An Intrinsic Calculation For BASF SE (ETR:BAS) Suggests It's 23% Undervalued
Key Insights
BASF's estimated fair value is €62.43 based on 2 Stage Free Cash Flow to Equity
Current share price of €48.08 suggests BASF is potentially 23% undervalued
The €55.68 analyst price target for BAS is 11% less than our estimate of fair value
Today we will run through one way of estimating the intrinsic value of BASF SE (ETR:BAS) by taking the forecast future cash flows of the company and discounting them back to today's value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.
Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.
Check out our latest analysis for BASF
Crunching The Numbers
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.
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) | €817.6m | €2.15b | €3.49b | €4.34b | €3.89b | €3.62b | €3.46b | €3.35b | €3.29b | €3.25b |
Growth Rate Estimate Source | Analyst x8 | Analyst x8 | Analyst x8 | Analyst x5 | Analyst x2 | Est @ -6.85% | Est @ -4.59% | Est @ -3.01% | Est @ -1.90% | Est @ -1.13% |
Present Value (€, Millions) Discounted @ 6.1% | €770 | €1.9k | €2.9k | €3.4k | €2.9k | €2.5k | €2.3k | €2.1k | €1.9k | €1.8k |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = €23b
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 0.7%. We discount the terminal cash flows to today's value at a cost of equity of 6.1%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = €3.3b× (1 + 0.7%) ÷ (6.1%– 0.7%) = €60b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= €60b÷ ( 1 + 6.1%)10= €33b
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is €56b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of €48.1, the company appears a touch undervalued at a 23% 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.
Important Assumptions
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. If you don't agree with these result, have a go at the calculation yourself and play with the 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 BASF 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 6.1%, which is based on a levered beta of 1.184. 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 BASF
Strength
Debt is well covered by earnings and cashflows.
Dividend is in the top 25% of dividend payers in the market.
Weakness
No major weaknesses identified for BAS.
Opportunity
Annual earnings are forecast to grow faster than the German market.
Good value based on P/S ratio and estimated fair value.
Threat
Dividends are not covered by earnings and cashflows.
Annual revenue is forecast to grow slower than the German market.
Moving On:
Valuation is only one side of the coin in terms of building your investment thesis, and it is only one of many factors that you need to assess for a company. The DCF model is not a perfect stock valuation tool. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. Can we work out why the company is trading at a discount to intrinsic value? For BASF, there are three essential elements you should further research:
Risks: You should be aware of the 3 warning signs for BASF (1 is a bit unpleasant!) we've uncovered before considering an investment in the company.
Future Earnings: How does BAS'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 XTRA every day. If you want to find the calculation for other stocks 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.