Valuating & Financial Prediction of Fortescue Metals Group Ltd

Valuating & Financial Prediction of Fortescue Metals Group Ltd AFX9540 BUSINESS FINANCE Executive Summary This report is compose to offer a business analysis of Fortescue Metals Group Ltd (FMG) where there will be a word of honor on the background of the bon ton, its return on the pre-post announcement of procreation funds, the capital structure during the global m unitytary crisis in comparison to its peers and the estimation on the dish out valuation in comparison to the literal apportion value. Fortescue Metals Group (ASXFMG) is an Australian contract ore mining federation.The social club has holdings of more(prenominal) than than 87,000 km? in the Pilbara region of Hesperian Australia making it the largest tenement holder in the state. It is listed as FMG on the Australian Securities Ex neuter (ASX). In 2008, the gathering loaded its first iron ore shipment bound for China. Fortescue lose at least 10 Chinese steel mill contracts lasting for around 10 long tim e. Baosteel was the first company to receive their iron ore. For the sh be valuation, the report uses the CAPM example to deter exploit the prevailing be of capital and in like manner uses the dividend discount multistage model to foreshadow the per centum toll for the company.The components of the CAPM model (i. e. risk surplus regularise, company beta, grocery store return and growth stride) be cipher and predicted on historical selective information. The valuation data is then comp atomic number 18d with the actual market terms of the manages for the comparable long time and a brief analysis is then performed on the economic and internal reasoning lav any fluctuation encountered. Table of Contents Executive Summary2 1. 0Brief overview of the company4 2. 0Capital social organization4 2. 1 sway certificates raised by the company4 2. 2Usage of the fund5 2. 3Announcement date for the consequence5 2. 4Share-return pre and post announcement5 2. Market return same per iod6 2. 6 Market Perception6 2. 7 Effect of recent monetary crisis7 3. 0 valuation of FXJ shares7 3. 1Risk free locate computer science8 3. 2Market prescribe computation8 3. 3Beta calculation9 3. 4CAPM reckoning10 3. 5 maturation rate calculation10 3. 6Share valuation11 3. 7Comparison of valuation vs. actual data12 3. 8 Evaluation of the variance13 4. 0 Conclusion13 adjunct 1 Cash rate target14 Appendix 2 Market data for beta calculation14 Reference & Bibliography 16 . 0General background of the Firm Fortescue Metals Group Ltd is the New Force in Iron Ore and has joined the worlds leading producers of iron ore. Since the guild was formed in 2003, its extraordinary growth has been unparalleled. Listed in the SP/ASX 50 share index, Fortescue has firmly established itself as one of the worlds largest producers and sea-borne traders of iron ore. From Construction to Production Construction of Fortescues port, rail and mine project commenced in February 2006 with the turning of the first sod at the Companys port site at Anderson aspire in Port Hedland.Just two familys later in 2008, the open-access rail infrastructure was complete and trading operations were down the stairswayat the Fortescue Herb Elliott Port and at the Companys first minesite, Cloudbreak. Shipping started on 15 may 2008 and Project Completion was achieved within months. On 18 July 2008, Fortescues fifth anniversary, the Company successfully mined, railed and shipped at a rate of 24mtpa (Million ton per annum) for a one month period. In the first full year of operations, Fortescue mined, railed and shipped more than 27 million tonnes of iron ore to customers in China. FinanceFortescues project was founded on the raising of A$3. 7 cardinal capital, including A$1 billion equity, during two finance road shows in August 2006 and July 2007. The August 2006 raising was the largest single risque-yield Asia-Pacific transaction, the largest high-yield stick with project financing ever, on e of the largest corporate bonds out of Australia and one of the largest global bond issues in the sector. Since then Fortescue has grown to run low an SP/ASX 50 company. Over 55,000 Australians surrender become shareholders in the proudly Australian founded and managed company.A substantial increase in Fortescues vision Inventory to 10. 03 billion tonnes in March 2011, including 1. 6 billiontonnes of Reserves,positioned the company as one of the worlds major resource houses. This massive Resource Inventory was achieved in record time and was delineated from approximately 10 per cent ofFortescues 88,000 square kilometres of Pilbara tenements. 2. 0Capital Structure of the Firm 2. 1Funds raised by the company 1,326,316 number of Ordinary Shares were issued to generate A$6. 3 million. 2. 2Purpose of Fund 1,326,316 number of Ordinary Shares were issued as payment for a distribution of A$6. million due under the A$140m, Redeemable Preference Share issued with maturity on or before Feb ruary 2017. 2. 3Announcement date of the issue The initial announcement date for this issue of the Ordinary Share was 15th September 2010. 2. 4Share return from two days before the announcement date to two days after the announcement. retentivity Period proceeds=Ending terms-Beginning PriceBeginning Price ? vitamin C property Period reverse=p1-p0p0 ? light speed P1 = Ending Price, P0 = Beginning Price Date up to(p) steep ow Close Volume Adj Close* 17 Sep 2010 4. 87 4. 92 4. 83 4. 84 25,307,700 4. 82 16 Sep 2010 5. 2 5. 02 4. 85 4. 86 15,360,000 4. 84 15 Sep 2010 5. 03 5. 08 4. 99 5. 03 11,614,800 5. 01 14 S p 2010 4. 99 5. 07 4. 97 5. 02 10,319,500 5. 00 13 Sep 2010 4. 91 5. 01 4. 90 4. 97 14,643,800 4. 95 Closing equipment casualty adjust for dividend and splits Before the Announcement Date Holding Period Return=p1-p0p0 ? deoxycytidine monophosphate So, HPR=5. 02-4. 914. 91 ? 100 = 2. 24% After the Announcement Date Holding Period Return=p1-p0p0 ? 100 So, HPR=4. 84-5. 025. 02 ? 100 = -3. 59% 2. 5Market Return same period Date Open High Low Close Volume Adj Close* 17 Sep 2010 4,657. 70 4,692. 50 4,657. 0 4,685. 10 1,523,846,600 4,685. 10 16 Sep 2010 4,703. 00 4,707. 70 4,648. 90 4,650. 00 1,813,657,000 4,650. 00 15 Sep 2010 4,670. 10 4,710. 50 4,669. 90 4,702. 70 1,644,565,600 4,702. 70 14 Sep 2010 4,661. 40 4,688. 90 4,661. 10 4,669. 10 1,422,233,600 4,669. 10 13 Sep 2010 4,613. 30 4,660. 90 4,612. 70 4,654. 20 1,433,713,600 4,654. 20 Closing price adjusted for dividend and splits Holding Period Return=Ending Price-Beginning PriceBeginning Price ? 100 Holding Period Return=p1-p0p0 ? 100 P1 = Ending Price, P0 = Beginning Price Before the Announcement DateHolding Period Return=p1-p0p0 ? 100 So, HPR=4669. 10-4613. 304613. 30 ? 100 = 1. 21% After the Announcement Date Holding Period Return=p1-p0p0 ? 100 So, HPR=4685. 10-47034703 ? 100 = -0. 38% 2. 6Market Perception From the above analysis it squirt be seen that the share performance of the company and the market was stable during the pre and post two days of the announcement. Previously before the announcement the performance of some(prenominal) is sacking the similar path (upward movement). On the other hand post announcement illustrated negative take (-3. 59% against -0. 38%) for Fortescue Metals Group Ltd.There might be two causes behind this one, the share price have been over estimated for which the price had to be adjusted. Secondly, the investors did not take the fund raising issue positively as they might think it would not generate much fund for the companys growth and thence unable to generate enough wealth for them. 2. 7Effect of recent financial crisis BlueScope Fortescue Metals Mount Gibson OneSteel Net Gearing 2007 0% 0% 0% 46. 65% 2008 0% 0% 25. 42% 56. 72% 2009 0% 9% 6. 29% 28. 22% 2010 14. 82% 169. 90% 3. 97% 21. 45% 2011 24. 43% 183. 43% - 38. 36%Table 1 Gearing ratio-peer analysis of Fortescue Metals Group Ltd. We can conclude that the recent fin ancial crisis did not affect the applications capital structure. As of now the mining pains is going boom. In the time of recession, just about of the companies will not have enough profit to repay a debt so investors are more interested in investing in mining industry rather than some other industry. By using the gearing ratio, it can be seen that Fortescues degree of leverage is higher, the more higher thecompany is considered risky. However Fortescue Metals Ltd is very strong with their high growth rate compared to its competitors.For them paying off the debt would not be a big issue as they are enjoying three benefits which are one, mining industry is going boom two, Australian dollar (AUD) getting stronger and three, Fortescues operations are well placed to aver the 55mtpa rate across the 2012 financial year while development to 155mtpa continues in a mixture of brownfields and greenfields projects, plan to take place through to June 2013. 3. 0 paygrade of shares The divid end discount multistage model is a procedure for valuing the price of a stock by using predicted dividends and discounting them back to present value.The idea is that if the value obtained from the dividend discount multistage model is higher than what the shares are currently trading at, then the stock is undervalued. Formula P0 = D11+R The required return can be calculated using the CAPM (capital asset pricing model) model, which becomes the cost capital of the project. Formula CAPM E(r)= Rf+? i (Rm-Rf) 3. 1Risk free rate calculation The benchmark interest rate in Australia was last reported at 4. 75 percent. In Australia, interest rates decisions are taken by the Reserve Bank of Australias Board.The interest rate needs to be adjusted yearly using the Effective Annual Rate. EAR = (1+in)n-1 EAR 2011 2010 2009 Calculation (1+. 0475/365)365-1 (1+. 0396/365)365-1 (1+. 0479/365)365-1 Rf 4. 86% 4. 03% 4. 90% Table 2 Risk Free rate 3. 2Market rate calculation The calculation of market r eturn will include statistics from 5 years to counteract any data abnormality from recession or seasonal spikes. 2005 2006 2007 2008 2009 2010 2011 Calculation 4,229. 93,546. 1-1 5,034. 04,225. 9-1 6,310. 65035. 4-1 3,947. 85,345. 8-1 3,947. 85,345. 8-1 4,324. 83,934. 4-1 4,659. 84,309. -1 Return 0. 1928 0. 1912 0. 2532 -0. 1549 -0. 2615 0. 0992 0. 0811 Average Market return base on five years performance is Rm2011 = (0. 2532-0. 1549-0. 2615+0. 0992+0. 0811)5 = 0. 0034 = 0. 34% Rm2010 = (0. 1912+. 2532-0. 1549-0. 2615+0. 0992)5 = 0. 0254 = 2. 54% Rm2009 = (0. 1928+0. 1912+0. 2532-0. 1549-0. 2615)5 = 0. 04416 = 4. 42% 3. 3Beta calculation The beta is taken from FinAnalysis. Beta (? ) is a number describing the relation of its returns with those of the financial market as a whole. The beta coefficient is a key parameter in the capital asset pricing model (CAPM).It measures the part of the assets statistical variance that cannot be removed by the diversification provided by the portf olio of legion(predicate) risky assets, because of the correlation of its returns with the returns of the other assets that are in the portfolio. Formula for Beta is i=1nRi-ER2n-1 Data from 2009 to 2011 has been used and a data of 3 years is used to calculate the beta. 2009 2010 2011 ? 0. 91 0. 80 0. 88 A beta of greater than 1 indicates that the securitys price will be more quicksilver(a) than the market. Fortescue Metals Ltd has a beta of 0. 88 therefore it is less volatile than the market. 3. CAPM Calculation Hence, using Capital Asset Pricing Model (CAPM) as Required Return E(r)= Rf+? i (Rm-Rf) 2009 2010 2011 Calculation 4. 90% + 0. 88(4. 42%-4. 90%) 4. 03% + 0. 88(2. 54%-4. 03%) 4. 86% + 0. 88(0. 34%-4. 86%) Return 4. 48% 2. 72% 0. 88% Table 4 Cost of Capital 3. 5Growth Rate Calculation Growth rate calculation represents thecompounded annualized rate of growth of a companys r hithertoues, earnings, dividends, etc. The formula for growth rate = Return on equity X Plowback ra tio = ROE ? (1-DividendEPS) This growth rate will be used for the calculation of share prices for the last three years.ROE, DIV and EPS from 2009 to 2011 are shown below 2009 2010 2011 ROE 13. 62% 51. 57% 75. 36% DIV ($) - - 7. 0 EPS ($) 21. 90 22. 12 31. 88 Table 5 Financial data g2011 = ROE(2011) (1- Div(2011)/EPS(2011)) = 75. 36%(1-7/31. 88)= 58. 81% g2010 = ROE(2010) (1- Div(2010)/EPS(2010)) = 51. 57%(1-0/22. 12)= 51. 57% g2009 = ROE(2009) (1- Div(2009)/EPS(2009)) = 13. 62%(1-0/21. 90)= 13. 62% Below is the summary of the data discussed Components 2009 2010 2011 Er 4. 48% 2. 72% 0. 88% Rf 4. 86% 4. 03% 4. 90% Rm 4. 42% 2. 54% 0. 34% ?i 0. 91 0. 80 0. 88 13. 62% 51. 57% 58. 81% Table 6 Summarisation of component 3. 6Share Valuation To calculate the value of the shares, we need to determine the method of valuation so mixed stage dividend model can be used to calculate the value of the share. Bearing in mind the business nature, we can see an average of 41. 33% growth which is ab normally high. For the purpose of calculation we will presume this high growth rate will continue for another 40-45 years at least. As it is a overbold mining company and as we know that the return comes late so, the growth rate is high even after a long term.From 2053 onwards we assume that the business will grow at 7% rate, which we believe is a conservative approach, as because by then there will be many mining companies opening both domestically and internationally. China is progressing very fast and by next 15-20 years they will level up, not just China India, South Africa, South America etc are also catching-up fast, so due to the high competition the market would not remain the same and it will change consecutively as forecasted. The valuation calculation will take this assumption towards establishing the model. P2009=i=20092012D0 (1+g)i(1+Ke)i + Pi(1+Ke)iP2010=i=20102012D0 (1+g)i(1+Ke)i + Pi(1+Ke)i P2011=i=20112012D0 (1+g)i(1+Ke)i + Pi(1+Ke)i Growth Rate Net Cash Flow Cost of Capital D2009 -13,643 4. 48% D2010 1,877,963 2. 72% D2011 41. 33% 4,206,365 0. 88% D2012 50% 4,906,922 0. 92% D2013 55% 6,767,080. 65 0. 99% D2014 60% 10,435,594. 64 0. 99% D2015 60% 16,587,385. 22 0. 96% D2016 60% 26,477,415. 36 0. 98% D2017 60% 42,346,454. 77 1% D2018 60% 67,743,188. 44 0. 95% D2019 60% 108,379,297. 7 0. 96% D2020 60% 173,398,415. 1 0. 98% D2021 60% 277,429,356. 2 1% D2022 60% 443,881,664. 5 0. 98% - - - - D2052 8. 19% 13,101,273,811 0. 98% D2053 7% 22,933,861. 67 0. 98% P2009 3. 89 P2010 3. 61 P2011 5. 46 Table 7 Summary calculation 3. 7Comparison of valuation vs. actual data From the valuation calculated through the process, now we will compare that with the actual data from the market. Year Valuation Data material Data Variance Comment 2009 3. 89 3. 64 -6. 40% Undervalued 2010 3. 61 3. 96 9. 64% Overvalued 2011 5. 46 5. 98 9. 43% Overvalued Table 8 comparison of actual and calculated data 3. Evaluation of the variation The valuation o f the shares seems to be in the right track compared with the market trend. Nevertheless, post state gives a more variable scenario. Dividend was replaced by using the net operation Cash Flow per share. The operation cash feed in only represents the cash flow in the companys operation activities whilst the company also have investing activities and financing activities. Thus, only use of the operation cash flow in the valuation has a high percentage of uncertainty. According to the table above, the actual price is undervalued.The valuation can be endorsed to the pass up than expected risk premium in the market resulting from the controlled risk free rate determined by the government. Another issue can be AUD getting stronger compared to USD, resulting additional dent on the nominal cost of capital for the company. In the later part of the table, the actual price is overvalued. In order to illustrate this phenomenon, one possible reason is inflation. Inflation is an overall general rise in prices. As we know, global financial crisis happened few years back, the effect of the financial crisis was significant on the whole market and caused inflation.Therefore, due to inflation, the market prices are higher than the actual prices. Another possible reason is some unpredicted economic/ inhering events happened during this period and lead to movements of the market price. On the other hand the factors can be attributed to the assumptions and predictions using the calculation components. CAPM formula and Beta calculation has its own risk and de-merits. The growth rate is strongly manipulated by the industrys landscape, economic status and political issues.The information available could also affect the actual share prices in the market which will impact on decision making for share buyers/sellers. The share price valuation will be varied from one investor to another depends on their information. As there is an initiation of asymmetric information in the market, one cannot estimate the share price exactly the same with the actual share price. Besides, the investors behaviour are different between one another, hence, the pattern of the actual share price is not only based on market returns in general, but also depends on whether the level of the risk that the investors are willing to bear. . 0Conclusion In conclusion, we need to consider about inflation and unpredicted events when we investigate the market price. In addition, we need to distinguish nominal interest rate and real interest rate when we calculate. Appendix 1 Cash rate target Effective date New cash rate Adjusted cash rate 2011 4. 75 5 May 2010 4. 75 2010 3. 96 7 Apr 2010 4. 50 3 Mar 2010 4. 25 2 Dec 2009 4. 00 4 Nov 2009 3. 75 7 Oct 2009 3. 50 8 Apr 2009 3. 00 4 Feb 2009 3. 25 2009 4. 79 3 Dec 2008 4. 25 5 Nov 2008 5. 25 8 Oct 2008 6. 00 3 Sep 2008 7. 00 Appendix 2 Market Data for beta calculation Date Open High Low Close Volume Adj Close 3/10/2011 0. 81 0. 9 4 0. 79 0. 89 18267300 0. 89 1/09/2011 0. 85 0. 9 0. 74 0. 82 16091200 0. 82 1/08/2011 0. 87 0. 92 0. 68 0. 85 15948300 0. 85 1/07/2011 0. 98 1. 01 0. 86 0. 88 11603100 0. 88 1/06/2011 1. 09 1. 09 0. 94 0. 98 17479100 0. 98 2/05/2011 1. 32 1. 33 1. 03 1. 08 21843500 1. 08 1/04/2011 1. 29 1. 37 1. 25 1. 32 17067200 1. 32 1/03/2011 1. 29 1. 3 1. 17 1. 29 18402900 1. 29 1/02/2011 1. 34 1. 46 1. 28 1. 3 14583200 1. 3 4/01/2011 1. 4 1. 42 1. 33 1. 35 10259000 1. 5 1/12/2010 1. 37 1. 46 1. 36 1. 4 18060000 1. 4 1/11/2010 1. 44 1. 49 1. 32 1. 37 15254000 1. 37 1/10/2010 1. 45 1. 55 1. 4 1. 45 12209300 1. 45 1/09/2010 1. 47 1. 57 1. 44 1. 47 10714700 1. 47 2/08/2010 1. 48 1. 52 1. 33 1. 44 12983000 1. 43 1/07/2010 1. 3 1. 51 1. 29 1. 48 10254300 1. 46 1/06/2010 1. 52 1. 52 1. 26 1. 32 17287600 1. 3 3/05/2010 1. 72 1. 76 1. 4 1. 51 19697600 1. 5 1/04/2010 1. 79 1. 83 1. 72 1. 73 12311100 1. 71 1/03/2010 1. 62 1. 86 1. 62 1. 8 16808300 1. 78 1/02/2010 1. 7 1. 88 1. 64 1. 65 17412500 1. 63 4/0 1/2010 1. 74 1. 88 1. 7 1. 73 13261300 1. 71 1/12/2009 1. 63 1. 75 1. 56 1. 74 8904800 1. 72 2/11/2009 1. 55 1. 77 1. 52 1. 63 11449600 1. 62 1/10/2009 1. 72 1. 8 1. 52 1. 61 14759100 1. 59 1/09/2009 1. 46 1. 75 1. 42 1. 72 18761900 1. 7 3/08/2009 1. 49 1. 55 1. 4 1. 47 18455600 1. 46 1/07/2009 1. 19 1. 48 1. 07 1. 48 15136300 1. 46 1/06/2009 1. 15 1. 35 1. 15 1. 22 15624600 1. 21 1/05/2009 1. 18 1. 18 0. 99 1. 14 15047200 1. 13 1/04/2009 1. 01 1. 19 1. 01 1. 18 16260500 1. 17 2/03/2009 0. 95 1. 08 0. 8 1. 01 18923300 1. 01 2/02/2009 1. 35 1. 39 0. 92 1. 08 9490000 1. 07 /01/2009 1. 64 1. 76 1. 25 1. 4 5383300 1. 39 1/12/2008 1. 4 1. 67 1. 33 1. 63 7776700 1. 62 3/11/2008 1. 94 2. 09 1. 12 1. 35 8740000 1. 34 1/10/2008 2. 75 2. 76 1. 85 1. 92 6877000 1. 9 1/09/2008 2. 82 3. 11 2. 59 2. 64 7193700 2. 62 1/08/2008 2. 65 3. 05 2. 58 2. 82 10400800 2. 79 1/07/2008 2. 9 3. 2 2. 57 2. 75 8612800 2. 72 References & Bibliography * http//www. asx. com. au/asx/research/companyInfo. do? by=asx Code&asxCode=FMG * http//www. investsmart. com. au/shares/asx/Fortescue-Metals-Group-FMG. asp * http//www. fxj. com. au/shareholders/Fairfax_AnnualReport_2011. df * http//www. fmgl. com. au/IRM/Company/ShowPage. aspx/PDFs/2147-13354473/Appendix3 bAllotmentofShares * http//au. finance. yahoo. com/q/ao? s=FMG. 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