Does This Valuation Of Mineral Resources Limited (ASX:MIN) Imply Investors Are Overpaying?

By
Simply Wall St
Published
November 19, 2021
ASX:MIN
Source: Shutterstock

Does the November share price for Mineral Resources Limited (ASX:MIN) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by taking the expected future cash flows and discounting them to their present value. Our analysis will employ the Discounted Cash Flow (DCF) model. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

See our latest analysis for Mineral Resources

The model

We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second 'steady growth' period. In the first stage we need to estimate the cash flows to the business over the next ten years. Where possible we use analyst estimates, but when these aren't available we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.

Generally we assume that a dollar today is more valuable than a dollar in the future, so we discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) forecast

2022 2023 2024 2025 2026 2027 2028 2029 2030 2031
Levered FCF (A$, Millions) AU$232.4m AU$448.3m AU$624.2m AU$505.0m AU$349.0m AU$329.8m AU$319.0m AU$313.4m AU$311.3m AU$311.6m
Growth Rate Estimate Source Analyst x3 Analyst x3 Analyst x4 Analyst x1 Analyst x1 Est @ -5.5% Est @ -3.29% Est @ -1.74% Est @ -0.66% Est @ 0.09%
Present Value (A$, Millions) Discounted @ 6.9% AU$217 AU$393 AU$511 AU$387 AU$250 AU$221 AU$200 AU$184 AU$171 AU$160

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = AU$2.7b

After calculating the present value of future cash flows in the initial 10-year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond the first stage. For a number of reasons a very conservative growth rate is used that cannot exceed that of a country's GDP growth. In this case we have used the 5-year average of the 10-year government bond yield (1.9%) to estimate future growth. In the same way as with the 10-year 'growth' period, we discount future cash flows to today's value, using a cost of equity of 6.9%.

Terminal Value (TV)= FCF2031 × (1 + g) ÷ (r – g) = AU$312m× (1 + 1.9%) ÷ (6.9%– 1.9%) = AU$6.3b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= AU$6.3b÷ ( 1 + 6.9%)10= AU$3.3b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is AU$6.0b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of AU$41.4, the company appears potentially overvalued at the time of writing. Valuations are imprecise instruments though, rather like a telescope - move a few degrees and end up in a different galaxy. Do keep this in mind.

dcf
ASX:MIN Discounted Cash Flow November 19th 2021

Important assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. If you don't agree with these result, have a go at the calculation yourself and play with the assumptions. The DCF also does not consider the possible cyclicality of an industry, or a company's future capital requirements, so it does not give a full picture of a company's potential performance. Given that we are looking at Mineral Resources as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighted average cost of capital, WACC) which accounts for debt. In this calculation we've used 6.9%, which is based on a levered beta of 1.144. Beta is a measure of a stock's volatility, compared to the market as a whole. We get our beta from the industry average beta of globally comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.

Next Steps:

Although the valuation of a company is important, it shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. What is the reason for the share price exceeding the intrinsic value? For Mineral Resources, there are three further elements you should look at:

  1. Risks: For example, we've discovered 4 warning signs for Mineral Resources (2 make us uncomfortable!) that you should be aware of before investing here.
  2. Future Earnings: How does MIN's growth rate compare to its peers and the wider market? Dig deeper into the analyst consensus number for the upcoming years by interacting with our free analyst growth expectation chart.
  3. Other Solid Businesses: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered!

PS. Simply Wall St updates its DCF calculation for every Australian stock every day, so if you want to find the intrinsic value of any other stock just search here.

This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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Simply Wall St

Simply Wall St is focused on providing unbiased, high-quality research coverage on every listed company in the world. Our research team consists of data scientists and multiple equity analysts with over two decades worth of financial markets experience between them.