A Look At The Intrinsic Value Of Image Resources NL (ASX:IMA)

Key Insights

• Using the 2 Stage Free Cash Flow to Equity, Image Resources fair value estimate is AU$0.053

• Current share price of AU$0.061 suggests Image Resources is potentially trading close to its fair value

How far off is Image Resources NL (ASX:IMA) from its intrinsic value? Using the most recent financial data, we'll take a look at whether the stock is fairly priced by projecting its future cash flows and then discounting them to today's value. This will be done using the Discounted Cash Flow (DCF) model. There's really not all that much to it, even though it might appear quite complex.

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 Image Resources

The Method

We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second 'steady growth' period. To begin with, we have to get estimates of the next ten years of cash flows. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last 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.

A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) estimate

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (A$, Millions)	AU$6.68m	AU$4.96m	AU$4.09m	AU$3.62m	AU$3.35m	AU$3.20m	AU$3.11m	AU$3.07m	AU$3.07m	AU$3.08m
Growth Rate Estimate Source	Est @ -37.74%	Est @ -25.79%	Est @ -17.43%	Est @ -11.58%	Est @ -7.48%	Est @ -4.61%	Est @ -2.60%	Est @ -1.20%	Est @ -0.22%	Est @ 0.47%
Present Value (A$, Millions) Discounted @ 7.4%	AU$6.2	AU$4.3	AU$3.3	AU$2.7	AU$2.3	AU$2.1	AU$1.9	AU$1.7	AU$1.6	AU$1.5

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = AU$28m

After calculating the present value of future cash flows in the initial 10-year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond the first stage. For a number of reasons a very conservative growth rate is used that cannot exceed that of a country's GDP growth. In this case we have used the 5-year average of the 10-year government bond yield (2.1%) to estimate future growth. In the same way as with the 10-year 'growth' period, we discount future cash flows to today's value, using a cost of equity of 7.4%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = AU$3.1m× (1 + 2.1%) ÷ (7.4%– 2.1%) = AU$59m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= AU$59m÷ ( 1 + 7.4%)¹⁰= AU$29m

The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is AU$57m. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of AU$0.06, the company appears around fair value at the time of writing. 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.

dcf

Important Assumptions

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 Image Resources 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 7.4%, which is based on a levered beta of 1.060. 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 Image Resources

Strength

• Currently debt free.

• Dividend is in the top 25% of dividend payers in the market.

Weakness

• Earnings declined over the past year.

• Current share price is above our estimate of fair value.

Opportunity

• IMA's financial characteristics indicate limited near-term opportunities for shareholders.

• Lack of analyst coverage makes it difficult to determine IMA's earnings prospects.

Threat

• Dividends are not covered by cash flow.

Looking Ahead:

Although the valuation of a company is important, it is only one of many factors that you need to assess for a company. DCF models are not the be-all and end-all of investment valuation. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Image Resources, there are three pertinent items you should further examine:

1. Risks: To that end, you should be aware of the 3 warning signs we've spotted with Image Resources .

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

3. 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 Australian stock every day, so if you want to find the intrinsic value of any other stock just search here.

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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.