Estimating The Intrinsic Value Of Myer Holdings Limited (ASX:MYR)

By
Simply Wall St
Published
August 03, 2021
ASX:MYR
Source: Shutterstock

Today we will run through one way of estimating the intrinsic value of Myer Holdings Limited (ASX:MYR) by taking the forecast future cash flows of the company and discounting them back to today's value. We will use the Discounted Cash Flow (DCF) model on this occasion. Believe it or not, it's not too difficult to follow, as you'll see from our example!

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.

See our latest analysis for Myer Holdings

Is Myer Holdings fairly valued?

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, so we need to discount the sum of these future cash flows to arrive at a present value estimate:

10-year free cash flow (FCF) forecast

2022 2023 2024 2025 2026 2027 2028 2029 2030 2031
Levered FCF (A$, Millions) AU$25.0m AU$18.5m AU$35.0m AU$40.0m AU$40.0m AU$40.2m AU$40.6m AU$41.1m AU$41.7m AU$42.4m
Growth Rate Estimate Source Analyst x2 Analyst x2 Analyst x1 Analyst x1 Analyst x1 Est @ 0.58% Est @ 0.98% Est @ 1.26% Est @ 1.46% Est @ 1.6%
Present Value (A$, Millions) Discounted @ 11% AU$22.4 AU$14.9 AU$25.3 AU$26.0 AU$23.4 AU$21.1 AU$19.1 AU$17.4 AU$15.8 AU$14.5

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = AU$200m

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 1.9%. We discount the terminal cash flows to today's value at a cost of equity of 11%.

Terminal Value (TV)= FCF2031 × (1 + g) ÷ (r – g) = AU$42m× (1 + 1.9%) ÷ (11%– 1.9%) = AU$458m

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= AU$458m÷ ( 1 + 11%)10= AU$156m

The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is AU$356m. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of AU$0.5, the company appears around fair value at the time of writing. 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
ASX:MYR Discounted Cash Flow August 3rd 2021

Important 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 Myer Holdings 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 11%, 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.

Moving On:

Valuation is only one side of the coin in terms of building your investment thesis, and 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. Instead the best use for a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Myer Holdings, we've compiled three pertinent items you should further examine:

  1. Risks: To that end, you should be aware of the 1 warning sign we've spotted with Myer Holdings .
  2. Future Earnings: How does MYR'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 Australian stock every day, so if you want to find the intrinsic value of any other stock just search here.

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