Calculating The Intrinsic Value Of RPMGlobal Holdings Limited (ASX:RUL)

Key Insights

• Using the 2 Stage Free Cash Flow to Equity, RPMGlobal Holdings fair value estimate is AU$1.99

• Current share price of AU$1.75 suggests RPMGlobal Holdings is potentially trading close to its fair value

• Peers of RPMGlobal Holdings are currently trading on average at a 148% premium

Today we will run through one way of estimating the intrinsic value of RPMGlobal Holdings Limited (ASX:RUL) by projecting its future cash flows and then discounting them to today's value. This will be done using the Discounted Cash Flow (DCF) model. It may sound complicated, but actually it is quite simple!

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. 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.

See our latest analysis for RPMGlobal Holdings

Step By Step Through The Calculation

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. 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) forecast

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (A$, Millions)	AU$13.0m	AU$16.4m	AU$18.9m	AU$21.1m	AU$23.0m	AU$24.5m	AU$25.8m	AU$26.9m	AU$27.9m	AU$28.8m
Growth Rate Estimate Source	Analyst x1	Analyst x1	Est @ 15.53%	Est @ 11.49%	Est @ 8.67%	Est @ 6.69%	Est @ 5.31%	Est @ 4.34%	Est @ 3.66%	Est @ 3.19%
Present Value (A$, Millions) Discounted @ 7.1%	AU$12.1	AU$14.3	AU$15.4	AU$16.1	AU$16.3	AU$16.2	AU$16.0	AU$15.6	AU$15.1	AU$14.5

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = AU$152m

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 2.1%. We discount the terminal cash flows to today's value at a cost of equity of 7.1%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = AU$29m× (1 + 2.1%) ÷ (7.1%– 2.1%) = AU$586m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= AU$586m÷ ( 1 + 7.1%)¹⁰= AU$295m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is AU$447m. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of AU$1.8, the company appears about fair value at a 12% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

ASX:RUL Discounted Cash Flow December 31st 2023

Important Assumptions

Now the most important inputs to a discounted cash flow are the discount rate, and of course, the actual cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 RPMGlobal Holdings 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 7.1%, which is based on a levered beta of 1.003. 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.

Moving On:

Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. The DCF model is not a perfect stock valuation tool. Instead the best use for a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or 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. For RPMGlobal Holdings, we've put together three essential items you should explore:

1. Risks: You should be aware of the 1 warning sign for RPMGlobal Holdings we've uncovered before considering an investment in the company.

2. Future Earnings: How does RUL'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.

3. Other Solid Businesses: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered!

PS. Simply Wall St updates its DCF calculation for every Australian 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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.