Key Insights
- Outokumpu Oyj's estimated fair value is €8.08 based on 2 Stage Free Cash Flow to Equity
- Outokumpu Oyj's €5.09 share price signals that it might be 37% undervalued
- Our fair value estimate is 35% higher than Outokumpu Oyj's analyst price target of €5.98
Does the April share price for Outokumpu Oyj (HEL:OUT1V) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by taking the expected future cash flows and discounting them to today's value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. It may sound complicated, but actually it is quite simple!
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 still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
Check out our latest analysis for Outokumpu Oyj
Crunching The Numbers
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 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, and so the sum of these future cash flows is then discounted to today's value:
10-year free cash flow (FCF) estimate
2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | |
Levered FCF (€, Millions) | €447.3m | €309.1m | €301.8m | €333.0m | €285.0m | €282.7m | €281.5m | €281.0m | €281.0m | €281.4m |
Growth Rate Estimate Source | Analyst x7 | Analyst x7 | Analyst x6 | Analyst x1 | Analyst x1 | Est @ -0.81% | Est @ -0.43% | Est @ -0.17% | Est @ 0.01% | Est @ 0.14% |
Present Value (€, Millions) Discounted @ 8.8% | €411 | €261 | €234 | €238 | €187 | €170 | €156 | €143 | €132 | €121 |
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = €2.1b
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 0.4%. We discount the terminal cash flows to today's value at a cost of equity of 8.8%.
Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = €281m× (1 + 0.4%) ÷ (8.8%– 0.4%) = €3.4b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= €3.4b÷ ( 1 + 8.8%)10= €1.5b
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 €3.5b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of €5.1, the company appears quite undervalued at a 37% 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.
Important Assumptions
The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Outokumpu Oyj 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 8.8%, which is based on a levered beta of 1.261. 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 Outokumpu Oyj
- Earnings growth over the past year exceeded the industry.
- Debt is not viewed as a risk.
- Dividends are covered by earnings and cash flows.
- Dividend is low compared to the top 25% of dividend payers in the Metals and Mining market.
- Good value based on P/E ratio and estimated fair value.
- Annual earnings are forecast to decline for the next 3 years.
Looking Ahead:
Valuation is only one side of the coin in terms of building your investment thesis, and 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. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. Can we work out why the company is trading at a discount to intrinsic value? For Outokumpu Oyj, we've put together three essential elements you should explore:
- Risks: Case in point, we've spotted 2 warning signs for Outokumpu Oyj you should be aware of, and 1 of them is a bit concerning.
- Future Earnings: How does OUT1V'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: 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 HLSE 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.
About HLSE:OUT1V
Outokumpu Oyj
Produces and sells various stainless steel products in Finland, other European countries, North America, the Asia-Pacific, and internationally.
Very undervalued with excellent balance sheet.