In this article I am going to calculate the intrinsic value of Saracen Mineral Holdings Limited (ASX:SAR) using the discounted cash flows (DCF) model. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model. Also note that this article was written in March 2018 so be sure check the latest calculation for Saracen Mineral Holdings here.
What’s the value?
I use what is known as the 2-stage model, which simply means we have two different periods of varying growth rates for the company’s cash flows. Generally the initial phase has higher growth rates that plateau over time. Firstly, I pulled together the analyst consensus forecast of SAR’s levered free cash flow (FCF) over the next five years and discounted these values at the rate of 9.38%. When estimates weren’t available, I’ve extrapolated the average annual growth rate over the previous five years, capped at a reasonable level. This resulted in a present value of 5-year cash flow of AU$566.47M. Keen to know how I calculated this value? Read our detailed analysis here.
The infographic above illustrates how SAR’s earnings are expected to move in the future, which should give you some color on SAR’s outlook. Next, I determine the terminal value, which accounts for all the future cash flows after the five years. I’ve decided to use the 10-year government bond rate of 2.8% as the perpetual growth rate, which is rightly below GDP growth, but more towards the conservative side. After discounting the terminal value back five years, the present value becomes AU$2.10B.
The total value is the sum of cash flows for the next five years and the discounted terminal value, which results in the Total Equity Value, which in this case is AU$2.67B. In the final step we divide the equity value by the number of shares outstanding. This results in an intrinsic value of A$3.27, which, compared to the current share price of A$1.775, we see that Saracen Mineral Holdings is quite good value at a 45.65% discount to what it is available for right now.
Next Steps:
Although the valuation of a company is important, it shouldn’t be the only metric you look at when researching a company. What is the reason for the share price to differ from the intrinsic value? For SAR, I’ve compiled three relevant factors you should look at:
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Financial Health: Does SAR have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
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Future Earnings: How does SAR’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.
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Other High Quality Alternatives: Are there other high quality stocks you could be holding instead of SAR? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!