Healwell AI Inc.'s (TSE:AIDX) Intrinsic Value Is Potentially 46% Above Its Share Price

Key Insights

• Using the 2 Stage Free Cash Flow to Equity, Healwell AI fair value estimate is CA$3.97
• Current share price of CA$2.72 suggests Healwell AI is potentially 31% undervalued
• Analyst price target for AIDX is CA$3.27 which is 18% below our fair value estimate

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of Healwell AI Inc. (TSE:AIDX) as an investment opportunity by taking the expected future cash flows and discounting them to today's value. We will use the Discounted Cash Flow (DCF) model on this occasion. Don't get put off by the jargon, the math behind it is actually quite straightforward.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. If you want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.

View our latest analysis for Healwell AI

The Model

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.

Generally we assume that a dollar today is more valuable than a dollar in the future, 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) estimate

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (CA$, Millions)	-CA$12.8m	-CA$2.92m	CA$5.37m	CA$8.63m	CA$12.4m	CA$16.2m	CA$19.8m	CA$22.9m	CA$25.7m	CA$28.0m
Growth Rate Estimate Source	Analyst x2	Analyst x1	Analyst x1	Est @ 60.77%	Est @ 43.16%	Est @ 30.84%	Est @ 22.21%	Est @ 16.17%	Est @ 11.94%	Est @ 8.98%
Present Value (CA$, Millions) Discounted @ 5.8%	-CA$12.1	-CA$2.6	CA$4.5	CA$6.9	CA$9.3	CA$11.6	CA$13.3	CA$14.7	CA$15.5	CA$16.0

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CA$77m

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 2.1%. We discount the terminal cash flows to today's value at a cost of equity of 5.8%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = CA$28m× (1 + 2.1%) ÷ (5.8%– 2.1%) = CA$777m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= CA$777m÷ ( 1 + 5.8%)¹⁰= CA$444m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is CA$521m. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of CA$2.7, the company appears quite good value at a 31% 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. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 Healwell AI 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 5.8%, which is based on a levered beta of 0.800. 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 Healwell AI

Looking Ahead:

Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize for a company. DCF models are not the be-all and end-all of investment valuation. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. What is the reason for the share price sitting below the intrinsic value? For Healwell AI, there are three essential factors you should assess:

1. Risks: Take risks, for example - Healwell AI has 3 warning signs (and 2 which are concerning) we think you should know about.
2. Future Earnings: How does AIDX'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 Canadian stock every day, so if you want to find the intrinsic value of any other stock 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.

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