Is There An Opportunity With Loma Negra Compañía Industrial Argentina Sociedad Anónima's (NYSE:LOMA) 48% Undervaluation?

Key Insights

• The projected fair value for Loma Negra Compañía Industrial Argentina Sociedad Anónima is US$12.68 based on 2 Stage Free Cash Flow to Equity
• Loma Negra Compañía Industrial Argentina Sociedad Anónima is estimated to be 48% undervalued based on current share price of US$6.63
• The AR$7.68 analyst price target for LOMA is 39% less than our estimate of fair value

Today we will run through one way of estimating the intrinsic value of Loma Negra Compañía Industrial Argentina Sociedad Anónima (NYSE:LOMA) by taking the expected future cash flows and discounting them to their present value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

View our latest analysis for Loma Negra Compañía Industrial Argentina Sociedad Anónima

The Calculation

We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. 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

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = AR$339b

The second stage is also known as Terminal Value, this is the business's cash flow after the first stage. The Gordon Growth formula is used to calculate Terminal Value at a future annual growth rate equal to the 5-year average of the 10-year government bond yield of 2.1%. We discount the terminal cash flows to today's value at a cost of equity of 28%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = AR$169b× (1 + 2.1%) ÷ (28%– 2.1%) = AR$675b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= AR$675b÷ ( 1 + 28%)¹⁰= AR$59b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is AR$397b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of US$6.6, the company appears quite good value at a 48% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

Important Assumptions

Now 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 Loma Negra Compañía Industrial Argentina Sociedad Anónima 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 28%, which is based on a levered beta of 0.959. 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.

SWOT Analysis for Loma Negra Compañía Industrial Argentina Sociedad Anónima

Moving On:

Although the valuation of a company is important, it is only one of many factors that you need to assess for a company. It's not possible to obtain a foolproof valuation with a DCF model. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. 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 Loma Negra Compañía Industrial Argentina Sociedad Anónima, we've put together three additional items you should further research:

1. Risks: Take risks, for example - Loma Negra Compañía Industrial Argentina Sociedad Anónima has 3 warning signs we think you should be aware of.
2. Future Earnings: How does LOMA'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 American 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.