How do you value the Woodside Petroleum (ASX:WPL) share price?

How do you value shares in this Aussie energy giant?

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The Woodside Petroleum Limited (ASX: WPL) share price has been one to watch in recent weeks. Shares in the Aussie energy giant climbed 2.4% higher on Wednesday to arrest a recent slide.

However, the company’s shares remain down 7.1% year to date in what is quickly becoming a formative year for the petroleum producer. So, how can investors focus on valuing the Woodside Petroleum share price in the current environment?

How do you value the Woodside Petroleum share price?

As with any energy or resource share, underlying commodity prices play an important part in valuation. It’s important for investors to understand the macro environment that underpins the outlook for ASX companies like Woodside.

Oil prices have been up and down throughout 2021. However, both WTI and Brent crude oil prices jumped more than 2% overnight in a good sign for the Woodside Petroleum share price.

It is worth noting that valuation is more of a long-term game. Investors are mostly concerned about their future cash flows from an investment, hence why the share market is often said to be forward looking.

In general, there are a few different ways to value ASX companies like Woodside. A commonly used measure of fundamental value includes a discounted cash flow (DCF) analysis. This involves modelling out key value drivers like forecast commodity prices, cost of debt and equity (to get a weighted-average cost of capital or “WACC”) and underlying expenses like operating and capital expenditure.

Discounting these back to today’s figures, and calculating a terminal value in the final year of the model, is one way investors can assess the intrinsic value of the Woodside share price.

What if I don’t want to use a full cash flow model?

Given the imprecise nature of valuations, it often pays to use multiple methodologies. Other common valuation techniques include relative value analysis, using metrics such as the price-to-earnings (P/E) ratio, and comparable transactions approach.

The Woodside Petroleum share price currently trades at a P/E ratio of 41.6 times earnings. What investors can do is assess how that compares to the P/E ratio of peers like Santos Ltd (ASX: STO) and a broader group. For reference, the Santos share price currently trades at a P/E ratio of 33.6 times. This helps to give a sense of where the Woodside share price sits relative to similar companies in order to assess value.

The comparable transactions approach is simple but can be tricky to find meaningful results. It involves finding recent mergers and acquisitions, gaining an average transaction multiple, discounting the value for a control premium by the acquirer, and applying that adjusted multiple to the Woodside Petroleum share price.

This is useful as it estimates what players in the market would actually be paying and can give a good market value guide. The downside is that there is often a limited set of truly comparable transactions relevant to the company.

Foolish takeaway

There’s no doubt it’s difficult to value the Woodside Petroleum share price right now. The group’s shares are down 7.1% in 2021 amid its BHP Group Ltd (ASX: BHP) merger, as well as changing oil prices.

Investors looking to value the company need to look at the long-term prospects for both crude oil and liquid natural gas (LNG). This could help inform the cash flows required to reach an intrinsic valuation in a DCF model.

Another option is to assess the relative value of the company’s shares. This can be done by using metrics such as the P/E ratio or comparable transactions in the market.

Should you invest $1,000 in Woodside Petroleum right now?

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Motley Fool contributor Ken Hall has no position in any of the stocks mentioned. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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