Advertisement
Canada markets close in 4 hours 42 minutes
  • S&P/TSX

    22,185.76
    +78.68 (+0.36%)
     
  • S&P 500

    5,253.89
    +5.40 (+0.10%)
     
  • DOW

    39,741.81
    -18.27 (-0.05%)
     
  • CAD/USD

    0.7381
    +0.0009 (+0.12%)
     
  • CRUDE OIL

    82.61
    +1.26 (+1.55%)
     
  • Bitcoin CAD

    96,501.27
    +2,711.87 (+2.89%)
     
  • CMC Crypto 200

    885.54
    0.00 (0.00%)
     
  • GOLD FUTURES

    2,236.20
    +23.50 (+1.06%)
     
  • RUSSELL 2000

    2,127.18
    +12.83 (+0.61%)
     
  • 10-Yr Bond

    4.1930
    -0.0030 (-0.07%)
     
  • NASDAQ

    16,401.52
    +2.00 (+0.01%)
     
  • VOLATILITY

    13.02
    +0.24 (+1.88%)
     
  • FTSE

    7,973.86
    +41.88 (+0.53%)
     
  • NIKKEI 225

    40,168.07
    -594.66 (-1.46%)
     
  • CAD/EUR

    0.6832
    +0.0027 (+0.40%)
     

Calculating The Intrinsic Value Of Russel Metals Inc. (TSE:RUS)

In this article we are going to estimate the intrinsic value of Russel Metals Inc. (TSE:RUS) by taking the expected future cash flows and discounting them to their present value. Our analysis will employ 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. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

Check out our latest analysis for Russel Metals

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. To begin with, we have to get estimates of the next ten years of cash flows. 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.

ADVERTISEMENT

A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, so we need to discount the sum of these future cash flows to arrive at a present value estimate:

10-year free cash flow (FCF) estimate

2022

2023

2024

2025

2026

2027

2028

2029

2030

2031

Levered FCF (CA$, Millions)

CA$169.7m

CA$147.6m

CA$135.0m

CA$127.5m

CA$123.2m

CA$120.8m

CA$119.7m

CA$119.5m

CA$119.9m

CA$120.8m

Growth Rate Estimate Source

Analyst x4

Analyst x2

Est @ -8.54%

Est @ -5.52%

Est @ -3.4%

Est @ -1.92%

Est @ -0.89%

Est @ -0.16%

Est @ 0.35%

Est @ 0.7%

Present Value (CA$, Millions) Discounted @ 7.1%

CA$158

CA$129

CA$110

CA$96.7

CA$87.2

CA$79.8

CA$73.8

CA$68.8

CA$64.4

CA$60.5

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CA$927m

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 1.5%. We discount the terminal cash flows to today's value at a cost of equity of 7.1%.

Terminal Value (TV)= FCF2031 × (1 + g) ÷ (r – g) = CA$121m× (1 + 1.5%) ÷ (7.1%– 1.5%) = CA$2.2b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= CA$2.2b÷ ( 1 + 7.1%)10= CA$1.1b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is CA$2.0b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of CA$34.1, the company appears around fair value at the time of writing. 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
dcf

Important assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Russel Metals 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 7.1%, which is based on a levered beta of 1.191. 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 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. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Russel Metals, there are three further items you should consider:

  1. Risks: For example, we've discovered 4 warning signs for Russel Metals (1 is a bit concerning!) that you should be aware of before investing here.

  2. Future Earnings: How does RUS'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 Canadian stock every day, so if you want to find the intrinsic value of any other stock just search here.

This article by Simply Wall St is general in nature. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.