A Look At The Intrinsic Value Of Evolution Mining Limited (ASX:EVN)

editorial-team@simplywallst.com (Simply Wall St)

Tue, Nov 21, 2023, 7:53 PM 6 min read

In this article we are going to estimate the intrinsic value of Evolution Mining Limited (ASX:EVN) by taking the forecast future cash flows of the company and discounting them back to today's value. Our analysis will employ the Discounted Cash Flow (DCF) model. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.

We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

See our latest analysis for Evolution Mining

Step By Step Through 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.

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

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (A$, Millions)	AU$269.3m	AU$621.4m	AU$544.6m	AU$438.1m	AU$434.7m	AU$435.2m	AU$438.2m	AU$443.1m	AU$449.4m	AU$456.6m
Growth Rate Estimate Source	Analyst x6	Analyst x6	Analyst x6	Analyst x3	Analyst x2	Est @ 0.12%	Est @ 0.71%	Est @ 1.12%	Est @ 1.41%	Est @ 1.61%
Present Value (A$, Millions) Discounted @ 8.0%	AU$249	AU$532	AU$432	AU$321	AU$295	AU$273	AU$255	AU$239	AU$224	AU$211

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = AU$3.0b

The second stage is also known as Terminal Value, this is the business's cash flow after 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 (2.1%) 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 8.0%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = AU$457m× (1 + 2.1%) ÷ (8.0%– 2.1%) = AU$7.8b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= AU$7.8b÷ ( 1 + 8.0%)¹⁰= AU$3.6b

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$6.6b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of AU$3.8, the company appears around fair value at the time of writing. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

dcf — ASX:EVN Discounted Cash Flow November 22nd 2023

Important Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. You don't have to agree with these inputs, I recommend redoing the calculations yourself and playing with them. 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 Evolution Mining 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 8.0%, which is based on a levered beta of 1.194. 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 Evolution Mining

Strength

Debt is well covered by earnings and cashflows.

Weakness

Earnings declined over the past year.

Dividend is low compared to the top 25% of dividend payers in the Metals and Mining market.

Expensive based on P/E ratio and estimated fair value.

Opportunity

Annual earnings are forecast to grow faster than the Australian market.

Threat

Revenue is forecast to grow slower than 20% per year.

Looking Ahead:

Valuation is only one side of the coin in terms of building your investment thesis, and it ideally won't be the sole piece of analysis you scrutinize for a company. The DCF model is not a perfect stock valuation tool. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Evolution Mining, we've compiled three further items you should further examine:

Risks: As an example, we've found 3 warning signs for Evolution Mining that you need to consider before investing here.
Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for EVN's future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.
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 Australian 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.