Stock Analysis

Is There An Opportunity With SeaWorld Entertainment, Inc.'s (NYSE:SEAS) 40% Undervaluation?

NYSE:PRKS
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Key Insights

  • The projected fair value for SeaWorld Entertainment is US$85.43 based on 2 Stage Free Cash Flow to Equity
  • Current share price of US$51.46 suggests SeaWorld Entertainment is potentially 40% undervalued
  • The US$62.20 analyst price target for SEAS is 27% less than our estimate of fair value

Today we'll do a simple run through of a valuation method used to estimate the attractiveness of SeaWorld Entertainment, Inc. (NYSE:SEAS) as an investment opportunity by estimating the company's future cash flows and discounting them to their present value. This will be done using the Discounted Cash Flow (DCF) model. Believe it or not, it's not too difficult to follow, as you'll see from our example!

We generally believe that a company's value is the present value of all of the cash it will generate in the future. However, a DCF is just one valuation metric among many, and it is not without flaws. 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 SeaWorld Entertainment

The Method

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, 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) US$298.7m US$357.0m US$387.8m US$413.8m US$435.9m US$455.2m US$472.3m US$487.8m US$502.3m US$516.1m
Growth Rate Estimate Source Analyst x3 Analyst x1 Est @ 8.62% Est @ 6.70% Est @ 5.36% Est @ 4.42% Est @ 3.76% Est @ 3.30% Est @ 2.97% Est @ 2.75%
Present Value ($, Millions) Discounted @ 9.6% US$273 US$297 US$295 US$287 US$276 US$263 US$249 US$234 US$220 US$207

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$2.6b

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 (2.2%) 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 9.6%.

Terminal Value (TV)= FCF2033 × (1 + g) ÷ (r – g) = US$516m× (1 + 2.2%) ÷ (9.6%– 2.2%) = US$7.2b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US$7.2b÷ ( 1 + 9.6%)10= US$2.9b

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$5.5b. The last step is to then divide the equity value by the number of shares outstanding. Relative to the current share price of US$51.5, the company appears quite good value at a 40% 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.

dcf
NYSE:SEAS Discounted Cash Flow December 20th 2023

Important Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 SeaWorld Entertainment 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 9.6%, which is based on a levered beta of 1.475. 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 SeaWorld Entertainment

Strength
  • Debt is well covered by earnings and cashflows.
Weakness
  • Earnings declined over the past year.
Opportunity
  • Annual earnings are forecast to grow for the next 3 years.
  • Good value based on P/E ratio and estimated fair value.
Threat
  • Total liabilities exceed total assets, which raises the risk of financial distress.
  • Annual earnings are forecast to grow slower than the American market.

Moving On:

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. 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 instance, if the terminal value growth rate is adjusted slightly, it can dramatically alter the overall result. Can we work out why the company is trading at a discount to intrinsic value? For SeaWorld Entertainment, we've compiled three fundamental items you should further examine:

  1. Risks: Consider for instance, the ever-present spectre of investment risk. We've identified 1 warning sign with SeaWorld Entertainment , and understanding this should be part of your investment process.
  2. Future Earnings: How does SEAS'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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the NYSE 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.