Yahoo Finance Avis Budget Group, Inc. (NASDAQ:CAR) Shares Could Be 50% Below Their Intrinsic Value Estimate
Key Insights
Avis Budget Group's estimated fair value is US$347 based on 2 Stage Free Cash Flow to Equity
Avis Budget Group's US$175 share price signals that it might be 50% undervalued
Analyst price target for CAR is US$246 which is 29% below our fair value estimate
Today we will run through one way of estimating the intrinsic value of Avis Budget Group, Inc. (NASDAQ:CAR) by taking the expected future cash flows and discounting them to their present value. This will be done using the Discounted Cash Flow (DCF) model. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.
We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.
Check out our latest analysis for Avis Budget Group
What's The Estimated Valuation?
We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second 'steady growth' period. In the first stage we need to estimate the cash flows to the business over the next ten years. Where possible we use analyst estimates, but when these aren't available we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
Generally we assume that a dollar today is more valuable than a dollar in the future, so we need to discount the sum of these future cash flows to arrive at a present value estimate:
10-year free cash flow (FCF) estimate
2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | |
Levered FCF ($, Millions) | US$3.55b | US$2.51b | US$1.97b | US$1.69b | US$1.53b | US$1.44b | US$1.39b | US$1.36b | US$1.36b | US$1.36b |
Growth Rate Estimate Source | Analyst x1 | Analyst x2 | Est @ -21.38% | Est @ -14.33% | Est @ -9.40% | Est @ -5.95% | Est @ -3.53% | Est @ -1.84% | Est @ -0.65% | Est @ 0.18% |
Present Value ($, Millions) Discounted @ 14% | US$3.1k | US$1.9k | US$1.3k | US$1.0k | US$796 | US$657 | US$556 | US$479 | US$417 | US$367 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$11b
After calculating the present value of future cash flows in the initial 10-year period, we need to calculate the Terminal Value, which accounts for all future cash flows beyond 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 2.1%. We discount the terminal cash flows to today's value at a cost of equity of 14%.
Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = US$1.4b× (1 + 2.1%) ÷ (14%– 2.1%) = US$12b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$12b÷ ( 1 + 14%)10= US$3.2b
The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is US$14b. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of US$175, the company appears quite undervalued at a 50% 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.
The Assumptions
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. You don't have to agree with these inputs, I recommend redoing the calculations yourself and playing with them. 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 Avis Budget Group 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 14%, which is based on a levered beta of 2.000. 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.
SWOT Analysis for Avis Budget Group
Strength
Earnings growth over the past year exceeded the industry.
Debt is well covered by earnings and cashflows.
Weakness
Earnings growth over the past year is below its 5-year average.
Opportunity
Trading below our estimate of fair value by more than 20%.
Threat
Total liabilities exceed total assets, which raises the risk of financial distress.
Annual earnings are forecast to decline for the next 2 years.
Moving On:
Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize for a company. DCF models are not the be-all and end-all of investment valuation. 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. Can we work out why the company is trading at a discount to intrinsic value? For Avis Budget Group, there are three relevant factors you should further examine:
Risks: Take risks, for example - Avis Budget Group has 2 warning signs (and 1 which is significant) we think you should know about.
Future Earnings: How does CAR'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 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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the NASDAQGS every day. If you want to find the calculation for other stocks just search here.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
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