A Look At The Fair Value Of Liberty Shoes Ltd. (NSE:LIBERTSHOE)

Key Insights

• The projected fair value for Liberty Shoes is ₹422 based on 2 Stage Free Cash Flow to Equity
• Liberty Shoes' ₹498 share price indicates it is trading at similar levels as its fair value estimate
• Liberty Shoes' peers seem to be trading at a higher premium to fair value based onthe industry average of -4,070%

Today we will run through one way of estimating the intrinsic value of Liberty Shoes Ltd. (NSE:LIBERTSHOE) by estimating the company's future cash flows and discounting them to their present value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this. 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 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.

View our latest analysis for Liberty Shoes

Is Liberty Shoes Fairly Valued?

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. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last 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, so we discount the value of these future cash flows to their estimated value in today's dollars:

10-year free cash flow (FCF) forecast

	2025	2026	2027	2028	2029	2030	2031	2032	2033	2034
Levered FCF (₹, Millions)	₹513.7m	₹570.3m	₹625.7m	₹680.9m	₹736.6m	₹793.6m	₹852.5m	₹913.9m	₹978.4m	₹1.05b
Growth Rate Estimate Source	Est @ 12.87%	Est @ 11.02%	Est @ 9.72%	Est @ 8.81%	Est @ 8.18%	Est @ 7.74%	Est @ 7.43%	Est @ 7.21%	Est @ 7.06%	Est @ 6.95%
Present Value (₹, Millions) Discounted @ 15%	₹448	₹434	₹415	₹394	₹372	₹350	₹328	₹306	₹286	₹267

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ₹3.6b

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 6.7%. We discount the terminal cash flows to today's value at a cost of equity of 15%.

Terminal Value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = ₹1.0b× (1 + 6.7%) ÷ (15%– 6.7%) = ₹14b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= ₹14b÷ ( 1 + 15%)¹⁰= ₹3.6b

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 ₹7.2b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of ₹498, the company appears around fair value at the time of writing. 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

Now the most important inputs to a discounted cash flow are the discount rate, and of course, the actual cash flows. You don't have to agree with these inputs, I recommend redoing the calculations yourself and playing with them. 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 Liberty Shoes 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 15%, which is based on a levered beta of 1.168. 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.

Next Steps:

Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for a company. DCF models are not the be-all and end-all of investment valuation. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Liberty Shoes, there are three relevant items you should look at:

1. Risks: Be aware that Liberty Shoes is showing 3 warning signs in our investment analysis , and 1 of those shouldn't be ignored...
2. 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!
3. Other Environmentally-Friendly Companies: Concerned about the environment and think consumers will buy eco-friendly products more and more? Browse through our interactive list of companies that are thinking about a greener future to discover some stocks you may not have thought of!

PS. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the NSEI 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.