Are Investors Undervaluing Shoppers Stop Limited (NSE:SHOPERSTOP) By 39%?

Key Insights

• Using the 2 Stage Free Cash Flow to Equity, Shoppers Stop fair value estimate is ₹1,403
• Shoppers Stop is estimated to be 39% undervalued based on current share price of ₹852
• Analyst price target for SHOPERSTOP is ₹844 which is 40% below our fair value estimate

Does the July share price for Shoppers Stop Limited (NSE:SHOPERSTOP) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by taking the expected future cash flows and discounting them to today's value. We will use the Discounted Cash Flow (DCF) model on this occasion. There's really not all that much to it, even though it might appear quite complex.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. For those who are keen learners of equity analysis, the Simply Wall St analysis model here may be something of interest to you.

Check out our latest analysis for Shoppers Stop

Crunching The Numbers

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. In the first stage we need to estimate the cash flows to the business over the next ten years. 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) estimate

	2025	2026	2027	2028	2029	2030	2031	2032	2033	2034
Levered FCF (₹, Millions)	₹1.49b	₹10.1b	₹12.7b	₹15.2b	₹17.6b	₹19.9b	₹22.2b	₹24.3b	₹26.5b	₹28.7b
Growth Rate Estimate Source	Analyst x1	Analyst x2	Est @ 25.60%	Est @ 19.93%	Est @ 15.96%	Est @ 13.18%	Est @ 11.23%	Est @ 9.87%	Est @ 8.91%	Est @ 8.25%
Present Value (₹, Millions) Discounted @ 16%	₹1.3k	₹7.6k	₹8.2k	₹8.5k	₹8.6k	₹8.4k	₹8.1k	₹7.7k	₹7.2k	₹6.8k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = ₹72b

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. 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 16%.

Terminal Value (TV)= FCF₂₀₃₄ × (1 + g) ÷ (r – g) = ₹29b× (1 + 6.7%) ÷ (16%– 6.7%) = ₹347b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= ₹347b÷ ( 1 + 16%)¹⁰= ₹82b

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is ₹154b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of ₹852, the company appears quite undervalued at a 39% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

The Assumptions

We would point out that 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 Shoppers Stop 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 16%, which is based on a levered beta of 1.130. 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 Shoppers Stop

Looking Ahead:

Valuation is only one side of the coin in terms of building your investment thesis, and it ideally won't be the sole piece of analysis you scrutinize 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. 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. Can we work out why the company is trading at a discount to intrinsic value? For Shoppers Stop, we've compiled three essential elements you should assess:

1. Risks: Every company has them, and we've spotted 4 warning signs for Shoppers Stop (of which 1 is potentially serious!) you should know about.
2. Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for SHOPERSTOP's future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.
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.

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