Assessing Sprott (TSX:SII) Valuation After Launch Of Rare Earths Ex China ETF

Why the new rare earths ETF matters for Sprott (TSX:SII)

Sprott (TSX:SII) is expanding its ETF lineup with the Sprott Rare Earths Ex-China ETF. This fund gives investors targeted exposure to rare earth companies outside China amid growing supply chain and security concerns.

The launch of the Rare Earths Ex-China ETF comes after a choppy stretch for the stock, with a 12.57% 7 day share price return decline and a 5.07% 30 day share price return. However, the year to date share price return of 28.38%, alongside a 1 year total shareholder return of 150.29%, points to strong longer term momentum.

After a strong 1 year total shareholder return and with shares trading about 13% below the CA$201.60 analyst price target, the key question is whether Sprott is still mispriced or if the market already reflects future growth.

Preferred P/E of 50x: Is it justified?

At a last close of CA$178.31, Sprott trades on a P/E of 50x, which indicates the market is placing a rich price on its current earnings compared to peers.

The P/E ratio compares the share price with earnings per share. A higher figure usually reflects stronger recent growth or expectations for higher future profitability. For an asset manager like Sprott, which depends on fee income and investment performance, the P/E often captures the market’s view on how durable that earnings stream might be.

Sprott has reported earnings growth of 36.6% over the past year and 17.4% per year over the past 5 years, with high quality earnings and faster recent growth than the broader Capital Markets industry. That kind of record may help explain why investors are willing to pay a premium multiple, even though current net profit margins are lower than last year and return on equity of 17.5% is below a 20% high bar.

Compared with the Canadian Capital Markets industry average P/E of 9.9x and a peer average of 10.3x, Sprott’s 50x multiple is far higher. This indicates the stock is priced well above sector norms rather than in line with them.

Result: Price-to-Earnings of 50x (OVERVALUED)

However, there are clear risks, including reliance on capital markets activity for fee income and the possibility that rare earths sentiment cools, which could limit inflows into new products.

Another view from the SWS DCF model

While the 50x P/E points to an expensive share price, the SWS DCF model goes even further. At CA$178.31, Sprott trades well above an estimated future cash flow value of CA$44.23, which also suggests the stock is overvalued. So what would need to change for that gap to close?