Calculating The Intrinsic Value Of Victoria PLC (LON:VCP)

Key Insights

• Victoria's estimated fair value is UK£3.08 based on 2 Stage Free Cash Flow to Equity

• Current share price of UK£2.70 suggests Victoria is potentially trading close to its fair value

• The UK£5.62 analyst price target for VCP is 82% more than our estimate of fair value

Today we will run through one way of estimating the intrinsic value of Victoria PLC (LON:VCP) by taking the expected future cash flows and discounting them to today's value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.

We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.

Check out our latest analysis for Victoria

The Method

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 start off with, we need to estimate 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.

A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (£, Millions)	UK£28.8m	UK£57.6m	UK£44.6m	UK£43.0m	UK£42.1m	UK£41.8m	UK£41.7m	UK£41.9m	UK£42.2m	UK£42.6m
Growth Rate Estimate Source	Analyst x3	Analyst x3	Analyst x3	Est @ -3.56%	Est @ -2.00%	Est @ -0.91%	Est @ -0.15%	Est @ 0.39%	Est @ 0.77%	Est @ 1.03%
Present Value (£, Millions) Discounted @ 13%	UK£25.5	UK£45.5	UK£31.2	UK£26.8	UK£23.3	UK£20.5	UK£18.2	UK£16.2	UK£14.5	UK£13.0

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = UK£235m

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 1.6%. We discount the terminal cash flows to today's value at a cost of equity of 13%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = UK£43m× (1 + 1.6%) ÷ (13%– 1.6%) = UK£395m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= UK£395m÷ ( 1 + 13%)¹⁰= UK£121m

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£355m. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of UK£2.7, the company appears about fair value at a 12% 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

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 Victoria 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 13%, 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 Victoria

Strength

• No major strengths identified for VCP.

Weakness

• Interest payments on debt are not well covered.

Opportunity

• Expected to breakeven next year.

• Has sufficient cash runway for more than 3 years based on current free cash flows.

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

Threat

• Debt is not well covered by operating cash flow.

Moving On:

Whilst important, the DCF calculation shouldn't be the only metric you look at when researching a company. DCF models are not the be-all and end-all of investment valuation. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Victoria, there are three additional factors you should explore:

1. Risks: As an example, we've found 1 warning sign for Victoria that you need to consider before investing here.

2. Future Earnings: How does VCP'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 British 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.