Yahoo Finance Is Iris Energy Limited (NASDAQ:IREN) Trading At A 50% Discount?
Key Insights
Iris Energy's estimated fair value is US$11.27 based on 2 Stage Free Cash Flow to Equity
Iris Energy is estimated to be 50% undervalued based on current share price of US$5.65
Analyst price target for IREN is US$11.07 which is 1.8% below our fair value estimate
Today we will run through one way of estimating the intrinsic value of Iris Energy Limited (NASDAQ:IREN) by taking the forecast future cash flows of the company and discounting them back to today's value. We will use the Discounted Cash Flow (DCF) model on this occasion. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.
Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.
View our latest analysis for Iris Energy
The Method
We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. To start off with, we need to estimate the next ten years of cash flows. Where possible we use analyst estimates, but when these aren't available we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
Generally we assume that a dollar today is more valuable than a dollar in the future, and so the sum of these future cash flows is then discounted to today's value:
10-year free cash flow (FCF) forecast
2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | 2033 | |
Levered FCF ($, Millions) | -US$191.2m | US$58.7m | US$63.0m | US$66.3m | US$69.1m | US$71.7m | US$74.1m | US$76.3m | US$78.4m | US$80.5m |
Growth Rate Estimate Source | Analyst x2 | Analyst x2 | Analyst x1 | Est @ 5.20% | Est @ 4.32% | Est @ 3.71% | Est @ 3.29% | Est @ 2.99% | Est @ 2.78% | Est @ 2.63% |
Present Value ($, Millions) Discounted @ 6.9% | -US$179 | US$51.4 | US$51.6 | US$50.8 | US$49.6 | US$48.1 | US$46.5 | US$44.8 | US$43.1 | US$41.4 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$248m
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 2.3%. We discount the terminal cash flows to today's value at a cost of equity of 6.9%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = US$80m× (1 + 2.3%) ÷ (6.9%– 2.3%) = US$1.8b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$1.8b÷ ( 1 + 6.9%)10= US$924m
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$1.2b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of US$5.7, the company appears quite good value at a 50% 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
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 Iris Energy 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 6.9%, which is based on a levered beta of 0.996. 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 Iris Energy
Strength
Currently debt free.
Weakness
Shareholders have been diluted in the past year.
Opportunity
Expected to breakeven next year.
Good value based on P/S ratio and estimated fair value.
Threat
Has less than 3 years of cash runway based on current free cash flow.
Next Steps:
Although the valuation of a company is important, it shouldn't be the only metric you look at when researching a company. DCF models are not the be-all and end-all of investment valuation. 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. Can we work out why the company is trading at a discount to intrinsic value? For Iris Energy, we've compiled three important elements you should further research:
Risks: You should be aware of the 3 warning signs for Iris Energy we've uncovered before considering an investment in the company.
Future Earnings: How does IREN'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.
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.
