Calculating The Intrinsic Value Of ArcelorMittal S.A. (AMS:MT)
How far off is ArcelorMittal S.A. (AMS:MT) from its intrinsic value? Using the most recent financial data, we'll take a look at whether the stock is fairly priced by taking the expected future cash flows and discounting them to their present value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this. Don't get put off by the jargon, the math behind it is actually quite straightforward.
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. 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.
Check out our latest analysis for ArcelorMittal
Crunching The Numbers
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.
Generally we assume that a dollar today is more valuable than a dollar in the future, 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) forecast
Levered FCF ($, Millions)
Growth Rate Estimate Source
Est @ -24.60%
Est @ -17.16%
Est @ -11.96%
Est @ -8.32%
Est @ -5.77%
Est @ -3.98%
Est @ -2.73%
Est @ -1.86%
Present Value ($, Millions) Discounted @ 7.9%
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$16b
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 0.2%. We discount the terminal cash flows to today's value at a cost of equity of 7.9%.
Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = US$1.6b× (1 + 0.2%) ÷ (7.9%– 0.2%) = US$21b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$21b÷ ( 1 + 7.9%)10= US$9.9b
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$26b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of €28.7, the company appears about fair value at a 3.2% discount to where the stock price trades currently. 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.
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 ArcelorMittal 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 7.9%, which is based on a levered beta of 1.283. 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 ArcelorMittal
Debt is not viewed as a risk.
Earnings growth over the past year underperformed the Metals and Mining industry.
Dividend is low compared to the top 25% of dividend payers in the Metals and Mining market.
Good value based on P/E ratio and estimated fair value.
Annual earnings are forecast to decline for the next 3 years.
Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" If a company grows at a different rate, or if its cost of equity or risk free rate changes sharply, the output can look very different. For ArcelorMittal, we've compiled three fundamental aspects you should explore:
Risks: Case in point, we've spotted 1 warning sign for ArcelorMittal you should be aware of.
Future Earnings: How does MT'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 Solid Businesses: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered!
PS. Simply Wall St updates its DCF calculation for every Dutch stock every day, so if you want to find the intrinsic value of any other stock just search here.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
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