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This P/E Suggests Randgold Resources Limited is a Buy

The FTSE 100 has risen by more than 80% since it hit rock bottom in 2009, and bargains are getting harder to find.

I’m on the hunt for companies that still look cheap, based on their long-term earnings potential. To help me hunt down these bargains, I’m using a special version of the price to earnings ratio called the PE10, which is one of my favourite tools for value investing.

The PE10 compares the current share price with average earnings per share for the last ten years. This lets you see whether a company looks cheap compared to its long-term earnings.

Today, I’m going to take a look at the PE10 of FTSE 100 gold miner Randgold Resources Limited (LSE: RRS) (NASDAQ: GOLD.US).

Is Randgold Resources a buy?

Over the last ten years, Randgold’s share price has risen by 654%. The firm has delivered rising profits, has net cash of $250m, and no debt — despite capital expenditure of $563m last year.

The only trouble is that the firm’s soaring valuation was linked to the price of gold. Since the start of March, both gold and Randgold’s share price have fallen by around 22%.

Randgold’s rising production and falling share price means that it’s cheaper than it has been for a long time, as these figures show:

  Trailing
P/E
PE10
Randgold Resources 13.3 43.3

Randgold’s P/E of 13.3 is not exactly cheap, but it is substantially less than the firm’s PE10 of 43.3, which reflects its sustained growth and historically high valuation.

The firm claims its reserves can be profitably mined as long as the price of gold remains above $1,000 per ounce. I don’t expect gold to fall below this level, as it would put many gold producers out of business, resulting in a shortage of supply and rising prices.

75% production increase

Randgold’s profits are expected to fall by around 20% this year, before rising again in 2014, as production ramps up at the firm’s Kibali mine, which is due to start producing gold later this year.

Gold production from Kibali is expected to reach 600,000 ounces per year when the mine finishes ramping up — 75% more than Randgold’s total production in 2012.

I believe that Kibali’s potential makes Randgold a buy, but I’m waiting on the sidelines for now, because I think that gold may still have further to fall, which could make Randgold’s shares cheaper still.

Can you beat the market?

If you already own shares in Randgold Resources, then I’d strongly recommend that you take a look at this special Motley Fool report. Newly updated for 2013, it contains details of top UK fund manager Neil Woodford’s eight largest holdings.

Mr. Woodford’s track record is impressive: if you’d invested £10,000 into his High Income fund in 1988, it would have been worth £193,000 at the end of 2012 — a 1,830% increase!

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> Roland does not own shares in any of the companies mentioned in this article.