	SILEX	1	10 to 50

Changes in the enrichment market

The scientific merits of the technology aren’t in question. Economics is the great unknown, made more difficult by upheaval in the enrichment industry.
As late as 1995, diffusion plants captured 40% of the enrichment market but high costs have now made them obsolete. Every diffusion plant in the world is either closed or due to close. USEC, the American enrichment business that pioneered diffusion technology, is bankrupt.

​

Centrifuge plants have replaced diffusion capacity. The industry is now dominated by four firms that use centrifuge technology (see Chart 2). This has contributed to lower industry costs, which makes breaking into this business difficult because a competitor’s total cost must fall below the marginal costs of incumbents. We have no way of knowing how cheap laser enrichment will ultimately be, which means its success is uncertain.
That uncertainty is what makes this a speculative situation but it’s also why the potential payoff could be enormous.
What’s Silex worth?

Silex has licensed its technology to Global Laser Enrichment (GLE), a joint venture between GE, Hitachi and Cameco. GLE has the task of commercialising the technology. At the moment, GLE pays development costs and milestone payments to Silex.
Last year, the company received US$15m after a successful test and could receive another US$20m if a commercial plant is approved. Importantly, Silex doesn’t have to contribute any cash to the venture. It collects a perpetual royalty of between 7-12% (the range is based on meeting cost hurdles) of GLE’s revenues.
GLE has secured regulatory approval from the US Nuclear Regulatory Commission to produce enriched uranium and it has non-binding agreements from two of the largest American nuclear generators. The regulatory licence is equivalent to about 10% of global production and GLE could be earnings revenues by 2019.
The enrichment market is expected to be worth US$10bn by then so if GLE captures 10% of the market it could generate revenues of about US$1bn. This implies a royalty for Silex between US$70-120m annually. Treating this as a perpetuity and using a 10% discount rate, that would be worth between US$395 and US$680m in today’s money. That compares favourably to today’s market capitalisation of $153m. The company also has $70m in net cash.

​

That should be considered a base case. If laser enrichment is commercial, it is likely to capture larger market share over time. By 2030, the enrichment market is expected to grow to US$20bn as new reactors in China, India and the Middle East devour fuel. Some industry insiders think Silex may capture 50% of the enrichment market, which implies revenue for GLE of about US$10bn and a royalty to Silex of between US$700m and US$1.2bn annually. That royalty, in today’s dollars, would be worth between US$1.5 and US$2.6bn. If it works, Silex could be a tenbagger.
The roadmap

So what needs to happen for Silex to move from esoteric idea to tech success? We envisage three potential catalysts.
Firstly, today’s depressed enrichment price needs to improve. The Fukushima disaster meant that Japan, one of the largest enrichment markets, abandoned nuclear power. Today Japan has restarted just two reactors; 48 remain offline. This has created an oversupply of enrichment capacity that has lowered prices and profits for all (see Chart 3). Restarting the Japanese fleet will raise enrichment prices, improving the economics of laser enrichment.
Silex will only generate revenue if GLE does, which means the joint venture needs to build a commercial scale plant. GLE has regulatory approval, customer interest and technical surety. Certainty that GLE will construct a laser enrichment facility will increase the likelihood of Silex earning royalties.

	Column 1
0	Company restructure
1	Silex has long had several divisions of which enrichment was one. Three others – Solar Systems, Tanslucent and Chronologic – are involved in separate and unrelated technologies. Silex was trying, ambitiously, to commercialise all four technologies without a revenue base. Predictably, cash was drained and equity raised at regular intervals. That cycle is now likely to end. Silex plans to sell, licence or close its three unrelated business units. Doing so may not bring in much cash – at best, we think $10m might be raised – but cash outflow will slow significantly. Instead of spending more than $20m a year on research, Silex’s costs will fall to less than $5m. With cash preserved, the odds of success at its key laser enrichment business increase.

Finally, resumed growth in the nuclear industry is vital. Despite its technological benefits, Silex may find it hard to compete with incumbents whose production decisions depend on marginal cost when its own production decisions depend on total cost. Displacing existing capacity will prove tough, but additional capacity will more likely come from laser enrichment than incumbent technology.
Uncertain outcome

We can’t be sure any of those outcomes will eventuate but a company restructure (see breakout box) should limit cash outflow and increases the odds of success. Net cash of $70m may not grow much but, with minimal expenditure requirements, it doesn’t need to. The company already has the capacity to survive as it awaits royalty revenues. If that happens, the upside could be multiples of today's price.
If it doesn’t, investors will lose out. Either way, debt won’t kill the investment case. This is intelligent speculation at its best. With the share price down 71% since 27 Mar 13 (Hold – $3.19) we’re upgrading to SPECULATIVE BUY for 1% of a risk-tolerant portfolio.

For investors attracted to the forgotten and forlorn, uranium is a seductive temptation. Prices have halved since the nuclear disaster in Fukushima (see Chart 1) yet nuclear power, promising colossal quantities of clean energy, remains attractive to power hungry economies.
We have no wish to invest in troubled miners with sketchy economics but there is a small Australian business that offers a cheap option on the growth of nuclear power without the diabolical risks of mining.
Silex Systems has developed a revolutionary method of enriching uranium. Although its potential is vast, enthusiasm for the stock isn’t. Silex’s share price is down 65% in the past year, a decline that has forced management into a restructure of the business.
Key Points

• Laser enrichment appears to work
• The enrichment market is currently depressed
• If it succeeds, Silex offers enormous upside

The restructure, alongside the slumping share price, are the reasons we’re upgrading the stock to a Speculative Buy. The proposition is as simple as the industry is complex. The Silex enrichment technology is cheaper to build, cheaper to run, more efficient and less complex than existing enrichment methods. Best of all, the company itself owns a royalty on the technology and doesn’t have to spend a cent on building expensive facilities.
Before we can explain the opportunity, though, we need a crash course in uranium enrichment.
How to enrich uranium

After it is mined, native uranium cannot simply be plugged into a power plant to generate energy. The concentration of a key isotope needs to increase. This is the function of enrichment, which separates unnecessary material from the required isotope to increase its concentration. Uranium is first turned into a gas and then enriched by one of two methods: gas diffusion or centrifuge separation.
With gas diffusion, gas is forced through barriers to physically separate isotopes. This is an energy intensive and complex process that must be repeated thousands of times to achieve the enrichment level demanded by power plants. First discovered in 1846, this is also an old technique.

​

Today, most of the world’s uranium is enriched using centrifuge technology which separates isotopes by spinning gas in tubes. Centrifuge separation, however, remains costly, capital intensive and, because thousands of centrifuges must work in parallel, complex.
Laser separation has been theorised for decades but only Silex’s technology has proven it can work. It uses lasers to preferentially excite different isotopes, giving them different electric charges and enabling them to be separated by an electric field.
The Silex method is a tightly held state secret, said to be the only privately held technology to be classified as such, which makes researching its efficacy hard. It is claimed to be up to 16 times more efficient that existing centrifuge technology. It is also said to be cheaper to run and less capital intensive. Table 1 highlights the key differences between the three enrichment methods.

	Process	Stages for 3% enrichment	Energy (Kwh/SWU)
1	Table 1: Comparing enrichment technologies ​ ​ ​
2	Diffusion	1,000+	2,000-3,000
3	Centrifuge	10+	50-300
4	SILEX	1	10 to 50

Changes in the enrichment market

The scientific merits of the technology aren’t in question. Economics is the great unknown, made more difficult by upheaval in the enrichment industry.
As late as 1995, diffusion plants captured 40% of the enrichment market but high costs have now made them obsolete. Every diffusion plant in the world is either closed or due to close. USEC, the American enrichment business that pioneered diffusion technology, is bankrupt.

​

Centrifuge plants have replaced diffusion capacity. The industry is now dominated by four firms that use centrifuge technology (see Chart 2). This has contributed to lower industry costs, which makes breaking into this business difficult because a competitor’s total cost must fall below the marginal costs of incumbents. We have no way of knowing how cheap laser enrichment will ultimately be, which means its success is uncertain.
That uncertainty is what makes this a speculative situation but it’s also why the potential payoff could be enormous.
What’s Silex worth?

Silex has licensed its technology to Global Laser Enrichment (GLE), a joint venture between GE, Hitachi and Cameco. GLE has the task of commercialising the technology. At the moment, GLE pays development costs and milestone payments to Silex.
Last year, the company received US$15m after a successful test and could receive another US$20m if a commercial plant is approved. Importantly, Silex doesn’t have to contribute any cash to the venture. It collects a perpetual royalty of between 7-12% (the range is based on meeting cost hurdles) of GLE’s revenues.
GLE has secured regulatory approval from the US Nuclear Regulatory Commission to produce enriched uranium and it has non-binding agreements from two of the largest American nuclear generators. The regulatory licence is equivalent to about 10% of global production and GLE could be earnings revenues by 2019.
The enrichment market is expected to be worth US$10bn by then so if GLE captures 10% of the market it could generate revenues of about US$1bn. This implies a royalty for Silex between US$70-120m annually. Treating this as a perpetuity and using a 10% discount rate, that would be worth between US$395 and US$680m in today’s money. That compares favourably to today’s market capitalisation of $153m. The company also has $70m in net cash.

​

That should be considered a base case. If laser enrichment is commercial, it is likely to capture larger market share over time. By 2030, the enrichment market is expected to grow to US$20bn as new reactors in China, India and the Middle East devour fuel. Some industry insiders think Silex may capture 50% of the enrichment market, which implies revenue for GLE of about US$10bn and a royalty to Silex of between US$700m and US$1.2bn annually. That royalty, in today’s dollars, would be worth between US$1.5 and US$2.6bn. If it works, Silex could be a tenbagger.
The roadmap

So what needs to happen for Silex to move from esoteric idea to tech success? We envisage three potential catalysts.
Firstly, today’s depressed enrichment price needs to improve. The Fukushima disaster meant that Japan, one of the largest enrichment markets, abandoned nuclear power. Today Japan has restarted just two reactors; 48 remain offline. This has created an oversupply of enrichment capacity that has lowered prices and profits for all (see Chart 3). Restarting the Japanese fleet will raise enrichment prices, improving the economics of laser enrichment.
Silex will only generate revenue if GLE does, which means the joint venture needs to build a commercial scale plant. GLE has regulatory approval, customer interest and technical surety. Certainty that GLE will construct a laser enrichment facility will increase the likelihood of Silex earning royalties.

	Column 1
0	Company restructure
1	Silex has long had several divisions of which enrichment was one. Three others – Solar Systems, Tanslucent and Chronologic – are involved in separate and unrelated technologies. Silex was trying, ambitiously, to commercialise all four technologies without a revenue base. Predictably, cash was drained and equity raised at regular intervals. That cycle is now likely to end. Silex plans to sell, licence or close its three unrelated business units. Doing so may not bring in much cash – at best, we think $10m might be raised – but cash outflow will slow significantly. Instead of spending more than $20m a year on research, Silex’s costs will fall to less than $5m. With cash preserved, the odds of success at its key laser enrichment business increase.

Finally, resumed growth in the nuclear industry is vital. Despite its technological benefits, Silex may find it hard to compete with incumbents whose production decisions depend on marginal cost when its own production decisions depend on total cost. Displacing existing capacity will prove tough, but additional capacity will more likely come from laser enrichment than incumbent technology.
Uncertain outcome

We can’t be sure any of those outcomes will eventuate but a company restructure (see breakout box) should limit cash outflow and increases the odds of success. Net cash of $70m may not grow much but, with minimal expenditure requirements, it doesn’t need to. The company already has the capacity to survive as it awaits royalty revenues. If that happens, the upside could be multiples of today's price.
If it doesn’t, investors will lose out. Either way, debt won’t kill the investment case. This is intelligent speculation at its best. With the share price down 71% since 27 Mar 13 (Hold – $3.19) we’re upgrading to SPECULATIVE BUY for 1% of a risk-tolerant portfolio.