Stock Analysis

Is There An Opportunity With Super Group (SGHC) Limited's (NYSE:SGHC) 42% Undervaluation?

Published
NYSE:SGHC
Source: Shutterstock

Key Insights

  • Super Group (SGHC)'s estimated fair value is US$6.24 based on 2 Stage Free Cash Flow to Equity
  • Current share price of US$3.61 suggests Super Group (SGHC) is potentially 42% undervalued
  • The €5.00 analyst price target for SGHC is 20% less than our estimate of fair value

Today we will run through one way of estimating the intrinsic value of Super Group (SGHC) Limited (NYSE:SGHC) by taking the expected future cash flows and discounting them to their present value. One way to achieve this is by employing the Discounted Cash Flow (DCF) model. Before you think you won't be able to understand it, just read on! It's actually much less complex than you'd imagine.

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 want to learn more about discounted cash flow, the rationale behind this calculation can be read in detail in the Simply Wall St analysis model.

See our latest analysis for Super Group (SGHC)

Step By Step Through The Calculation

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. 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.

A DCF is all about the idea that a dollar in the future is less valuable than a dollar today, 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) €84.3m €113.7m €136.1m €155.7m €172.4m €186.4m €198.2m €208.1m €216.8m €224.4m
Growth Rate Estimate Source Analyst x1 Analyst x1 Est @ 19.70% Est @ 14.41% Est @ 10.71% Est @ 8.12% Est @ 6.30% Est @ 5.03% Est @ 4.14% Est @ 3.52%
Present Value (€, Millions) Discounted @ 8.1% €78.0 €97.3 €108 €114 €117 €117 €115 €112 €108 €103

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = €1.1b

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 8.1%.

Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = €224m× (1 + 2.1%) ÷ (8.1%– 2.1%) = €3.8b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= €3.8b÷ ( 1 + 8.1%)10= €1.7b

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 €2.8b. The last step is to then divide the equity value by the number of shares outstanding. Compared to the current share price of US$3.6, the company appears quite good value at a 42% discount to where the stock price trades currently. Remember though, that this is just an approximate valuation, and like any complex formula - garbage in, garbage out.

dcf
NYSE:SGHC Discounted Cash Flow April 24th 2023

The Assumptions

The calculation above is very dependent on two assumptions. The first is the discount rate and the other is the 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 Super Group (SGHC) 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 8.1%, which is based on a levered beta of 1.015. 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 Super Group (SGHC)

Strength
  • Earnings growth over the past year exceeded the industry.
  • Debt is not viewed as a risk.
Weakness
  • No major weaknesses identified for SGHC.
Opportunity
  • Annual earnings are forecast to grow for the next 4 years.
  • Good value based on P/E ratio and estimated fair value.
Threat
  • 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. The DCF model is not a perfect stock valuation tool. Rather it should be seen as a guide to "what assumptions need to be true for this stock to be under/overvalued?" For example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. What is the reason for the share price sitting below the intrinsic value? For Super Group (SGHC), we've compiled three essential factors you should assess:

  1. Risks: For example, we've discovered 1 warning sign for Super Group (SGHC) that you should be aware of before investing here.
  2. Future Earnings: How does SGHC'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 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 Super Group (SGHC) 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