The method
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 five years. Where possible I use analyst 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 five years, but capped at a reasonable level. The sum of these cash flows is then discounted to today’s value.
5-year cash flow forecast
| 2018 | 2019 | 2020 | 2021 | 2022 | |
| Levered FCF (CHF, Millions) | CHF27.46 | CHF30.64 | CHF32.45 | CHF32.36 | CHF32.28 |
| Source | Analyst x1 | Analyst x1 | Analyst x1 | Extrapolated @ (-0.25%) | Extrapolated @ (-0.25%) |
| Present Value Discounted @ 10.13% | CHF24.93 | CHF25.26 | CHF24.29 | CHF22.00 | CHF19.93 |
Present Value of 5-year Cash Flow (PVCF)= CHF116
We now need to calculate the Terminal Value, which accounts for all the future cash flows after the five years. For a number of reasons a very conservative growth rate is used that cannot exceed that of the GDP. In this case I have used the 10-year government bond rate (0.1%). In the same way as with the 5-year ‘growth’ period, we discount this to today’s value at a cost of equity of 10.1%.
Terminal Value (TV) = FCF2022 × (1 + g) ÷ (r – g) = CHF32 × (1 + 0.1%) ÷ (10.1% – 0.1%) = CHF321
Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = CHF321 / ( 1 + 10.1%)5 = CHF198
The total value is the sum of cash flows for the next five years and the discounted terminal value, which results in the Total Equity Value, which in this case is CHF314. 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. This results in an intrinsic value of CHF26.21, which, compared to the current share price of CHF30.95, we find that Meier Tobler Group is fair value, maybe slightly overvalued at the time of writing.
Important 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 Meier Tobler Group as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighed average cost of capital, WACC) which accounts for debt. In this calculation I’ve used 10.1%, which is based on a levered beta of 1.013. This is derived from the Bottom-Up Beta method based on comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.
Next Steps:
Whilst important, DCF calculation shouldn’t be the only metric you look at when researching a company. For MTG, I’ve compiled three pertinent factors you should further examine:
- Financial Health: Does MTG have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
- Future Earnings: How does MTG’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.
- Other High Quality Alternatives: Are there other high quality stocks you could be holding instead of MTG? 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 does a DCF calculation for every CH stock every 6 hours, so if you want to find the intrinsic value of any other stock just search here.