In this article, we will estimate the intrinsic value of Ormester Vagyonvédelmi Nyrt. (NOZZLE: ORMESTER) by estimating the company’s future cash flows and discounting them to their present value. Our analysis will use the Discounted Cash Flow (DCF) model. Before you think you won’t be able to figure it out, read on! It’s actually a lot less complex than you might imagine.
Remember, however, that there are many ways to estimate the value of a business and that a DCF is just one method. If you still have burning questions about this type of assessment, take a look at the Simply Wall St analysis model.
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We use what is called a 2-step model, which simply means that we have two different periods of growth rate for the cash flow of the business. Usually the first stage is higher growth and the second stage is lower growth stage. To begin with, we need to get cash flow estimates for the next ten years. Since no analysts estimate of free cash flow is available to us, we have extrapolated past free cash flow (FCF) from the last reported value of the company. We assume that companies with decreasing free cash flow will slow their withdrawal rate, and companies with increasing free cash flow will see their growth rate slow down during this period. We do this to reflect that growth tends to slow down more in the early years than in subsequent years.
A DCF is based on the idea that a dollar in the future is worth less than a dollar today, and therefore the sum of these future cash flows is then discounted to present value:
10-year free cash flow (FCF) estimate
|Leverage FCF (HUF, millions)||44.5 m||69.5 m||97.2 m||124.6 ft||149.8 m||171.6 ft||189.8 square meters||204.6 m||216.7 m||226.5 ft|
|Source of estimated growth rate||Is 79.71%||Is 56.21%||Is 39.76%||Is 28.25%||Is 20.19%||Is 14.55%||Is 10.6%||Is 7.83%||Is 5.9%||Is 4.54%|
|Present value (HUF, millions) discounted at 9.1%||40.8 Ft||58.4 Ft||74.7 Ft||87.8 Ft||96.7 Ft||Ft101||Ft103||Ft102||98.6 Ft||94.4 Ft|
(“East” = FCF growth rate estimated by Simply Wall St)
10-year present value of cash flow (PVCF) = Ft857m
Now we need to calculate the terminal value, which takes into account all future cash flows after that ten year period. The Gordon Growth formula is used to calculate the terminal value at a future annual growth rate equal to the 5-year average of the 10-year government bond yield of 1.4%. We discount the terminal cash flows to their present value at a cost of equity of 9.1%.
Terminal value (TV)= FCF2030 × (1 + g) ÷ (r – g) = Ft227m × (1 + 1.4%) ÷ (9.1% – 1.4%) = Ft3.0b
Present value of terminal value (PVTV)= TV / (1 + r)ten= Ft3.0b ÷ (1 + 9.1%)ten= Ft1,2b
The total value is the sum of the cash flows for the next ten years plus the present terminal value, which translates into the total value of equity, which in this case is Ft2.1b. To get the intrinsic value per share, we divide it by the total number of shares outstanding. Compared to the current share price of 890 Ft, the company appears to be around fair value at the time of writing. Ratings are imprecise instruments, however, much like a telescope – move a few degrees and end up in another galaxy. Keep this in mind.
Now the most important data for a discounted cash flow is the discount rate and, of course, the actual cash flow. Part of investing is making your own assessment of a company’s future performance, so try the math yourself and check your own assumptions. The DCF also does not take into account the possible cyclicality of an industry or the future capital needs of a company, so it does not give a complete picture of a company’s potential performance. Since we consider Ormester Vagyonvédelmi Nyrt to be 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 takes debt into account. In this calculation, we used 9.1%, which is based on a leveraged beta of 0.918. Beta is a measure of the volatility of a stock, relative 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.
Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn’t be the only metric you look at when researching a business. DCF models are not the alpha and omega of investment valuation. Preferably, you would apply different cases and assumptions and see how they would impact the valuation of the business. For example, changes in the company’s cost of equity or the risk-free rate can have a significant impact on valuation. For Ormester Vagyonvédelmi Nyrt, we have compiled three relevant factors that you should consider in more detail:
- Risks: Concrete example, we have spotted 4 warning signs for Ormester Vagyonvédelmi Nyrt you need to be aware of that, and one of them is concerning.
- Other high quality alternatives: Do you like a good all-rounder? Explore our interactive list of high quality inventory to get a feel for what you might be missing!
- Other environmentally friendly companies: Concerned about the environment and think that consumers will buy more and more environmentally friendly products? Browse our interactive list of companies envisioning a greener future to discover actions you might not have thought of!
PS. The Simply Wall St app performs a daily discounted cash flow assessment for every BUSE share. If you want to find the calculation for other actions, just search here.
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