Calculating The Fair Value Of Playa Hotels & Resorts N.V. (NASDAQ:PLYA)

Key Insights

• The projected fair value for Playa Hotels & Resorts is US$8.81 based on 2 Stage Free Cash Flow to Equity
• Current share price of US$9.33 suggests Playa Hotels & Resorts is potentially trading close to its fair value
• Our fair value estimate is 33% lower than Playa Hotels & Resorts' analyst price target of US$13.17

How far off is Playa Hotels & Resorts N.V. (NASDAQ:PLYA) from its intrinsic value? Using the most recent financial data, we'll take a look at whether the stock is fairly priced by taking the forecast future cash flows of the company and discounting them back to today's value. This will be done using the Discounted Cash Flow (DCF) model. It may sound complicated, but actually it is quite simple!

We would caution that there are many ways of valuing a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

View our latest analysis for Playa Hotels & Resorts

Is Playa Hotels & Resorts Fairly Valued?

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

	2023	2024	2025	2026	2027	2028	2029	2030	2031	2032
Levered FCF ($, Millions)	US$116.6m	US$118.4m	US$120.4m	US$122.6m	US$124.9m	US$127.4m	US$129.9m	US$132.5m	US$135.2m	US$138.0m
Growth Rate Estimate Source	Analyst x1	Est @ 1.55%	Est @ 1.71%	Est @ 1.82%	Est @ 1.89%	Est @ 1.95%	Est @ 1.98%	Est @ 2.01%	Est @ 2.03%	Est @ 2.04%
Present Value ($, Millions) Discounted @ 10%	US$106	US$97.2	US$89.6	US$82.7	US$76.4	US$70.6	US$65.2	US$60.3	US$55.7	US$51.5

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$755m

The second stage is also known as Terminal Value, this is the business's cash flow after the first stage. 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 2.1%. We discount the terminal cash flows to today's value at a cost of equity of 10%.

Terminal Value (TV)= FCF₂₀₃₂ × (1 + g) ÷ (r – g) = US$138m× (1 + 2.1%) ÷ (10%– 2.1%) = US$1.7b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= US$1.7b÷ ( 1 + 10%)¹⁰= US$636m

The total value is the sum of cash flows for the next ten years plus the discounted terminal value, which results in the Total Equity Value, which in this case is US$1.4b. In the final step we divide the equity value by the number of shares outstanding. Relative to the current share price of US$9.3, 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

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the cash flows. Part of investing is coming up with your own evaluation of a company's future performance, so try the calculation yourself and check your own 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 Playa Hotels & Resorts 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 10%, which is based on a levered beta of 1.393. 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 Playa Hotels & Resorts

Looking Ahead:

Valuation is only one side of the coin in terms of building your investment thesis, and it shouldn't be the only metric you look at when researching 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. For Playa Hotels & Resorts, we've put together three fundamental aspects you should further examine:

1. Risks: Every company has them, and we've spotted 2 warning signs for Playa Hotels & Resorts (of which 1 shouldn't be ignored!) you should know about.
2. Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for PLYA'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 NASDAQGS every day. If you want to find the calculation for other stocks 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.