Advertisement
Australia markets closed
  • ALL ORDS

    8,153.70
    +80.10 (+0.99%)
     
  • ASX 200

    7,896.90
    +77.30 (+0.99%)
     
  • AUD/USD

    0.6524
    -0.0012 (-0.18%)
     
  • OIL

    82.62
    +1.27 (+1.56%)
     
  • GOLD

    2,235.80
    +23.10 (+1.04%)
     
  • Bitcoin AUD

    108,942.30
    +2,747.85 (+2.59%)
     
  • CMC Crypto 200

    885.54
    0.00 (0.00%)
     
  • AUD/EUR

    0.6037
    +0.0006 (+0.11%)
     
  • AUD/NZD

    1.0902
    +0.0022 (+0.20%)
     
  • NZX 50

    12,105.29
    +94.63 (+0.79%)
     
  • NASDAQ

    18,265.56
    -15.29 (-0.08%)
     
  • FTSE

    7,969.81
    +37.83 (+0.48%)
     
  • Dow Jones

    39,774.59
    +14.51 (+0.04%)
     
  • DAX

    18,506.35
    +29.26 (+0.16%)
     
  • Hang Seng

    16,541.42
    +148.58 (+0.91%)
     
  • NIKKEI 225

    40,168.07
    -594.66 (-1.46%)
     

Calculating The Intrinsic Value Of Fuller, Smith & Turner P.L.C. (LON:FSTA)

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Fuller, Smith & Turner P.L.C. (LON:FSTA) as an investment opportunity by taking the expected 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. Believe it or not, it's not too difficult to follow, as you'll see from our example!

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

View our latest analysis for Fuller Smith & Turner

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.

ADVERTISEMENT

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) estimate

2022

2023

2024

2025

2026

2027

2028

2029

2030

2031

Levered FCF (£, Millions)

UK£24.3m

UK£29.7m

UK£31.8m

UK£33.2m

UK£34.4m

UK£35.3m

UK£36.0m

UK£36.7m

UK£37.2m

UK£37.7m

Growth Rate Estimate Source

Analyst x3

Analyst x3

Analyst x3

Est @ 4.53%

Est @ 3.44%

Est @ 2.68%

Est @ 2.14%

Est @ 1.77%

Est @ 1.51%

Est @ 1.33%

Present Value (£, Millions) Discounted @ 8.9%

UK£22.3

UK£25.1

UK£24.6

UK£23.6

UK£22.4

UK£21.2

UK£19.8

UK£18.5

UK£17.3

UK£16.1

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = UK£211m

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 0.9%. We discount the terminal cash flows to today's value at a cost of equity of 8.9%.

Terminal Value (TV)= FCF2031 × (1 + g) ÷ (r – g) = UK£38m× (1 + 0.9%) ÷ (8.9%– 0.9%) = UK£476m

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= UK£476m÷ ( 1 + 8.9%)10= UK£203m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is UK£414m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of UK£6.7, the company appears about fair value at a 1.7% discount to where the stock price trades currently. The assumptions in any calculation have a big impact on the valuation, so it is better to view this as a rough estimate, not precise down to the last cent.

dcf
dcf

The assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Fuller Smith & Turner 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 8.9%, which is based on a levered beta of 1.636. 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.

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 Fuller Smith & Turner, there are three essential aspects you should further examine:

  1. Risks: To that end, you should learn about the 3 warning signs we've spotted with Fuller Smith & Turner (including 1 which is potentially serious) .

  2. Future Earnings: How does FSTA'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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the LSE every day. If you want to find the calculation for other stocks just search here.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.