Calculating The Intrinsic Value Of Danaher Corporation (NYSE:DHR)

Key Insights

• The projected fair value for Danaher is US$258 based on 2 Stage Free Cash Flow to Equity

• With US$239 share price, Danaher appears to be trading close to its estimated fair value

• Analyst price target for DHR is US$281, which is 9.1% above our fair value estimate

Does the May share price for Danaher Corporation (NYSE:DHR) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by estimating the company's future cash flows and discounting them to their present value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Believe it or not, it's not too difficult to follow, as you'll see from our example!

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.

See our latest analysis for Danaher

What's The Estimated Valuation?

We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. 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, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

	2023	2024	2025	2026	2027	2028	2029	2030	2031	2032
Levered FCF ($, Millions)	US$7.39b	US$8.01b	US$8.79b	US$10.3b	US$11.2b	US$11.9b	US$12.5b	US$13.0b	US$13.5b	US$13.9b
Growth Rate Estimate Source	Analyst x8	Analyst x9	Analyst x7	Analyst x1	Analyst x1	Est @ 6.25%	Est @ 5.01%	Est @ 4.14%	Est @ 3.53%	Est @ 3.10%
Present Value ($, Millions) Discounted @ 7.8%	US$6.9k	US$6.9k	US$7.0k	US$7.6k	US$7.7k	US$7.6k	US$7.4k	US$7.2k	US$6.9k	US$6.6k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$72b

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 7.8%.

Terminal Value (TV)= FCF₂₀₃₂ × (1 + g) ÷ (r – g) = US$14b× (1 + 2.1%) ÷ (7.8%– 2.1%) = US$251b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= US$251b÷ ( 1 + 7.8%)¹⁰= US$119b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$190b. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of US$239, the company appears about fair value at a 7.3% 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.

dcf

Important 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 Danaher 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 7.8%, which is based on a levered beta of 0.952. 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 Danaher

Strength

• Debt is not viewed as a risk.

Weakness

• Earnings growth over the past year underperformed the Life Sciences industry.

• Dividend is low compared to the top 25% of dividend payers in the Life Sciences market.

• Shareholders have been diluted in the past year.

Opportunity

• Annual earnings are forecast to grow for the next 3 years.

• Good value based on P/E ratio and estimated fair value.

Threat

• Annual earnings are forecast to grow slower than the American market.

Next Steps:

Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize for a company. It's not possible to obtain a foolproof valuation with a DCF model. 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. For Danaher, we've compiled three important aspects you should further research:

1. Risks: To that end, you should be aware of the 2 warning signs we've spotted with Danaher .

2. Future Earnings: How does DHR'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 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!

PS. Simply Wall St updates its DCF calculation for every American stock every day, so if you want to find the intrinsic value of any other stock 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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