Calculating the intrinsic value of Kinross Gold Corporation (TSE:K)

Key findings

• The forecast fair value for Kinross Gold is CA$11.36 based on 2-step free cash flow to equity.

• Kinross Gold’s share price of CA$11.33 suggests that the price is at a similar level to the estimated fair value.

• Our fair value estimate is 4.2% below Kinross Gold’s analyst price target of $11.86.

In this article, we will estimate the intrinsic value of Kinross Gold Corporation (TSE:K) by taking the expected future cash flows and discounting them to today’s value. This is done using the Discounted Cash Flow (DCF) model. This may sound complicated, but it’s actually quite simple!

We generally believe that the value of a company is the present value of all the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without its flaws. Anyone interested in learning more about intrinsic value should check out Simply Wall St’s analysis model.

Check out our latest analysis for Kinross Gold

Is Kinross Gold fairly valued?

We use a two-stage DCF model which, as the name suggests, considers two phases of growth. The first stage is generally a higher growth phase that stabilizes toward the terminal value captured in the second “steady growth” stage. First, we need to obtain 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 that companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will slow their growth rate over this period. We do this to take into account that growth tends to slow more in the early years than in later years.

In general, we assume that a dollar today is worth more than a dollar in the future. Therefore, we need to discount the sum of these future cash flows to arrive at an estimate of present value:

Estimation of free cash flow (FCF) over 10 years

(“Est” = FCF growth rate, estimated by Simply Wall St)
Present value of 10-year cash flow (PVCF) = 4.6 billion US dollars

The story goes on

The second phase is also called the terminal value, which is the company’s cash flow after the first phase. The Gordon growth formula is used to calculate the terminal value at a future annual growth rate equal to the 5-year average of the 10-year Treasury yield of 2.1%. We discount the terminal cash flows to today’s value at a cost of equity of 7.8%.

Final value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = 667 million US dollars × (1 + 2.1%) ÷ (7.8% – 2.1%) = 12 billion US dollars

Present value of terminal value (PVTV)= TV / (1 + r)¹⁰= 12 billion US dollars ÷ (1 + 7.8%)¹⁰= 5.6 billion US dollars

Total value is the sum of the next ten years’ cash flows plus the discounted terminal value, which gives the total value of equity, which in this case is $10 billion. To get the intrinsic value per share, we divide that by the total number of shares outstanding. Relative to the current share price of CA$11.3, the company appears roughly fairly valued at a 0.3% discount to the current share price. However, keep in mind that this is only an approximate valuation and as with any complex formula, where there’s garbage in, there’s garbage out.

The assumptions

We would like to point out that the key inputs to a discounted cash flow are the discount rate and of course the actual cash flows. If you disagree with these results, try the calculation yourself and play with the assumptions. The DCF also does not take into account the possible cyclicality of an industry or a company’s future capital needs and therefore does not provide a complete picture of a company’s potential performance. Since we consider Kinross Gold 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 takes debt into account. In this calculation, we used 7.8%, which is based on a leveraged beta of 1.244. Beta is a measure of a stock’s volatility relative to the overall market. We get our beta from the industry average beta of globally comparable companies with an imposed limit of between 0.8 and 2.0, which is a reasonable range for a stable company.

SWOT Analysis for Kinross Gold

Strength

weakness

Opportunity

Danger

Next Steps:

While the DCF calculation is important, ideally it shouldn’t be the only analysis you look at for a company. DCF models aren’t the be-all and end-all of investment valuation. Instead, the best use of a DCF model is to test certain assumptions and theories to see if they would lead to an undervaluation or overvaluation of the company. For example, changes in the company’s cost of equity or risk-free rate can significantly affect the valuation. For Kinross Gold, we’ve compiled three relevant elements for you to examine:

1. Risks: For example, we found 1 warning sign for Kinross Gold that you should know before investing here.

2. Future income: How does K’s growth rate compare to its competitors and the overall market? Learn more about analyst consensus numbers for the coming years by using our free chart of analyst growth expectations.

3. Other solid companies: Low debt, high returns on equity, and good past performance are the foundation of a strong company. Check out our interactive list of stocks with solid business fundamentals to see if there are any other companies you may not have considered!

PS The Simply Wall St app runs a discounted cash flow valuation for every stock on the TSX every day. If you want to find the calculation for other stocks, just search here.

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This Simply Wall St article is of a general nature. We comment solely on historical data and analyst forecasts, using an unbiased methodology. Our articles do not constitute financial advice. It is not a recommendation to buy or sell any stock and does not take into account your objectives or financial situation. Our goal is to provide you with long-term analysis based on fundamental data. Note that our analysis may not take into account the latest price-sensitive company announcements or qualitative materials. Simply Wall St does not hold any of the stocks mentioned.

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