- United States
- Professional Services
Are Investors Undervaluing Booz Allen Hamilton Holding Corporation (NYSE:BAH) By 23%?
- Booz Allen Hamilton Holding's estimated fair value is US$115 based on 2 Stage Free Cash Flow to Equity
- Booz Allen Hamilton Holding is estimated to be 23% undervalued based on current share price of US$88.51
- Our fair value estimate is 2.4% lower than Booz Allen Hamilton Holding's analyst price target of US$113
Does the March share price for Booz Allen Hamilton Holding Corporation (NYSE:BAH) reflect what it's really worth? Today, we will estimate the stock's intrinsic value by taking the expected future cash flows and discounting them to today's value. We will take advantage of the Discounted Cash Flow (DCF) model for this purpose. It may sound complicated, but actually it is quite simple!
Companies can be valued in a lot of ways, so we would point out that a DCF is not perfect for every situation. If you still have some burning questions about this type of valuation, take a look at the Simply Wall St analysis model.
View our latest analysis for Booz Allen Hamilton Holding
Is Booz Allen Hamilton Holding Fairly Valued?
We're using the 2-stage growth model, which simply means we take in account two stages of company's growth. In the initial period the company may have a higher growth rate and the second stage is usually assumed to have a stable growth rate. In the first stage we need to estimate the cash flows to the business over the next ten years. Where possible we use analyst estimates, but when these aren't available we extrapolate the previous free cash flow (FCF) from the last estimate or reported value. We assume companies with shrinking free cash flow will slow their rate of shrinkage, and that companies with growing free cash flow will see their growth rate slow, over this period. We do this to reflect that growth tends to slow more in the early years than it does in later years.
A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, so we need to discount the sum of these future cash flows to arrive at a present value estimate:
10-year free cash flow (FCF) estimate
|Levered FCF ($, Millions)||US$527.2m||US$579.6m||US$735.0m||US$814.0m||US$872.6m||US$921.9m||US$964.1m||US$1.00b||US$1.03b||US$1.06b|
|Growth Rate Estimate Source||Analyst x6||Analyst x6||Analyst x3||Analyst x1||Est @ 7.19%||Est @ 5.66%||Est @ 4.58%||Est @ 3.83%||Est @ 3.30%||Est @ 2.93%|
|Present Value ($, Millions) Discounted @ 7.5%||US$490||US$501||US$591||US$609||US$607||US$597||US$581||US$561||US$539||US$516|
("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$5.6b
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 (2.1%) 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 7.5%.
Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = US$1.1b× (1 + 2.1%) ÷ (7.5%– 2.1%) = US$20b
Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$20b÷ ( 1 + 7.5%)10= US$9.7b
The total value, or equity value, is then the sum of the present value of the future cash flows, which in this case is US$15b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of US$88.5, the company appears a touch undervalued at a 23% discount to where the stock price trades currently. The assumptions in any calculation have a big impact on the valuation, so it is better to view this as a rough estimate, not precise down to the last cent.
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 Booz Allen Hamilton Holding 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 7.5%, which is based on a levered beta of 0.917. 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 Booz Allen Hamilton Holding
- Debt is well covered by earnings and cashflows.
- Dividends are covered by earnings and cash flows.
- Earnings declined over the past year.
- Dividend is low compared to the top 25% of dividend payers in the Professional Services market.
- Annual earnings are forecast to grow faster than the American market.
- Good value based on P/E ratio and estimated fair value.
- Annual revenue is forecast to grow slower than the American market.
Whilst important, the DCF calculation 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. What is the reason for the share price sitting below the intrinsic value? For Booz Allen Hamilton Holding, we've put together three further factors you should further research:
- Risks: For instance, we've identified 3 warning signs for Booz Allen Hamilton Holding that you should be aware of.
- Future Earnings: How does BAH'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 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. Simply Wall St updates its DCF calculation for every American stock every day, so if you want to find the intrinsic value of any other stock just search here.
Valuation is complex, but we're helping make it simple.
Find out whether Booz Allen Hamilton Holding is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.View the Free Analysis
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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.
Booz Allen Hamilton Holding
Booz Allen Hamilton Holding Corporation provides management and technology consulting, analytics, engineering, digital solutions, mission operations, and cyber services to governments, corporations, and not-for-profit organizations in the United States and internationally.
High growth potential with adequate balance sheet and pays a dividend.