tag:blogger.com,1999:blog-8152901575140311047.post5163445850095897277..comments2024-03-29T05:33:33.027-04:00Comments on Musings on Markets: Go where it is darkest: When company, country, currency and commodity risk collide!Aswath Damodaranhttp://www.blogger.com/profile/12021594649672906878noreply@blogger.comBlogger43125tag:blogger.com,1999:blog-8152901575140311047.post-41983683520146273332015-02-27T05:59:10.750-05:002015-02-27T05:59:10.750-05:00Dear Professor,
could you do an update after yest...Dear Professor,<br /><br />could you do an update after yesterdays Vale S.A. financial report release?<br />It seems to me that oversupply lasts for verly long time. Just see the giant new iron ore projects (Rio, BHP and Vale's S11D-Project etc.). I think Vale need also more debt to fund the new projects.<br /><br />Moreover what do you think of the planned divestment of assets? What are the consequences for the value?<br />Thank you in advance.<br /><br />Best regards<br />ChrisAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-62811199662112598832015-02-03T05:41:40.460-05:002015-02-03T05:41:40.460-05:00Dear Mr. Damodaran,
Thanks for your great Analysi...Dear Mr. Damodaran,<br /><br />Thanks for your great Analysis of Vale S.A..<br />But what you think about the current stock Price movement compared to the market efficient hypothesis?<br />Furthermore there are big capex-projects ongoing. Don't you think this is to much oversuply to the iron ore market?<br />And what you think about the cash generating ability of Vale S.A.? <br />Thanks in advance.<br />chrisAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-74929348694483511802015-01-29T23:36:14.293-05:002015-01-29T23:36:14.293-05:00Aswath,
given current oil prices, don't you t...Aswath,<br /><br />given current oil prices, don't you think your Lukoil valuation is overly optimistic, do you?Anonymoushttps://www.blogger.com/profile/09321199966134403226noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-2785604582621118532014-12-17T09:00:27.379-05:002014-12-17T09:00:27.379-05:00Hi Prof.
you may maid an author mistake
the value ...Hi Prof.<br />you may maid an author mistake<br />the value per share that I get is $50.56, higher than the stock price of $45.30.<br /> it should be 80.74$ as in your excel and not 50.56$ <br /><br />thanksAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-13326082335494084112014-12-15T21:52:21.773-05:002014-12-15T21:52:21.773-05:00Professor,
See: http://www.economist.com/news/bu...Professor,<br /><br /><br />See: http://www.economist.com/news/business-and-finance/21636420-more-problems-are-being-revealed-brazils-oil-giant-coming-down-bump?fsrc=nlw|newe|16-12-2014|LA<br /><br />This is my suggestion to next post.Ayronhttps://www.blogger.com/profile/08553020626573734494noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-88488265761705402652014-12-13T10:36:28.598-05:002014-12-13T10:36:28.598-05:00Adn what you think about recent developments in us...Adn what you think about recent developments in us shale oil sector? What about companies like CLR? Is it still expensive/risky or it is good instrument to catch up oil prices from 60 to 80?Sergeinoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-78089005129427452672014-12-02T00:27:09.932-05:002014-12-02T00:27:09.932-05:00Hello Sir,
I am your new student in valuation.
I l...Hello Sir,<br />I am your new student in valuation.<br />I love the way you involve us in your thesis. thank a lot<br />I have a question that why you did not consider the working capital requirement and capex while calculating free cash flow ?Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-21357808990728599232014-11-30T07:59:07.528-05:002014-11-30T07:59:07.528-05:00Hi Professor,
I am one of your MBA students (Clas...Hi Professor,<br /><br />I am one of your MBA students (Class of 2014) and also a Lukoil investor for a long time (since 2004).<br /><br />The main risk that I see is indeed the political risk mentioned above by one of the anonymous guys. Recent events show that the owner / management of the company can be accused of buying some of the production assets and below-market prices, which you mentioned in your post, eventually leading to Lukoil becoming part of Rosneft.<br /><br />I personally think there is a high probability that all major Russian oil companies will sooner or later become part of Rosneft. Having that in mind, I think we can use the same metrics and multiples for Lukoil as we use for Rosneft.<br /><br />Still, as an "insider" in Russia, I believe that the geo-political situation (Ukraine crisis) will improve in the first half of 2015, and thus we should see the country risk premium (CDS) drop back to normal levels, which should positively affect the stock price.<br /><br />Thank you for your posts. I really enjoy them.<br /><br />Kind regards,<br />AlexanderAnonymoushttps://www.blogger.com/profile/15059197118071075802noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-13256614624576821852014-11-29T15:37:16.431-05:002014-11-29T15:37:16.431-05:00Dear Aswath, all the best for thanksgiving. Didn&#...Dear Aswath, all the best for thanksgiving. Didn't go through all numerical calculations but having to mention that dollar (currency risk) and oil price as both determinants of revenues where until lately self hedged (up to a significant level). That changed lately by the FEDs policy but I donot thing will last for long. In a distressed world economy I believe the 2% CAGR for demand is far too high (unless india break even china's declining rate of growth). Those factors along with the others expectations in the firm's domestic exchanges might explain part of the premium in the "fair"/expected" price for each share with the actual. But dear Aswath what is the consensus for this prices by the market?Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-90454934987638074032014-11-27T13:49:36.288-05:002014-11-27T13:49:36.288-05:00Hi professor!
Great post!
I don´t know if you ar...Hi professor!<br /><br />Great post!<br /><br />I don´t know if you are following up with last days in Brazil, but I have a suggestion to post: it is happening an investigation about irregular payments, from building sector (big company: Odebrecht, OAS, Camargo Correia, etc) to directors of Petrobras (they can contracts through those payments), so, what do you believe with valuation/effects in the enterprises? There are any possibles consequences like disabled contracts with Petrobras and Government Brazilian, etc.<br /><br />Maybe, the Brazil will have big risk in next years, because the enterprises are big five to build, airports, roads, trains, bridges, etc.<br /><br /><br />I like your comments with brainstorm between valuation and risk of project.<br /><br />Thanks!Ayronhttps://www.blogger.com/profile/08553020626573734494noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-43115109054828454842014-11-26T09:55:21.300-05:002014-11-26T09:55:21.300-05:00I am long 15% of my holdings in greece..and also o...I am long 15% of my holdings in greece..and also own the leveraged BRZU and RUSL which have holdings in the stocks mentioned.<br /><br />"..be greedy when others are fearful, and fearful when others are greedy..." <br />Hopefully i have quoted Warren Buffet accurately. Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-29806860333826503562014-11-26T09:32:59.301-05:002014-11-26T09:32:59.301-05:00Hi guys,
I was wondering how come you could simpl...Hi guys,<br /><br />I was wondering how come you could simply do a "terminal value" gordon growth model to value the operations of Vale and skip the DCF part of the calculation.<br /><br />Thanks!Thierrynoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-51352286831601218142014-11-25T06:16:18.218-05:002014-11-25T06:16:18.218-05:00Hi PRofessor, great analysis, quick question, how ...Hi PRofessor, great analysis, quick question, how do you arrive at the country risk premium of 8,5%?<br /><br />Thank youAnonymoushttps://www.blogger.com/profile/10651253940094003269noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-43122066095938726152014-11-23T21:38:10.147-05:002014-11-23T21:38:10.147-05:00Hello Professor,
I agree that Lukoil appears att...Hello Professor, <br /><br />I agree that Lukoil appears attractive at its current valuation, but I don't think that the price is as disconnected with value as you think. <br /><br />Lukoil, and oil companies generally, have significant divergences between depreciation and capex. Your model, which is EBIT-based, won't catch the disconnect, and the cash flow implications can be very large. <br /><br />More concerning, even though capex has exceeded depreciation over a long time period (10 years or more, if memory serves), production has hardly grown, and has shrunk for many of the Western oil majors. <br /><br />It is not entirely clear what is going on, but it seems that as oil gets more difficult to extract, companies are depreciating old, easier-to-develop, less expensive barrels, but are capitalizing their investments into new more difficult projects. As depreciation "catches up" with capex, the true earnings number may be far lower than you would expect.Stanleynoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-34870145501299948382014-11-23T18:03:38.147-05:002014-11-23T18:03:38.147-05:00Assaf,
I am not ruling out this possibility. My on...Assaf,<br />I am not ruling out this possibility. My only point is if this is the way you see the world unfolding, there is a load of pain in commodity stocks, and especially among those that have not suffered as much as Vale has. <br />I do think that you have a point about what the norm is in commodity companies. If you go back long enough, the normal price (even if corrected for inflation) can be very different than if you go back a shorter periods. Perhaps, there are long cycles and short cycles in commodities and we don't keep track of the long cycles.Aswath Damodaranhttps://www.blogger.com/profile/12021594649672906878noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-49321463327454629282014-11-23T09:10:47.825-05:002014-11-23T09:10:47.825-05:00Just one more thing -
China is consuming more iro...Just one more thing - <br />China is consuming more iron ore per capita than any other nation in the world, by a far margin.<br /><br />If it were to cut its consumption by a half or more will not mean that it will fall into a long recession. It will just mean that it will base its economy on viable growth models other than infrastructure investments. <br /><br />Take EU iron ore consumption or other Asian nations like Vietnam, they consume a fraction of Chinese iron ore per capita, even if you look at Europe's happy days back in 2005.Assaf Nathanhttp://www.assafnathan.comnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-31580268581817308302014-11-23T09:07:24.103-05:002014-11-23T09:07:24.103-05:00Thank you Professor.
Regarding the price of iron ...Thank you Professor.<br /><br />Regarding the price of iron ore, I would argue that a price of below 50 USD / ton is not such an extreme scenario as you imply from your response.<br /><br />25 year, inflation adjusted price average for iron ore will give you an average of 52 USD per ton.<br /><br />The longer you stretch the average, the lower the price you get, even after adjusting for inflation. Nowhere in Human history iron ore saw such a rise as it saw in the last 10 years.<br />This suggests that the current, abnormally high prices of iron ore are a mere result of a "blip" in history, in which a relatively short time of about 10 years imbalance of supply and demand occurred. <br /><br />Otherwise, it is impossible to explain how VALE and RIO and others are mining iron ore for about 20-40 USD per ton and sell it for 100, enjoying margins like Louis Vitton. Iron ore is abundant in our planet, there is no "peak ore" like for other commodities, it is not of limited supply like wheat that has limited growing areas and - iron is recyclable. <br /><br />High margins cause more competition and more recycling. <br /><br />I would also argue that it is incorrect to adjust past prices of iron ore to inflation. On October 1989 a ton of iron ore cost 14 USD. Since then, technology has improved, recycling technology has improved, mining is more efficient, and world population grows at a much slower pace. Taking all those into account, I would argue that the "Normal" Iron ore price should be lower than the inflation adjusted price. USD Inflation was about 100% since 1989, which means Adjusted price would be 28 USD per Ton. I would regard this price as the Maximum normal price, and not as a Minimum. <br /><br />I have analyzed the supply that will enter the market in the coming years and the situation does not look bright. In the coming 2 years more than 400 million tons of ore supply will be added to the market, increasing world supply by 30%. The Chinese Giant need not standstill for prices to collapse further, it is enough that the next 2 years China will not grow fixed assets investments at the rate of 20%.<br /><br />Another factor your thesis neglected to mention is the market structure. VALE is very distant from its primary customer - China. RIO and BHP enjoy a much greater proximity working in Australia and S.E Asia. This gives them a competitive advantage over VALE - since shipping prices are fixed, and VALE's already low mining cost, they have much more room for cost savings then VALE. <br /><br />I think your thesis will enjoy a temporary tailwind from recent rate cut in China and maybe more stimulus but for the long term I think your Thesis will be proven overly optimistic by a wide margin. <br /><br />I would calculate VALE fair price at about 5-6 USD over the long term, maybe even less, under 70-50 USD *optimistic normal* price per tone of Iron ore.<br /><br />Thank you again,<br />AssafAssaf Nathanhttp://www.assafnathan.comnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-2377019166522539252014-11-23T08:14:35.867-05:002014-11-23T08:14:35.867-05:00Ref: US dollar versus Brazilian Real valuations
H...Ref: US dollar versus Brazilian Real valuations<br /><br />Here is the comment and my response:<br /><br />"1. On the currency issue, while I usually prefer to value companies in the local currency, commodity companies are generally easier to value in US dollars, because their revenues are dollar-based. My cash flows are therefore done in US dollars as is my discount rate. (I could have valued Vale in nominal Reails and Lukoil in Rubles. My discount rates would have been higher but so is my growth rate, with higher inflation in both)."<br /><br />One follow up question on that: The real interest rate (nomminal rate -inflation) is much higher in Brazil compared to the US, around 6-7% compared with 0-1% in US.<br /><br />So wouldn't a Real based cost of capital rate lead to a lower NPV for Vale ?<br /><br />memyselfandi007<br /><br />My response: <br />When you say the real interest rate in Brazil is 6-7%, I think you must be getting there by subtracting out the actual inflation rate (as reported by the Brazilian government) from the nominal Real long term government bond rate to get to that value. I think that number is over stated because the (a) official inflation rate in Brazil understates actual inflation, as is common in most countries, where governments are not unbiased arbiters of this number and (b) the nominal Real government bond includes a default spread. If you net these out, it is amazing how close real interest rates become across the world.Aswath Damodaranhttps://www.blogger.com/profile/12021594649672906878noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-29639521307166314032014-11-23T08:10:26.772-05:002014-11-23T08:10:26.772-05:00An excellent comment and my response below:
Hello...An excellent comment and my response below:<br /><br />Hello.<br /><br />I would like to point out some possible hidden assumptions in your work, that invalidates your final conclusion.<br /><br />1. Taking VALE LTM operating earnings contains the hidden assumption of iron ore prices average 110 USD/ton, the average price over the last LTM. Stretching that to the infinitum creates a dangerous assumption of iron ore prices above 100 USD /ton built into the valuation, to infinity.<br /><br />2. To take a "margin of safety" you considered a 20% drop in the operating earnings of VALE. But iron ore dropped much more than 20% than the average price on which your thesis is bulit on -110 USD/ton (see #1). Moreover, a percentage drop in the value of the commodity will cause a much larger drop in operating income due to operational leverage. Since iron ore is trading at about 70 USD / ton, 40% less than the average on the recent LTM price, a more deep discount would be warranted - like a 50 or 60% drop in operating income.<br /><br />3. You can see that during the last quarter VALE's underlying earnings (earnings adjusted to special charges) dropped 80% comparing to previous quarter (avg iron ore prices of ~120 USD/ton), which empirically proves my point - your valuation assumes iron ore prices to rise to 110 USD, LTM average.<br /><br />4. I think a much deeper valuation of the business itself is required than a simple average of operating income. To make for a margin of safety, one would first calculate or estimate VALE's earnings power under adverse scenarios, like iron ore at 50 USD per tonne or below, for his thesis to include a margin of safety. <br /><br />Right now I suspect that this thesis fails to do so as it tries to value a commodity company with extremely generous hidden assumptions on the underlying commodity price, conditions that were not met even during the last 9 months, before a large supply will enter the market in 2015.<br /><br />If you do this exercise I suspect you will see that VALE is currently overvalued or at least does not supply a margin of safety.<br /><br />Assaf <br /><br />Assaf,<br />You are right. There is the real danger that iron ore prices could collapse to $50, but to do your valuation with that scenario is to assume that they will collapse and stay collapsed. That is possible, but if that were the case, you would make far more money selling short on BHP Billiton, since it would require that the Chinese economy come to a standstill and perhaps fall into a long-term recession.<br /><br />I think you have a good point on the immediate effect of the iron ore price collapse being greater than the 20% that I have estimated though extrapolating from the last quarter's data (when everything was caving in for Vale) is not fair. I think it will make more sense to look at the earnings of global iron ore producers during the period to get a measure of how sensitive earnings are to iron ore prices.<br /><br />Finally, I personally don't much care for margin of safety. While there are some who use it sensibly (I love Seth Klarman's writings on it), for most value investors, it is the shield that they use from ever acting. They do conservative (often worst case) valuations of companies and then knock 20% of these valuations and then complain that the price is too high. I am not suggesting that you are guilty of it, but if I waited for the absolute worst case scenario to unfold, the value will also reflect that worst case scenario, and I am not sure that the price/value ratio is going to be better there than it is now.Aswath Damodaranhttps://www.blogger.com/profile/12021594649672906878noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-10229558042917839292014-11-22T16:56:59.347-05:002014-11-22T16:56:59.347-05:00You pay the effective tax rate on your cash flows ...You pay the effective tax rate on your cash flows (which are global and are taxed at a weighted average tax rate across the globe) but you can choose to park your debt in the country where you get the highest tax benefit (with the highest marginal tax rate).Aswath Damodaranhttps://www.blogger.com/profile/12021594649672906878noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-53091147188202012652014-11-22T13:10:59.612-05:002014-11-22T13:10:59.612-05:00In Vale, why do you use 20% tax rate in perpetuity...In Vale, why do you use 20% tax rate in perpetuity formula but 34% in Cost of Capital calculation?Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-7853477239211907292014-11-22T12:46:16.677-05:002014-11-22T12:46:16.677-05:00What marginal tax rate of 40%? Neither company is ...What marginal tax rate of 40%? Neither company is a US company and Brazil & Russia follow a territorial tax model where you pay taxes based on where you make your income, not based on where you are incorporated.Aswath Damodaranhttps://www.blogger.com/profile/12021594649672906878noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-43562919943417117962014-11-22T11:57:24.718-05:002014-11-22T11:57:24.718-05:00Why are you using tax rate of 20% as perpetuity in...Why are you using tax rate of 20% as perpetuity instead of marginal tax rate of 40%? <br /><br />Do you think 20% is sustainable that long?Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-68121570811989516692014-11-22T07:53:32.132-05:002014-11-22T07:53:32.132-05:001. On the currency issue, while I usually prefer t...1. On the currency issue, while I usually prefer to value companies in the local currency, commodity companies are generally easier to value in US dollars, because their revenues are dollar-based. My cash flows are therefore done in US dollars as is my discount rate. (I could have valued Vale in nominal Reails and Lukoil in Rubles. My discount rates would have been higher but so is my growth rate, with higher inflation in both).<br />2. On profits, I am focusing on operating income. Vale has extraordinary charges and interest expenses that made their net income negative in the last period.<br />3. On the question of why I used only a 20% drop in operating income to sensitize my valuation, this is not a one-year but a permanent drop. That is a pretty drastic lowering in earning capacity for a commodity company.<br />4. On the issue of the Putin risk to Vale, I am glad to see some details popping up. It is one reason that I feel better about my Vale investment than I do my Lukoil investment.Aswath Damodaranhttps://www.blogger.com/profile/12021594649672906878noreply@blogger.comtag:blogger.com,1999:blog-8152901575140311047.post-66141818243072136362014-11-22T00:38:51.483-05:002014-11-22T00:38:51.483-05:00What you are missing on Lukoil isnt just the gover...What you are missing on Lukoil isnt just the governance risk and the country risk but also the politics risk. Sistema just lost Bashneft with no recourse and its CEO was placed under house arrest. As you can see its performance on its London listing (http://www.bloomberg.com/quote/SSA:LI), the price risk of the war/sanctions and oil drops were priced in. What wasnt was the possibility that Putin would arrest the owner and take away the asset. Anonymousnoreply@blogger.com