Key Insights
- Swatch Group's estimated fair value is CHF260 based on 2 Stage Free Cash Flow to Equity
- Swatch Group's CHF209 share price indicates it is trading at similar levels as its fair value estimate
- Our fair value estimate is 8.6% higher than Swatch Group's analyst price target of CHF240
How far off is The Swatch Group AG (VTX:UHR) from its intrinsic value? Using the most recent financial data, we'll take a look at whether the stock is fairly priced by taking the expected future cash flows and discounting them to today's 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!
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 Swatch Group
The Calculation
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. 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) forecast
2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | 2033 | |
Levered FCF (CHF, Millions) | CHF850.9m | CHF638.4m | CHF709.8m | CHF670.0m | CHF675.0m | CHF678.5m | CHF681.2m | CHF683.4m | CHF685.2m | CHF686.7m |
Growth Rate Estimate Source | Analyst x5 | Analyst x5 | Analyst x3 | Analyst x1 | Analyst x1 | Est @ 0.52% | Est @ 0.40% | Est @ 0.32% | Est @ 0.26% | Est @ 0.22% |
Present Value (CHF, Millions) Discounted @ 5.2% | CHF809 | CHF577 | CHF609 | CHF547 | CHF524 | CHF500 | CHF477 | CHF455 | CHF434 | CHF413 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CHF5.3b
The second stage is also known as Terminal Value, this is the business's cash flow after the first stage. For a number of reasons a very conservative growth rate is used that cannot exceed that of a country's GDP growth. In this case we have used the 5-year average of the 10-year government bond yield (0.1%) to estimate future growth. In the same way as with the 10-year 'growth' period, we discount future cash flows to today's value, using a cost of equity of 5.2%.
Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = CHF687m× (1 + 0.1%) ÷ (5.2%– 0.1%) = CHF14b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= CHF14b÷ ( 1 + 5.2%)10= CHF8.1b
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 CHF13b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of CHF209, the company appears about fair value at a 19% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.
Important Assumptions
Now 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 Swatch Group 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 5.2%, which is based on a levered beta of 1.105. 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 Swatch Group
- Earnings growth over the past year exceeded the industry.
- Debt is not viewed as a risk.
- Earnings growth over the past year is below its 5-year average.
- Dividend is low compared to the top 25% of dividend payers in the Luxury market.
- Annual earnings are forecast to grow for the next 3 years.
- Good value based on P/E ratio and estimated fair value.
- Paying a dividend but company has no free cash flows.
- Annual earnings are forecast to grow slower than the Swiss market.
Next Steps:
Whilst important, the DCF calculation shouldn't be the only metric you look at when researching 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 Swatch Group, we've put together three important elements you should look at:
- Risks: Take risks, for example - Swatch Group has 1 warning sign we think you should be aware of.
- Future Earnings: How does UHR'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 Solid Businesses: Low debt, high returns on equity and good past performance are fundamental to a strong business. Why not explore our interactive list of stocks with solid business fundamentals to see if there are other companies you may not have considered!
PS. Simply Wall St updates its DCF calculation for every Swiss stock every day, so if you want to find the intrinsic value of any other stock just search here.
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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.
About SWX:UHR
Swatch Group
Designs, manufactures, and sells finished watches, jewelry, and watch movements and components worldwide.
Flawless balance sheet and good value.