Stock Analysis

A Look At The Fair Value Of Unilever PLC (LON:ULVR)

LSE:ULVR
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Key Insights

  • The projected fair value for Unilever is UK£40.74 based on 2 Stage Free Cash Flow to Equity
  • Unilever's UK£38.13 share price indicates it is trading at similar levels as its fair value estimate
  • Our fair value estimate is 2.9% lower than Unilever's analyst price target of €41.95

In this article we are going to estimate the intrinsic value of Unilever PLC (LON:ULVR) by taking the forecast future cash flows of the company and discounting them back to today's value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.

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 still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.

See our latest analysis for Unilever

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.

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) forecast

2024 2025 2026 2027 2028 2029 2030 2031 2032 2033
Levered FCF (€, Millions) €6.84b €7.47b €8.74b €8.82b €8.91b €9.01b €9.13b €9.25b €9.38b €9.51b
Growth Rate Estimate Source Analyst x9 Analyst x8 Analyst x1 Analyst x1 Est @ 1.03% Est @ 1.18% Est @ 1.28% Est @ 1.35% Est @ 1.40% Est @ 1.44%
Present Value (€, Millions) Discounted @ 8.5% €6.3k €6.3k €6.8k €6.4k €5.9k €5.5k €5.2k €4.8k €4.5k €4.2k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = €56b

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 1.5%. We discount the terminal cash flows to today's value at a cost of equity of 8.5%.

Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = €9.5b× (1 + 1.5%) ÷ (8.5%– 1.5%) = €138b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= €138b÷ ( 1 + 8.5%)10= €61b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is €117b. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of UK£38.1, the company appears about fair value at a 6.4% 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.

dcf
LSE:ULVR Discounted Cash Flow December 29th 2023

The 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 Unilever 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 8.5%, which is based on a levered beta of 1.181. 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 Unilever

Strength
  • Earnings growth over the past year exceeded its 5-year average.
  • Debt is well covered by earnings and cashflows.
  • Dividends are covered by earnings and cash flows.
Weakness
  • Earnings growth over the past year underperformed the Personal Products industry.
  • Dividend is low compared to the top 25% of dividend payers in the Personal Products market.
Opportunity
  • Good value based on P/E ratio and estimated fair value.
Threat
  • Annual earnings are forecast to decline for the next 3 years.

Moving On:

Valuation is only one side of the coin in terms of building your investment thesis, and it is only one of many factors that you need to assess for 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 instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Unilever, we've compiled three essential factors you should consider:

  1. Risks: Case in point, we've spotted 3 warning signs for Unilever you should be aware of, and 1 of them can't be ignored.
  2. Future Earnings: How does ULVR'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 British 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 Unilever 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.