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Royal Gold: Undervalued By 27%; 20-Year Dividend Growth Streak

Gold miners have been rallying and Royal Gold could benefit from the value in this space.

Royal Gold (RGLD), together with its subsidiaries, acquires and manages precious metal streams, royalties and related interests. It focuses on acquiring stream and royalty interests or financing projects that are in the production or development stage in exchange for stream or royalty interests, which primarily consist of gold, silver, copper, nickel, zinc, lead and cobalt. I consider it to be one of the more popular gold mining stocks.

Current Situation & Past Performance

I call the orange line on the chart below "the good margin of safety” line. Under this line, I consider a stock to be potentially undervalued. RGLD has consistently traded at a very high multiple, which is why sometimes it's better to look at EBITDA. EBITDA relative to the P/E ratio looks very attractive and suggests that the company is more stable.

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The forward P/E ratio of 26.32 is a little on the high side. I'd prefer to see it under 25.

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In the last 20 years, the total annual rate of return was 18%. The price, however, was very volatile, so it would likely be better to consider a long-term buy-and-hold period of at least 10 years.

Annual revenue growth has been solid. Since 2015, total revenues have more than doubled.

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Dividend Outlook

Royal Gold’s current dividend yield is only 1.28%, which is on the lower end, but dividend quality is high and the payout is safe. Historically, there was a period in the mid-2010s where the payout ratio was over 75%, but mostly has been below 50%, including its current payout ratio of 32%. This is a very healthy number and it tells me that the company can manage its dividend payouts.

The yield is small but how about the growth of the dividend? RGLD has paid a dividend since 2002 and has been growing it for 20 consecutive years. The 5-year dividend growth rate has been 10% annually.

Share buybacks can be a good thing, but share issuances can be a silent killer for investors. If the company increases the number of shares outstanding, it can dilute existing share value. Unfortunately, RGLD has been issuing shares regularly. This has mostly occurred in order to fund capital expenditures, but not because of dividend obligations.

If the price goes lower and you can capture a forward-looking 1.5% yield, investors should consider buying.

Forecasting Future Growth

The future does look good for the company and expectations are that earnings will continue growing. Based on 11 analysts, the estimated future earnings growth rate is 15.51% yearly.

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Fair Value

I use the most widely accepted method to calculate the fair value of a company - the discounted cash flow (DCF) model. It is based on the premise that the fair value of a company is the total value of its future cash flows discounted back to today's prices. I use analysts' estimates of cash flows and assume the company grows at a stable rate into perpetuity.

Total Equity Value = Present value of next 10 years cash flows + Terminal Value = $3,309 + $6,576 = $9,885

Equity Value per Share (USD) = Total value / Shares Outstanding = $9,885 / 66 = $150.61

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That would put the current fair value of RGLD at $150.61. The current share price would be undervalued by 27.6%.

Risks & Overall Takeaway

Investing in gold miners could present a better opportunity than investing directly in physical gold. The price action in the short-term can be volatile, but the long-term investment prospects are more attractive. RGLD's yield is comparatively small, but it's safe and growing.

From the standpoint of financial health, EBITDA looks attractive, but the valuation of the stock using the P/E ratio suggests it looks expensive to buy right now. The relative value looks favorable, but there may be better entry points.

Competitors in the sector: Kinross (KGC), B2Gold (BTG)

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