eDreams ODIGEO S.A. (BME:EDR) Shares Could Be 30% Below Their Intrinsic Value Estimate

Key Insights

• eDreams ODIGEO's estimated fair value is €8.06 based on 2 Stage Free Cash Flow to Equity
• Current share price of €5.66 suggests eDreams ODIGEO is potentially 30% undervalued
• Analyst price target for EDR is €7.84 which is 2.7% below our fair value estimate

In this article we are going to estimate the intrinsic value of eDreams ODIGEO S.A. (BME:EDR) 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!

We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. 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.

Check out our latest analysis for eDreams ODIGEO

Is eDreams ODIGEO Fairly Valued?

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. 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

	2023	2024	2025	2026	2027	2028	2029	2030	2031	2032
Levered FCF (€, Millions)	€55.5m	€85.4m	€100.1m	€113.0m	€122.2m	€129.5m	€135.3m	€140.0m	€143.9m	€147.1m
Growth Rate Estimate Source	Analyst x4	Analyst x3	Analyst x4	Analyst x1	Est @ 8.13%	Est @ 6.00%	Est @ 4.51%	Est @ 3.46%	Est @ 2.73%	Est @ 2.22%
Present Value (€, Millions) Discounted @ 13%	€49.3	€67.3	€70.1	€70.2	€67.4	€63.5	€58.9	€54.1	€49.4	€44.8

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = €595m

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 (1.0%) 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 13%.

Terminal Value (TV)= FCF₂₀₃₂ × (1 + g) ÷ (r – g) = €147m× (1 + 1.0%) ÷ (13%– 1.0%) = €1.3b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= €1.3b÷ ( 1 + 13%)¹⁰= €391m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is €986m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of €5.7, the company appears a touch undervalued at a 30% discount to where the stock price trades currently. Valuations are imprecise instruments though, rather like a telescope - move a few degrees and end up in a different galaxy. Do keep this in mind.

Important 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 eDreams ODIGEO 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 1.332. 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.

Moving On:

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. If a company grows at a different rate, or if its cost of equity or risk free rate changes sharply, the output can look very different. Can we work out why the company is trading at a discount to intrinsic value? For eDreams ODIGEO, we've put together three pertinent aspects you should further research:

1. Risks: For instance, we've identified 1 warning sign for eDreams ODIGEO that you should be aware of.
2. Future Earnings: How does EDR'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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the BME every day. If you want to find the calculation for other stocks just search here.

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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.