An Intrinsic Calculation For Prism Johnson Limited (NSE:PRSMJOHNSN) Suggests It's 36% Undervalued

Key Insights

• Using the 2 Stage Free Cash Flow to Equity, Prism Johnson fair value estimate is ₹283
• Prism Johnson's ₹181 share price signals that it might be 36% undervalued
• Analyst price target for PRSMJOHNSN is ₹143 which is 49% below our fair value estimate

Today we will run through one way of estimating the intrinsic value of Prism Johnson Limited (NSE:PRSMJOHNSN) 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. 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. 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 Prism Johnson

The Method

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. 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, 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

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (₹, Millions)	-₹946.0m	₹6.02b	₹8.61b	₹11.4b	₹14.2b	₹16.9b	₹19.5b	₹22.0b	₹24.5b	₹26.8b
Growth Rate Estimate Source	Analyst x1	Analyst x1	Est @ 43.15%	Est @ 32.23%	Est @ 24.58%	Est @ 19.22%	Est @ 15.48%	Est @ 12.85%	Est @ 11.02%	Est @ 9.73%
Present Value (₹, Millions) Discounted @ 15%	-₹822	₹4.5k	₹5.6k	₹6.5k	₹7.0k	₹7.3k	₹7.3k	₹7.2k	₹6.9k	₹6.6k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ₹58b

The second stage is also known as Terminal Value, this is the business's cash flow after the first stage. 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 (6.7%) 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 15%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = ₹27b× (1 + 6.7%) ÷ (15%– 6.7%) = ₹343b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= ₹343b÷ ( 1 + 15%)¹⁰= ₹84b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is ₹142b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of ₹181, the company appears quite undervalued at a 36% 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.

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 Prism Johnson 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 1.003. 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 Prism Johnson

Moving On:

Although the valuation of a company is important, 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 example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. What is the reason for the share price sitting below the intrinsic value? For Prism Johnson, we've put together three fundamental aspects you should further examine:

1. Risks: As an example, we've found 2 warning signs for Prism Johnson (1 is a bit concerning!) that you need to consider before investing here.
2. Future Earnings: How does PRSMJOHNSN'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. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.