Calculating The Fair Value Of Oil and Gas Exploration and Production AD (BUL:NGAZ)

Key Insights

• Oil and Gas Exploration and Production AD's estimated fair value is лв5.15 based on 2 Stage Free Cash Flow to Equity
• Oil and Gas Exploration and Production AD's лв4.30 share price indicates it is trading at similar levels as its fair value estimate
• Industry average discount to fair value of 12% suggests Oil and Gas Exploration and Production AD's peers are currently trading at a lower discount

In this article we are going to estimate the intrinsic value of Oil and Gas Exploration and Production AD (BUL:NGAZ) by estimating the company's future cash flows and discounting them to their present value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this. 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. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

View our latest analysis for Oil and Gas Exploration and Production AD

What's The Estimated Valuation?

We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. To begin with, we have to get estimates of the next ten years of cash flows. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last 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 discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) estimate

	2025	2026	2027	2028	2029	2030	2031	2032	2033	2034
Levered FCF (BGN, Millions)	лв4.77m	лв4.62m	лв4.56m	лв4.56m	лв4.60m	лв4.67m	лв4.76m	лв4.87m	лв4.99m	лв5.12m
Growth Rate Estimate Source	Est @ -5.82%	Est @ -3.17%	Est @ -1.32%	Est @ -0.02%	Est @ 0.89%	Est @ 1.53%	Est @ 1.97%	Est @ 2.28%	Est @ 2.50%	Est @ 2.65%
Present Value (BGN, Millions) Discounted @ 9.4%	лв4.4	лв3.9	лв3.5	лв3.2	лв2.9	лв2.7	лв2.5	лв2.4	лв2.2	лв2.1

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = лв30m

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 3.0%. We discount the terminal cash flows to today's value at a cost of equity of 9.4%.

Terminal Value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = лв5.1m× (1 + 3.0%) ÷ (9.4%– 3.0%) = лв82m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= лв82m÷ ( 1 + 9.4%)¹⁰= лв33m

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 лв63m. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of лв4.3, the company appears about fair value at a 16% 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.

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. 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 Oil and Gas Exploration and Production AD 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 9.4%, which is based on a levered beta of 1.061. 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 Oil and Gas Exploration and Production AD

Next Steps:

Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize 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 instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Oil and Gas Exploration and Production AD, there are three further factors you should further examine:

1. Risks: Be aware that Oil and Gas Exploration and Production AD is showing 3 warning signs in our investment analysis , and 1 of those can't be ignored...
2. 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!
3. Other Environmentally-Friendly Companies: Concerned about the environment and think consumers will buy eco-friendly products more and more? Browse through our interactive list of companies that are thinking about a greener future to discover some stocks you may not have thought of!

PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the BUL every day. If you want to find the calculation for other stocks just search here.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.