Calculating The Fair Value Of Welspun India Limited (NSE:WELSPUNIND)

Key Insights

• Welspun India's estimated fair value is ₹60.8 based on 2 Stage Free Cash Flow to Equity
• Current share price of ₹67.3 suggests Welspun India is trading close to its fair value
• Analyst price target for WELSPUNIND is ₹77.17 which is 27% above our fair value estimate

Today we will run through one way of estimating the intrinsic value of Welspun India Limited (NSE:WELSPUNIND) by taking the expected future cash flows and discounting them 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.

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. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

See our latest analysis for Welspun India

Step By Step Through The Calculation

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.

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) estimate

	2023	2024	2025	2026	2027	2028	2029	2030	2031	2032
Levered FCF (₹, Millions)	₹6.68b	₹4.10b	₹6.30b	₹7.67b	₹8.99b	₹10.3b	₹11.5b	₹12.7b	₹13.9b	₹15.0b
Growth Rate Estimate Source	Analyst x2	Analyst x2	Analyst x2	Est @ 21.73%	Est @ 17.25%	Est @ 14.11%	Est @ 11.92%	Est @ 10.38%	Est @ 9.30%	Est @ 8.55%
Present Value (₹, Millions) Discounted @ 19%	₹5.6k	₹2.9k	₹3.8k	₹3.9k	₹3.8k	₹3.7k	₹3.4k	₹3.2k	₹2.9k	₹2.7k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ₹36b

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 (6.8%) 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 19%.

Terminal Value (TV)= FCF₂₀₃₂ × (1 + g) ÷ (r – g) = ₹15b× (1 + 6.8%) ÷ (19%– 6.8%) = ₹134b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= ₹134b÷ ( 1 + 19%)¹⁰= ₹24b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is ₹60b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of ₹67.3, the company appears around fair value at the time of writing. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

The Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Welspun India 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 19%, which is based on a levered beta of 1.319. 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 Welspun India

Looking Ahead:

Although the valuation of a company is important, it is only one of many factors that you need to assess 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 instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Welspun India, we've put together three essential aspects you should further examine:

1. Risks: For instance, we've identified 2 warning signs for Welspun India (1 is a bit concerning) you should be aware of.
2. Future Earnings: How does WELSPUNIND'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 Indian 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.