Valuation multiples are key metrics that investors consider carefully. With the help of relative valuations, we can compare a company’s valuation with its closest peers’ valuations. There are several valuation metrics we can use.
For companies in cyclical industries such as steel and mining, the EV-to-EBITDA (enterprise value to earnings before interest, tax, depreciation, and amortization) multiple is the preferred valuation metric. The forward EV-to-EBITDA multiple tells us how a company is valued for each dollar of EBITDA.
The above graph shows the forward EV-to-EBITDA multiples of various steel companies, some of which have captive iron ore mines. United States Steel (X) is trading at a substantial premium to its long-term trading multiples. Nucor (NUE), Steel Dynamics (STLD), and AK Steel (AKS) are also trading at premiums to their long-term trading multiples.
Cliffs Natural Resources (CLF) is trading at a forward EV-to-EBITDA multiple of 10.5x compared to its last five-year average of 8.2x. While Cliffs might look expensive, it’s important to note that the company went through one of its worst phases in the last two to three years due to ill-timed investments, which led to burgeoning debt and losses.
Is Cliffs’s valuation justified?
It’s also worth noting that even after the current 250% rise in Cliffs’s share price year-to-date, the price has only reached last January’s level when US (VTI) steel prices were 15% lower than the current level. Given management’s upbeat commentary in 2Q16, the earnings estimates should rise.
The company’s further efforts to reduce debt and increase market share could be further catalysts. It will be interesting to see the company’s 3Q16 results and whether there will be an announcement about reducing its iron facility.