Stock Analysis

A Look At The Fair Value Of ALBA SE (FRA:ABA)

DB:ABA
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How far off is ALBA SE (FRA:ABA) 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 their present value. This will be done using the Discounted Cash Flow (DCF) model. There's really not all that much to it, even though it might appear quite complex.

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. 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 ALBA

The Model

We use what is known as a 2-stage model, which simply means we have two different periods of growth rates for the company's cash flows. Generally the first stage is higher growth, and the second stage is a lower growth phase. 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.

A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, 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

2023 2024 2025 2026 2027 2028 2029 2030 2031 2032
Levered FCF (€, Millions) €9.50m €9.60m €9.67m €9.71m €9.75m €9.77m €9.79m €9.80m €9.81m €9.82m
Growth Rate Estimate Source Analyst x1 Analyst x1 Est @ 0.68% Est @ 0.49% Est @ 0.35% Est @ 0.25% Est @ 0.19% Est @ 0.14% Est @ 0.11% Est @ 0.08%
Present Value (€, Millions) Discounted @ 4.7% €9.1 €8.8 €8.4 €8.1 €7.8 €7.4 €7.1 €6.8 €6.5 €6.2

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = €76m

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. 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 (0.03%) 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 4.7%.

Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = €9.8m× (1 + 0.03%) ÷ (4.7%– 0.03%) = €212m

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= €212m÷ ( 1 + 4.7%)10= €134m

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 €210m. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of €24.5, the company appears around fair value at the time of writing. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

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DB:ABA Discounted Cash Flow November 12th 2022

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 ALBA 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 4.7%, which is based on a levered beta of 0.905. 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.

Looking Ahead:

Although the valuation of a company is important, it shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. 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 ALBA, there are three fundamental items you should look at:

  1. Risks: You should be aware of the 2 warning signs for ALBA (1 is potentially serious!) we've uncovered before considering an investment in the company.
  2. Future Earnings: How does ABA'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 German stock every day, so if you want to find the intrinsic value of any other stock just search here.

Valuation is complex, but we're helping make it simple.

Find out whether ALBA is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.

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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.