Trustpilot Group plc (LON:TRST) Shares Could Be 44% Below Their Intrinsic Value Estimate

Key Insights

• The projected fair value for Trustpilot Group is UK£1.71 based on 2 Stage Free Cash Flow to Equity
• Trustpilot Group is estimated to be 44% undervalued based on current share price of UK£0.96
• Our fair value estimate is 11% higher than Trustpilot Group's analyst price target of US$1.54

Today we will run through one way of estimating the intrinsic value of Trustpilot Group plc (LON:TRST) 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. Don't get put off by the jargon, the math behind it is actually quite straightforward.

We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. 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 Trustpilot Group

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. 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, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF ($, Millions)	US$10.3m	US$19.3m	US$27.0m	US$34.6m	US$41.5m	US$47.6m	US$52.6m	US$56.7m	US$60.0m	US$62.8m
Growth Rate Estimate Source	Analyst x6	Analyst x6	Est @ 39.70%	Est @ 28.21%	Est @ 20.16%	Est @ 14.52%	Est @ 10.58%	Est @ 7.82%	Est @ 5.89%	Est @ 4.54%
Present Value ($, Millions) Discounted @ 6.8%	US$9.6	US$16.9	US$22.1	US$26.6	US$29.9	US$32.1	US$33.2	US$33.5	US$33.3	US$32.6

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$270m

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 (1.4%) 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 6.8%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = US$63m× (1 + 1.4%) ÷ (6.8%– 1.4%) = US$1.2b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= US$1.2b÷ ( 1 + 6.8%)¹⁰= US$611m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$881m. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of UK£1.0, the company appears quite undervalued at a 44% 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.

The 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 Trustpilot 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 6.8%, which is based on a levered beta of 1.081. 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:

Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. The DCF model is not a perfect stock valuation tool. 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. What is the reason for the share price sitting below the intrinsic value? For Trustpilot Group, we've compiled three essential factors you should look at:

1. Risks: Case in point, we've spotted 1 warning sign for Trustpilot Group you should be aware of.
2. Future Earnings: How does TRST'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.

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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.