Estimating The Fair Value Of Orica Limited (ASX:ORI)
How far off is Orica Limited (ASX:ORI) from its intrinsic value? Using the most recent financial data, I am going to take a look at whether the stock is fairly priced using the discounted cash flows (DCF) model. If you want to learn more about this method, the basis for my calculations can be found in detail in the Simply Wall St analysis model. If you are reading this after April 2018 then I highly recommend you check out the latest calculation for Orica here.
Is ORI fairly valued?
I’ve used the 2-stage growth 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. To begin, I took the analyst consensus forecast of ORI’s levered free cash flow (FCF) over the next five years and discounted these values at the cost of equity of 8.55%. 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$1.76B. Want to understand how I calculated this value? Read our detailed analysis here.
In the visual above, we see how how ORI’s earnings are expected to move going forward, which should give you an idea of ORI’s outlook. Then, I calculate the terminal value, which is the business’s cash flow after the first stage. I think it’s suitable 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. The present value of the terminal value after discounting it back five years is AU$5.25B.
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is AU$7.01B. In the final step we divide the equity value by the number of shares outstanding. This results in an intrinsic value of A$18.54, which, compared to the current share price of A$19, we find that Orica is fair value, maybe slightly overvalued and not available at a discount at this time.
Next Steps:
Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn’t be the only metric you look at when researching a company.
For ORI, I’ve put together three relevant aspects you should further research:
Financial Health: Does ORI 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 ORI’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 ORI? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!
PS. The Simply Wall St app conducts a discounted cash flow for every stock on the ASX every 6 hours. If you want to find the calculation for other stocks just search here.
To help readers see pass 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.
