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Calculating The Intrinsic Value Of Nickel Industries Limited (ASX:NIC)

Key Insights

  • Using the Dividend Discount Model, Nickel Industries fair value estimate is AU$0.96

  • Current share price of AU$0.87 suggests Nickel Industries is potentially trading close to its fair value

  • The US$1.28 analyst price target for NIC is 34% more than our estimate of fair value

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Nickel Industries Limited (ASX:NIC) as an investment opportunity by taking the expected future cash flows and discounting them to their present value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Don't get put off by the jargon, the math behind it is actually quite straightforward.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.

See our latest analysis for Nickel Industries

The Model

We have to calculate the value of Nickel Industries slightly differently to other stocks because it is a metals and mining company. In this approach dividends per share (DPS) are used, as free cash flow is difficult to estimate and often not reported by analysts. Unless a company pays out the majority of its FCF as a dividend, this method will typically underestimate the value of the stock. We use the Gordon Growth Model, which assumes dividend will grow into perpetuity at a rate that can be sustained. The dividend is expected to grow at an annual growth rate equal to the 5-year average of the 10-year government bond yield of 2.0%. We then discount this figure to today's value at a cost of equity of 9.6%. Compared to the current share price of AU$0.9, the company appears about fair value at a 9.0% 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.

Value Per Share = Expected Dividend Per Share / (Discount Rate - Perpetual Growth Rate)

= US$0.05 / (9.6% – 2.0%)

= AU$1.0

dcf
dcf

The 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. You don't have to agree with these inputs, I recommend redoing the calculations yourself and playing with them. 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 Nickel Industries 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 9.6%, which is based on a levered beta of 1.288. 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 Nickel Industries

Strength

  • Earnings growth over the past year exceeded the industry.

  • Debt is well covered by earnings.

Weakness

  • Earnings growth over the past year is below its 5-year average.

  • Dividend is low compared to the top 25% of dividend payers in the Metals and Mining market.

  • Shareholders have been diluted in the past year.

Opportunity

  • Annual earnings are forecast to grow faster than the Australian market.

  • Good value based on P/E ratio and estimated fair value.

  • Significant insider buying over the past 3 months.

Threat

  • Debt is not well covered by operating cash flow.

  • Paying a dividend but company has no free cash flows.

Moving On:

Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize for a company. The DCF model is not a perfect stock valuation tool. Instead the best use for a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Nickel Industries, there are three further items you should further research:

  1. Risks: For instance, we've identified 3 warning signs for Nickel Industries that you should be aware of.

  2. Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for NIC's future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.

  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 Australian 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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