An intrinsic value calculation for MYOB Group Limited (ASX:MYO) shows investors are overpaying

How far off is MYOB Group (ASX:MYO) to its intrinsic value? I am going to take a look now by estimating the Future Cash Flows and discounting them to their present value. Discounted Cash Flow or DCF is a direct valuation technique that values a company by projecting its future cash flows and then discounting them to todays money. It sounds complicated, but actually it is quite simple!

If you want to learn more about discounted cash flow, the basis for my calcs can be read in detail in the Simply Wall St analysis model.

If you are reading this and its not January 2017 then I highly recommend you check out the latest calculation for MYOB Group by following the link below. See our latest analysis for MYO

I use what is known as a 2-stage model, which simply means we have two different periods where we need to estimate cash flows. To start off with we need to estimate the next 5 years of cash flows, where possible I use analysts estimates but when these aren’t available I have extrapolated the previous Free Cash Flow (FCF) from the year before. For this growth rate I used the average annual growth rate over the past 5 years, but capped to a reasonable level. I then discount the sum of these cash flows to arrive at a present value estimate. ASX-MYO-intrinsic-value-Wed-Jan-04-2017

The calculation

Note the numbers here are in millions apart from the per share values.

5-year cash flow estimate

2017 2018 2019 2020 2021
Levered FCF (AUD, Millions) $126.59 $140.42 $129.66 $123.30 $123.30
Source Analyst x5 Analyst x4 Analyst x2 Analyst x1 Extrapolated @ (0%)
Present Value Discounted @ 9.79% $115.30 $116.50 $97.98 $84.87 $77.30

Present value of next 5 years cash flows: $492

The 2nd stage is also known as Terminal Value, this is the cash flows to the business after the 1st stage. For a number of reasons a very conservative rate is used that cannot exceed that of the GDP. In this case I have used the 10 year government bond rate (2.1%). In the same way as with the 5 year ‘growth’ period we discount this to today’s value.

Terminal Value

Terminal Value = FCF2021 × (1 + g) ÷ (Discount Rate – g)

Terminal Value = $123 × (1 + 2.1%) ÷ (9.8% – 2.1%)

Terminal value based on the Perpetuity Method where growth (g) = 2.1%: $1,644

Present value of terminal value: $1,031

The total value or equity value is then the sum of of the present value of the cash flows.

Equity Value

Equity Value (Total value) = Present value of next 5 years cash flows + terminal value = $492 + $1,031 = $1,523

In the final step we divide the equity value by the number of shares outstanding. If the stock is an depositary receipt (represents a specified number of shares in a foreign corporation) or ADR then we use the equivalent number.

Value = Total value / Shares Outstanding ($1,522.76 / 599.38)

Value per share: $2.54

Finally if we compare the intrinsic value of 2.54 to the current share price of $3.75 we find MYOB Group (ASX:MYO) is rather overvalued at the time of writing.

The Assumptions

Now 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 my inputs, I recommend redoing the calculations yourself and playing with them. Because we are looking at MYOB Group as potential investors the Cost of Equity is used as the discount rate, not the Cost of Capital (or Weighed Average Cost of Capital/ WACC) which accounts for debt.

In this calculation I’ve used 9.8% and this is based on a Levered Beta of 0.973. I’m not going to go into how I calculate the Levered Beta in detail, I used the ‘Bottom up Beta’ method based on the comparable businesses, I also impose a limit between 0.8 and 2 which is a reasonable range for a stable business. Google this if you want to learn more.

Final Words

Whilst important, DCF calculation shouldn’t be the only metric you look at when researching a company. Is MYOB Group in a healthy financial condition? What is the reason for the share price to differ from the intrinsic value? See our latest FREE analysis to find out!

PS. Simply Wall St does a DCF calculation for every AU stock every 6 hours, so if you want to find the intrinsic value of any other stock just search here.