Yahoo Finance Lundin Gold Inc (TSE:LUG) Investors Are Paying Above The Intrinsic Value
Does the December share price for Lundin Gold Inc (TSE:LUG) reflect it’s really worth? Today, I will calculate the stock’s intrinsic value by projecting its future cash flows and then discounting them to today’s value. This is done using the discounted cash flows (DCF) model. It may sound complicated, but actually it is quite simple! If you want to learn more about discounted cash flow, the basis for my calcs can be read in detail in the Simply Wall St analysis model. If you are reading this and its not December 2018 then I highly recommend you check out the latest calculation for Lundin Gold by following the link below.
Check out our latest analysis for Lundin Gold
Crunching the numbers
I’m 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 perpetual stable growth rate. To begin with we have to get estimates of the next five years of cash flows. For this I used the consensus of the analysts covering the stock, as you can see below. The sum of these cash flows is then discounted to today’s value.
5-year cash flow forecast
2019 | 2020 | 2021 | 2022 | 2023 | |
Levered FCF ($, Millions) | $-376.35 | $109.17 | $163.86 | $176.32 | $189.72 |
Source | Analyst x6 | Analyst x4 | Analyst x1 | Est @ 7.6% | Est @ 7.6% |
Present Value Discounted @ 17.66% | $-319.87 | $78.86 | $100.60 | $92.00 | $84.13 |
Present Value of 5-year Cash Flow (PVCF)= US$36m
We now need to calculate the Terminal Value, which accounts for all the future cash flows after the five years. For a number of reasons a very conservative growth rate is used that cannot exceed that of the GDP. In this case I have used the 10-year government bond rate (2.3%). In the same way as with the 5-year ‘growth’ period, we discount this to today’s value at a cost of equity of 17.7%.
Terminal Value (TV) = FCF2022 × (1 + g) ÷ (r – g) = US$190m × (1 + 2.3%) ÷ (17.7% – 2.3%) = US$1.3b
Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = US$1.3b ÷ ( 1 + 17.7%)5 = US$562m
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US$598m. To get the intrinsic value per share, we divide this by the total number of shares outstanding, or the equivalent number if this is a depositary receipt or ADR. This results in an intrinsic value of CA$3.7. Relative to the current share price of CA$4.79, the stock is fair value, maybe slightly overvalued at the time of writing.
The assumptions
I’d like to 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 my result, have a go at the calculation yourself and play with the assumptions. Because we are looking at Lundin Gold as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighed average cost of capital, WACC) which accounts for debt. In this calculation I’ve used 17.7%, which is based on a levered beta of 2. This is derived from the Bottom-Up Beta method based on comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.
Next Steps:
Whilst important, DCF calculation 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 LUG, I’ve compiled three relevant aspects you should further examine:
Financial Health: Does LUG 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.
Future Earnings: How does LUG’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: Are there other high quality stocks you could be holding instead of LUG? 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 does a DCF calculation for every CA stock every 6 hours, so if you want to find the intrinsic value of any other stock just search here.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
