ValueLine: Something special
Matrix is a stock with the lot. It was added to Roger Montgomery’s Value Line portfolio in August 2010. Since that time, and with Middle East tensions fuelling the price of oil, MCE is soaring. Its competitive advantages combined with deep-sea exploration expertise put this A1 stock in a league of its own. Read Roger’s article at www.eurekareport.com.au.
Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
Steve
:
Roger mentioned on Your Money Your Call last night that he values MCE closer to $11. Perhaps this has been updated with the recently announced results etc.
John Watson
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Hi David,
When you start calculating IVs in forward years you need to become increasingly conservative in your assumptions of ROE and POR as the assumed ROE and POR that you apply are effectively being assumed to continue forever and it is unlikely that any company will generate a 40% ROE forever and keep a POR of 12.7% forever.
I cap ROE at 35% and assume a POR of at least 40% when calculating IVs for 2013 and beyond.
I have posted previously that we might need to look at a 3 step valuation model for IVs like the 3 step DCF used by brokers in which explicit cash flow foecasts are entered for 5 years followed by a fade (decline in growth rate over a certain number of years) and a lower terminal growth rate.
Ultimately no company can grow faster than GDP forever, otherwise it will grow to become the entire economy.
Ash Little
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Hi Guys
Still a way to go yet in my humble opinion
Pat Fitzgerald
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Hi Ashley
I have decided to use the highest EPS estimates for MCE because they are lower than my estimates and I now get an IV for 2011 of $11.51 (POR=40%, ROE=55 & RR=13) and $14.80 for 2012 (POR=40%, ROE=52.5 & RR=13). So I agree that there is a way to go.
David
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I have been trying to apply the Value Able principles as noted in the book but occasionally the future intinsic value of a company throws out somthing odd, in this case the star stock ‘MCE’.
Removing share issues, buybacks, aquisitions or divestments etc for the sake of simplifying the calculations.
If the 2010 Equity Per Share = $0.86
Analysts predict for 2011
Earnings Per Share = $0.553
Dividends Per Share = $0.07
Payout Ratio = 12.7%
Projected 2011 ending Equity would be = $1.34 per share
Average equity per share for 2010 & 2011 = $1.1015
RO(average equity) = 50.2% (but I will use 40% RO’average equity’ to keep things in line with results for 2010.)
If we use Required Return (RR) of 11%
Table 1 ‘Income multiplier’ = 3.636
Table 2 ‘Growth multiplier’ = 10.214
Now if I multiply out the results using ending equity per share of $1.34,
Intrinsic value = $12.60, which seems on the high side given Roger’s valuation of around $8.49
Am I being too generous with the 40% ROE or too hard on the company with an 11% RR or a combination of both ?
Or should I been using the starting Equity per share of $0.86 in the calculations ?
It seems the further out I project the intrinsic value using the analyst forecasts, the bigger the difference in the intrinsic value becomes, which makes me think it’s my equity per share values that I’m using may be causing the problem because if you keep the other variables like RR and ROE constant, the only other variable to really change is the Equity per share.
It would be great to see if other Value-able graduates come up with different IV’s using the data above.
Last note, MCE has some outstanding attributes that make it a noteworthy stock to keep an eye on.
Ash Little
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Hi David,
I think Roger now has a IV in double figures after the upgrades recently.
My High IV is $12.99 so close to yours.
We need to keep an eye on cashflows for 2012 and beyond that can’t be reinvested at the juicy ROE
Pat Fitzgerald
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Hi David
I don’t know what other people use but I have been using a RR of ’13’ for the smaller mining services businesses like MCE, FGE, DCG, MLD, NWH, SDM etc. I use a lower RR for MIN, MND & WOR. Possibly I should be using a lower RR for MCE as well but as Roger has mentioned the Oil industry is cyclical. For future years I have used a higher payout ratio for MCE. Looking at the insights that Roger supplied the other day, analysts forecasts for MCE may be too low and our current IV’s will become obsolete.
Joab Soh
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Hi David,
An alternative way to think about RR is to associate it with your assessment of the risk of the business default (or liquidity event), or simply Roger’s MQR.
So the higher the risk, the higher the RR. I think size is a factor as you have suggested, but I don’t think bigger companies has lesser risk just because of it’s size.
My personal preference is to focus on having a sufficient Margin of Safety rather than trying to determine an accurate IV.
So it doesn’t bother me whether MCE is valued at $11 or $13 as long as I can buy it at a significant discount.
David
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Hi to all those who have responded to my post,
I appreciate the all the contributions of fellow Value able graduates.
The margin of safety is relative to the IV, you can’t accurately determine the margin of safety without first establishing the IV. Without an IV, that you have confidence with, you have a margin of safety with a buffer of approx 18% if your IV could be $11 or $13. That’s a magin of safety in itself.
An RR of 13 seems on the high side given Roger uses 8% to 10% as a guide and has a preference for 10% (p.180) and uses 12% in his example (p.192 – 193) showing how a higher RR being used arguably means a smaller margin of safety is required.
My preference at present isn’t to estimate IV’s out more than 2 years using analyst forecasts (including the current year FC) as the further out we go the greater the level of uncetainty. Sure it’s nice to take a peek into the future to see how things are trending.
The real thing that draws me to Roger’s IV calculation method is that we all can determine our own IV for a company, as not all the parameters are set in the model, we can choose our own RR and even the ROE and POR to a lesser extent.
I really just wanted to ensure I should be using ending (projected equity using 2011 analyst FC) equity per share of $1.34 and not the starting equity per share when applying the Growth & Income multipliers. Thanks Ash, it seems like we are on the same page so I must be doing something right.
Keep up th good work people and thanks again for all the feedback.
Matthew R
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Hi David – welcome! It is great to see you getting in to it!
May I suggest that you don’t reduce your margin of safety if you are using a higher required return? The margin of safety is exactly what it says it is. The other inputs are your best guess, and the MoS is the safety net for your fallible self (& the companies short term prospects!)
In practical terms, a big MoS also provides you with some protection of capital AND can lead to the highest short term return on your money. Hence why “margin of safety” was referred to by Ben Graham as the three most important words in investing
Andrew
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Exactly, think of the margin of safety as an insurance premium against your investing decision.
The valuation is an ESTIMATE of worth. Not shouting it just wanted to emphasize the word estimate. Estimate is a guess and there for there is a chance we can get it wrong.
We want a big enough margin of safety to help reduce any mistakes that might be input into our estimate of IV. If we get it right the margin of safety will help turbo charge our returns, if we get the IV wrong the margin of safety will mean in a worse case scenario we should still grind out a return.
Don’t go to the investments, make the investments come to you and meet your terms.
David V
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Thanks Lloyd,
I like your last sentence and concur. I believe many people who now follow Roger’s model/ideals place a significant proportion of their investment actions on Roger’s thoughts, rather than making their own value judgements. I certainly can’t offer enough praise to Roger for sharing this strategy with us and teaching us to think for ourselves.
Lloyd
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Roger,
On the subject of oil prices, you note in your ValueLine article (ValueLine: Something special) published in the Eureka Report yesterday evening that this provides some further underpinning for the enthusiasm in MCE’s growth prospects.
In the article you say in connection of some peoples’ expressed concerns on the growth outlook for the business that …. “I suggest that this view might be a tad premature and my most recent estimates have the company trading at a discount of more than 18% to intrinsic value.”
In the table at the bottom of the article you quote an IV (accompanied by the footnote: Latest Intrinsic value update February 23, 2011) of $4.85/share for MCE.
The share price has traded around this quoted IV in recent weeks.
So which is correct, the statement regarding the discount to IV, or the IV quoted in the table, or are you now considering the higher end of a range of IV’s that is roughly 20% above yesterdays close?
Worthy of note is that you have the power to move markets with MCE now up 5% within the first few hours of trading after the publication of “ValueLine: Something special”….. this is a gift but also a burden!
Regards
Lloyd
Pat Fitzgerald
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Hi Lloyd
The table in ‘ValueLine’ has been updated.
Ash Little
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Hi Roger,
Something special is well named.
Go MCE but if you pull back abit Mae West will be put further into action
Greg Mc
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Not surprising to see MCE have a good day yesterday (and today) given this article. Interestingly, the 18% discount to IV that Roger wrote about was non-existent when the article actually came out on Wednesday and it has charged up further since. A day or two can make a big difference! Like you, I’m biding my time on this one.