Calculating The Fair Value Of Compañía Cervecerías Unidas S.A. (SNSE:CCU)

Today we will run through one way of estimating the intrinsic value of Compañía Cervecerías Unidas S.A. (SNSE:CCU) by taking the forecast future cash flows of the company and discounting them back to today's value. This will be done using the Discounted Cash Flow (DCF) model. Don't get put off by the jargon, the math behind it is actually quite straightforward.

We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

See our latest analysis for Compañía Cervecerías Unidas

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 start off with, we need to estimate 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 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 (CLP, Millions)	CL$108.5b	CL$148.3b	CL$154.9b	CL$162.9b	CL$172.6b	CL$183.8b	CL$196.6b	CL$210.7b	CL$226.3b	CL$243.4b
Growth Rate Estimate Source	Analyst x3	Analyst x3	Analyst x1	Est @ 5.14%	Est @ 5.96%	Est @ 6.53%	Est @ 6.93%	Est @ 7.21%	Est @ 7.4%	Est @ 7.54%
Present Value (CLP, Millions) Discounted @ 13%	CL$96.0k	CL$116.3k	CL$107.6k	CL$100.2k	CL$94.0k	CL$88.7k	CL$84.0k	CL$79.7k	CL$75.8k	CL$72.2k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = CL$914b

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 7.9%. We discount the terminal cash flows to today's value at a cost of equity of 13%.

Terminal Value (TV)= FCF₂₀₃₀ × (1 + g) ÷ (r – g) = CL$243b× (1 + 7.9%) ÷ (13%– 7.9%) = CL$5.2t

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= CL$5.2t÷ ( 1 + 13%)¹⁰= CL$1.5t

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is CL$2.5t. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of CL$6.4k, the company appears about fair value at a 3.9% discount to where the stock price trades currently. The assumptions in any calculation have a big impact on the valuation, so it is better to view this as a rough estimate, not precise down to the last cent.

The assumptions

Now 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 Compañía Cervecerías Unidas 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 13%, which is based on a levered beta of 0.809. 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:

Although the valuation of a company is important, it shouldn't be the only metric you look at when researching a company. It's not possible to obtain a foolproof valuation with a DCF model. Instead the best use for a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Compañía Cervecerías Unidas, there are three essential aspects you should further research:

1. Risks: For instance, we've identified 3 warning signs for Compañía Cervecerías Unidas that you should be aware of.
2. Future Earnings: How does CCU'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 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 Chilean 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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