Stock Analysis

Freeport-McMoRan Inc. (NYSE:FCX) Shares Could Be 34% Below Their Intrinsic Value Estimate

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NYSE:FCX
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In this article we are going to estimate the intrinsic value of Freeport-McMoRan Inc. (NYSE:FCX) by taking the expected future cash flows and discounting them to today's value. This will be done using the Discounted Cash Flow (DCF) model. It may sound complicated, but actually it is quite simple!

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. 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.

Check out our latest analysis for Freeport-McMoRan

The Calculation

We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company's cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. 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) estimate

2023 2024 2025 2026 2027 2028 2029 2030 2031 2032
Levered FCF ($, Millions) US$4.35b US$5.89b US$4.59b US$3.88b US$3.49b US$3.26b US$3.13b US$3.06b US$3.03b US$3.02b
Growth Rate Estimate Source Analyst x8 Analyst x5 Analyst x2 Est @ -15.4% Est @ -10.2% Est @ -6.56% Est @ -4.01% Est @ -2.22% Est @ -0.97% Est @ -0.1%
Present Value ($, Millions) Discounted @ 7.0% US$4.1k US$5.1k US$3.7k US$3.0k US$2.5k US$2.2k US$1.9k US$1.8k US$1.6k US$1.5k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$27b

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 7.0%.

Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = US$3.0b× (1 + 1.9%) ÷ (7.0%– 1.9%) = US$61b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$61b÷ ( 1 + 7.0%)10= US$31b

The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is US$58b. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of US$26.7, the company appears quite undervalued at a 34% 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.

dcf
NYSE:FCX Discounted Cash Flow September 26th 2022

The 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. 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 Freeport-McMoRan 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 7.0%, which is based on a levered beta of 1.200. 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:

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?" If a company grows at a different rate, or if its cost of equity or risk free rate changes sharply, the output can look very different. Can we work out why the company is trading at a discount to intrinsic value? For Freeport-McMoRan, we've compiled three essential elements you should further examine:

  1. Risks: Every company has them, and we've spotted 2 warning signs for Freeport-McMoRan (of which 1 is a bit concerning!) you should know about.
  2. Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for FCX's future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.
  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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the NYSE every day. If you want to find the calculation for other stocks just search here.

Valuation is complex, but we're helping make it simple.

Find out whether Freeport-McMoRan is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.

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About NYSE:FCX

Freeport-McMoRan

Freeport-McMoRan Inc. engages in the mining of mineral properties in North America, South America, and Indonesia.

The Snowflake is a visual investment summary with the score of each axis being calculated by 6 checks in 5 areas.

Analysis AreaScore (0-6)
Valuation3
Future Growth0
Past Performance3
Financial Health5
Dividends2

Read more about these checks in the individual report sections or in our analysis model.

Excellent balance sheet and fair value.