A Look At The Fair Value Of Sony Group Corporation (TSE:6758)

Key Insights

• Using the 2 Stage Free Cash Flow to Equity, Sony Group fair value estimate is JP¥12,531
• Sony Group's JP¥12,960 share price indicates it is trading at similar levels as its fair value estimate
• Analyst price target for 6758 is JP¥16,506, which is 32% above our fair value estimate

Today we will run through one way of estimating the intrinsic value of Sony Group Corporation (TSE:6758) by taking the expected future cash flows and discounting them to their present value. This will be done using 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.

Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. 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 Sony Group

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, and so the sum of these future cash flows is then discounted to today's value:

10-year free cash flow (FCF) forecast

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (¥, Millions)	JP¥718.4b	JP¥1.19t	JP¥1.17t	JP¥1.04t	JP¥1.25t	JP¥1.26t	JP¥1.26t	JP¥1.27t	JP¥1.27t	JP¥1.27t
Growth Rate Estimate Source	Analyst x4	Analyst x7	Analyst x6	Analyst x1	Analyst x1	Est @ 0.44%	Est @ 0.36%	Est @ 0.30%	Est @ 0.26%	Est @ 0.23%
Present Value (¥, Millions) Discounted @ 8.0%	JP¥665.4k	JP¥1.02m	JP¥932.5k	JP¥768.5k	JP¥855.3k	JP¥795.7k	JP¥739.6k	JP¥687.1k	JP¥638.0k	JP¥592.3k

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = JP¥7.7t

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 (0.2%) 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 8.0%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = JP¥1.3t× (1 + 0.2%) ÷ (8.0%– 0.2%) = JP¥16t

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= JP¥16t÷ ( 1 + 8.0%)¹⁰= JP¥7.6t

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is JP¥15t. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of JP¥13k, 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 Sony Group 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 8.0%, which is based on a levered beta of 1.386. 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 Sony Group

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. Preferably you'd apply different cases and assumptions and see how they would impact the company's valuation. For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For Sony Group, we've compiled three important aspects you should explore:

1. Risks: We feel that you should assess the 2 warning signs for Sony Group we've flagged before making an investment in the company.
2. Future Earnings: How does 6758'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 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!

PS. Simply Wall St updates its DCF calculation for every Japanese 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.