Estimating The Intrinsic Value Of Arribatec Group ASA (OB:ARR)

Key Insights

• Arribatec Group's estimated fair value is kr5.72 based on 2 Stage Free Cash Flow to Equity
• Current share price of kr5.40 suggests Arribatec Group is potentially trading close to its fair value
• Industry average discount to fair value of 20% suggests Arribatec Group's peers are currently trading at a higher discount

In this article we are going to estimate the intrinsic value of Arribatec Group ASA (OB:ARR) by taking the expected future cash flows and discounting them to their present value. Our analysis will employ the Discounted Cash Flow (DCF) model. Don't get put off by the jargon, the math behind it is actually quite straightforward.

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.

Check out our latest analysis for Arribatec Group

Step By Step Through The Calculation

We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. To begin with, we have to get estimates of the next ten years of cash flows. Seeing as no analyst estimates of free cash flow are available to us, we have extrapolate the previous free cash flow (FCF) from the company's last 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 need to discount the sum of these future cash flows to arrive at a present value estimate:

10-year free cash flow (FCF) forecast

	2024	2025	2026	2027	2028	2029	2030	2031	2032	2033
Levered FCF (NOK, Millions)	kr7.43m	kr10.8m	kr14.4m	kr17.7m	kr20.7m	kr23.2m	kr25.2m	kr26.9m	kr28.3m	kr29.4m
Growth Rate Estimate Source	Est @ 64.90%	Est @ 45.87%	Est @ 32.55%	Est @ 23.23%	Est @ 16.70%	Est @ 12.13%	Est @ 8.93%	Est @ 6.69%	Est @ 5.13%	Est @ 4.03%
Present Value (NOK, Millions) Discounted @ 7.2%	kr6.9	kr9.4	kr11.7	kr13.4	kr14.6	kr15.3	kr15.5	kr15.5	kr15.2	kr14.7

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = kr132m

We now need to calculate the Terminal Value, which accounts for all the future cash flows after this ten year period. The Gordon Growth formula is used to calculate Terminal Value at a future annual growth rate equal to the 5-year average of the 10-year government bond yield of 1.5%. We discount the terminal cash flows to today's value at a cost of equity of 7.2%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = kr29m× (1 + 1.5%) ÷ (7.2%– 1.5%) = kr524m

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= kr524m÷ ( 1 + 7.2%)¹⁰= kr263m

The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is kr395m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of kr5.4, the company appears about fair value at a 5.6% 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

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. 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 Arribatec 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 7.2%, which is based on a levered beta of 1.139. 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.

Next Steps:

Whilst important, the DCF calculation shouldn't be the only metric you look at when researching a company. The DCF model is not a perfect stock valuation tool. 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 instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. For Arribatec Group, we've compiled three essential items you should explore:

1. Risks: As an example, we've found 2 warning signs for Arribatec Group (1 makes us a bit uncomfortable!) that you need to consider before investing here.
2. Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for ARR's future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.
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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the OB 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.