How far off is Franchi Umberto Marmi S.p.A. (BIT:FUM) from its intrinsic value? Using the most recent financial data, we’ll take a look at whether the stock is fairly priced by estimating the company’s future cash flows and discounting them to their present value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this. Before you think you won’t be able to understand it, just read on! It’s actually much less complex than you’d imagine.
We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.
We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company’s cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. In the first stage we need to estimate the cash flows to the business over the next ten years. Where possible we use analyst estimates, but when these aren’t available we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, so we discount the value of these future cash flows to their estimated value in today’s dollars:
10-year free cash flow (FCF) estimate
|Levered FCF (€, Millions)||€10.5m||€12.0m||€18.5m||€22.4m||€25.9m||€28.8m||€31.3m||€33.3m||€35.0m||€36.4m|
|Growth Rate Estimate Source||Analyst x2||Analyst x2||Analyst x1||Est @ 21.21%||Est @ 15.41%||Est @ 11.34%||Est @ 8.5%||Est @ 6.51%||Est @ 5.11%||Est @ 4.14%|
|Present Value (€, Millions) Discounted @ 8.6%||€9.6||€10.2||€14.4||€16.1||€17.1||€17.5||€17.5||€17.2||€16.6||€15.9|
(“Est” = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = €152m
The second stage is also known as Terminal Value, this is the business’s cash flow after the first stage. The Gordon Growth formula is used to calculate Terminal Value at a future annual growth rate equal to the 5-year average of the 10-year government bond yield of 1.9%. We discount the terminal cash flows to today’s value at a cost of equity of 8.6%.
Terminal Value (TV)= FCF2030 × (1 + g) ÷ (r – g) = €36m× (1 + 1.9%) ÷ (8.6%– 1.9%) = €549m
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= €549m÷ ( 1 + 8.6%)10= €240m
The total value is the sum of cash flows for the next ten years plus the…
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