Calculating The Fair Value Of Public Joint Stock Company ALROSA (MCX:ALRS)

In this article we are going to estimate the intrinsic value of Public Joint Stock Company ALROSA (MCX:ALRS) by estimating the company's future cash flows and discounting them to their present value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. There's really not all that much to it, even though it might appear quite complex.

We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.

See our latest analysis for ALROSA

What's the estimated valuation?

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.

A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, 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 (RUB, Millions)	₽106.9b	₽115.4b	₽111.6b	₽111.5b	₽113.9b	₽118.1b	₽123.9b	₽130.8b	₽138.9b	₽148.0b
Growth Rate Estimate Source	Analyst x4	Analyst x3	Est @ -3.34%	Est @ -0.1%	Est @ 2.16%	Est @ 3.74%	Est @ 4.85%	Est @ 5.63%	Est @ 6.17%	Est @ 6.55%
Present Value (RUB, Millions) Discounted @ 15%	₽92.9k	₽87.3k	₽73.3k	₽63.7k	₽56.6k	₽51.0k	₽46.5k	₽42.7k	₽39.4k	₽36.5k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ₽590b

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 (7.4%) 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 15%.

Terminal Value (TV)= FCF₂₀₃₁ × (1 + g) ÷ (r – g) = ₽148b× (1 + 7.4%) ÷ (15%– 7.4%) = ₽2.1t

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= ₽2.1t÷ ( 1 + 15%)¹⁰= ₽518b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is ₽1.1t. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of ₽149, the company appears about fair value at a 2.9% discount to where the stock price trades currently. 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.

Important assumptions

We would point out that the most important inputs to a discounted cash flow are the discount rate and of course the actual cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 ALROSA 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 15%, which is based on a levered beta of 1.106. 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.

Looking Ahead:

Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn't be the only metric you look at when researching a company. DCF models are not the be-all and end-all of investment valuation. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For ALROSA, we've put together three pertinent elements you should look at:

1. Risks: Every company has them, and we've spotted 2 warning signs for ALROSA (of which 1 is significant!) you should know about.
2. Future Earnings: How does ALRS'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 High Quality Alternatives: Do you like a good all-rounder? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!

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

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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.
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