We are going to use a two-stage DCF model, which, as the name states, takes into account two stages of growth. The first stage is generally a higher growth period which levels off heading towards the terminal value, captured in the second ‘steady growth’ period. In the first stage we need to estimate the cash flows to the business over the next five years. For this I used the consensus of the analysts covering the stock, as you can see below. I then discount this to its value today and sum up the total to get the present value of these cash flows.
5-year cash flow forecast
|Levered FCF (₹, Millions)||₹711.78||₹774.33||₹1,046.93||₹1,710.50||₹1,856.00|
|Source||Analyst x4||Analyst x3||Analyst x4||Analyst x2||Analyst x2|
|Present Value Discounted @ 13.55%||₹626.86||₹600.60||₹715.15||₹1,029.05||₹983.37|
Present Value of 5-year Cash Flow (PVCF)= ₹3,955
We now need to calculate the Terminal Value, which accounts for all the future cash flows after the five years. For a number of reasons a very conservative growth rate is used that cannot exceed that of the GDP. In this case I have used the 10-year government bond rate (7.7%). In the same way as with the 5-year ‘growth’ period, we discount this to today’s value at a cost of equity of 13.5%.
Terminal Value (TV) = FCF2022 × (1 + g) ÷ (r – g) = ₹1,856 × (1 + 7.7%) ÷ (13.5% – 7.7%) = ₹34,379
Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = ₹34,379 / ( 1 + 13.5%)5 = ₹18,215
The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is ₹22,170. In the final step we divide the equity value by the number of shares outstanding. If the stock is an depositary receipt (represents a specified number of shares in a foreign corporation) or ADR then we use the equivalent number. This results in an intrinsic value of ₹412.11, which, compared to the current share price of ₹594, we see that Thyrocare Technologies is quite expensive and not available at a discount at this time.
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 my result, have a go at the calculation yourself and play with the assumptions. Because we are looking at Thyrocare Technologies as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighed average cost of capital, WACC) which accounts for debt. In this calculation I’ve used 13.5%, which is based on a levered beta of 0.8. This is derived from the Bottom-Up Beta method based on comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.
Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn’t be the only metric you look at when researching a company. What is the reason for the share price to differ from the intrinsic value? For THYROCARE, I’ve compiled three important factors you should look at:
- Financial Health: Does THYROCARE have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
- Future Earnings: How does THYROCARE’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.
- Other High Quality Alternatives: Are there other high quality stocks you could be holding instead of THYROCARE? Explore our interactive list of high quality stocks to get an idea of what else is out there you may be missing!
PS. The Simply Wall St app conducts a discounted cash flow for every stock on the NSEI every 6 hours. If you want to find the calculation for other stocks just search here.