TSE:VLNS) by taking the expected future cash flows and discounting them to their present value. This is done using the Discounted Cash Flow (DCF) model. Don’t get put off by the jargon, the math behind it is actually quite straightforward.” data-reactid=”19″>In this article we are going to estimate the intrinsic value of Valens GroWorks Corp. (TSE:VLNS) by taking the expected future cash flows and discounting them to their present value. This is done using the Discounted Cash Flow (DCF) model. Don’t get put off by the jargon, the math behind it is actually quite straightforward.
Simply Wall St analysis model.” data-reactid=”20″>Remember though, that there are many ways to estimate a company’s value, and a DCF is just one method. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.
Check out our latest analysis for Valens GroWorks ” data-reactid=”21″>Check out our latest analysis for Valens GroWorks
What’s the estimated valuation?
We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second ‘steady growth’ period. To begin with, we have to get estimates of the next ten years of cash flows. 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.
Generally we assume that a dollar today is more valuable than a dollar in the future, so we need to discount the sum of these future cash flows to arrive at a present value estimate:
10-year free cash flow (FCF) estimate
|Levered FCF (CA$, Millions)||CA$1.48m||CA$52.2m||CA$63.8m||CA$33.4m||CA$44.9m||CA$41.7m||CA$39.9m||CA$38.8m||CA$38.3m||CA$38.2m|
|Growth Rate Estimate Source||Analyst x2||Analyst x2||Analyst x2||Analyst x1||Analyst x1||Est @ -7.06%||Est @ -4.44%||Est @ -2.61%||Est @ -1.33%||Est @ -0.43%|
|Present Value (CA$, Millions) Discounted @ 6.5%||CA$1.4||CA$46.1||CA$52.9||CA$26.0||CA$32.8||CA$28.7||CA$25.7||CA$23.5||CA$21.8||CA$20.4|
After calculating the present value of future cash flows in the intial 10-year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond the first stage. For a number of reasons a very conservative growth rate is used that cannot exceed that of a country’s GDP growth. In this case we have used the 10-year government bond rate (1.7%) to estimate future growth. In the same way as with the 10-year ‘growth’ period, we discount future cash flows to today’s value, using a cost of equity of 6.5%.
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is CA$710m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of CA$2.9, the company appears quite undervalued at a 47% discount to where the stock price trades currently. Valuations are imprecise instruments though, rather like a telescope – move a few degrees and end up in a different galaxy. Do keep this in mind.
We would point out that the most important inputs to a discounted cash flow are the discount rate and of course the actual cash flows. If you don’t agree with these result, have a go at the calculation yourself and play with the assumptions. The DCF also does not consider the possible cyclicality of an industry, or a company’s future capital requirements, so it does not give a full picture of a company’s potential performance. Given that we are looking at Valens GroWorks as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighted average cost of capital, WACC) which accounts for debt. In this calculation we’ve used 6.5%, which is based on a levered beta of 0.800. Beta is a measure of a stock’s volatility, compared to the market as a whole. We get our beta from the industry average beta of globally comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.
Although the valuation of a company is important, it shouldn’t be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to “what assumptions need to be true for this stock to be under/overvalued?” If a company grows at a different rate, or if its cost of equity or risk free rate changes sharply, the output can look very different. What is the reason for the share price to differ from the intrinsic value? For Valens GroWorks, We’ve compiled three fundamental factors you should further research:
- Risks: Take risks, for example – Valens GroWorks has 3 warning signs (and 1 which can’t be ignored) we think you should know about.
- Future Earnings: How does VLNS’s growth rate compare to its peers and the wider market? Dig deeper into the analyst consensus number for the upcoming years by interacting with our free analyst growth expectation chart.
- Other High Quality Alternatives: Do you like a good all-rounder? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!
search here.” data-reactid=”57″>PS. Simply Wall St updates its DCF calculation for every CA stock every day, so if you want to find the intrinsic value of any other stock just search here.
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This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned. Thank you for reading.” data-reactid=”58″>Love or hate this article? Concerned about the content? Get in touch with us directly. Alternatively, email [email protected].
This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned. Thank you for reading.