Estimating The Fair Value Of Wishpond Technologies Ltd. (CVE:WISH)

Today we will run through one way of estimating the intrinsic value of Wishpond Technologies Ltd. (CVE:WISH) 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. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.

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 Wishpond Technologies

The method

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.

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

	2021	2022	2023	2024	2025	2026	2027	2028	2029	2030
Levered FCF (CA$, Millions)	CA$2.44m	CA$3.41m	CA$4.38m	CA$5.27m	CA$6.05m	CA$6.69m	CA$7.23m	CA$7.66m	CA$8.02m	CA$8.32m
Growth Rate Estimate Source	Est @ 56.29%	Est @ 39.86%	Est @ 28.36%	Est @ 20.31%	Est @ 14.68%	Est @ 10.73%	Est @ 7.97%	Est @ 6.04%	Est @ 4.69%	Est @ 3.74%
Present Value (CA$, Millions) Discounted @ 5.6%	CA$2.3	CA$3.1	CA$3.7	CA$4.2	CA$4.6	CA$4.8	CA$4.9	CA$4.9	CA$4.9	CA$4.8

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CA$42m

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 1.5%. We discount the terminal cash flows to today's value at a cost of equity of 5.6%.

Terminal Value (TV)= FCF₂₀₃₀ × (1 + g) ÷ (r – g) = CA$8.3m× (1 + 1.5%) ÷ (5.6%– 1.5%) = CA$206m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= CA$206m÷ ( 1 + 5.6%)¹⁰= CA$119m

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$161m. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of CA$1.6, the company appears potentially underpriced at a discount of over 50%. For me this isn't a good thing, we should try and work out why the stock appears cheap in this model. Do the inputs we've used seem reasonable? Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

The assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Wishpond Technologies 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 5.6%, which is based on a levered beta of 0.871. 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.

Next Steps:

Valuation is only one side of the coin in terms of building your investment thesis, and it is only one of many factors that you need to assess for a company. The DCF model is not a perfect stock valuation tool. 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. Can we work out why the company is trading at a discount to intrinsic value? For Wishpond Technologies, we've compiled three relevant aspects you should look at:

1. Risks: Every company has them, and we've spotted 3 warning signs for Wishpond Technologies you should know about.
2. Future Earnings: How does WISH'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. 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.
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