Are Investors Undervaluing Vistry Group PLC (LON:VTY) By 22%?

Key Insights

• Vistry Group's estimated fair value is UK£8.92 based on 2 Stage Free Cash Flow to Equity
• Vistry Group is estimated to be 22% undervalued based on current share price of UK£7.00
• Analyst price target for VTY is UK£9.44, which is 5.8% above our fair value estimate

In this article we are going to estimate the intrinsic value of Vistry Group PLC (LON:VTY) by taking the forecast future cash flows of the company and discounting them back to today's value. Our analysis will employ the Discounted Cash Flow (DCF) model. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.

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

Crunching The Numbers

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) estimate

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (£, Millions)	UK£326.9m	UK£287.9m	UK£265.6m	UK£252.3m	UK£244.5m	UK£240.2m	UK£238.2m	UK£237.9m	UK£238.6m	UK£240.1m
Growth Rate Estimate Source	Analyst x5	Analyst x4	Est @ -7.75%	Est @ -5.01%	Est @ -3.09%	Est @ -1.75%	Est @ -0.81%	Est @ -0.15%	Est @ 0.31%	Est @ 0.63%
Present Value (£, Millions) Discounted @ 8.9%	UK£300	UK£243	UK£206	UK£179	UK£160	UK£144	UK£131	UK£120	UK£111	UK£102

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = UK£1.7b

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. 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 1.4%. We discount the terminal cash flows to today's value at a cost of equity of 8.9%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = UK£240m× (1 + 1.4%) ÷ (8.9%– 1.4%) = UK£3.2b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= UK£3.2b÷ ( 1 + 8.9%)¹⁰= UK£1.4b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is UK£3.1b. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of UK£7.0, the company appears a touch undervalued at a 22% 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.

The Assumptions

We would point out that 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 Vistry 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 8.9%, which is based on a levered beta of 1.271. 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 Vistry Group

Moving On:

Although the valuation of a company is important, it ideally won't be the sole piece of analysis you scrutinize for a company. It's not possible to obtain a foolproof valuation with a DCF model. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/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. Why is the intrinsic value higher than the current share price? For Vistry Group, we've put together three additional items you should look at:

1. Risks: Case in point, we've spotted 2 warning signs for Vistry Group you should be aware of, and 1 of them shouldn't be ignored.
2. Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for VTY's future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.
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 British 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. 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.