Stock Analysis

# Calculating The Intrinsic Value Of DT Midstream, Inc. (NYSE:DTM)

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Today we will run through one way of estimating the intrinsic value of DT Midstream, Inc. (NYSE:DTM) by taking the expected future cash flows and discounting them to their present value. We will use the Discounted Cash Flow (DCF) model on this occasion. Don't get put off by the jargon, the math behind it is actually quite straightforward.

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. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

See our latest analysis for DT Midstream

## Crunching The Numbers

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 begin with, we have to get estimates of 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) estimate

 2023 2024 2025 2026 2027 2028 2029 2030 2031 2032 Levered FCF (\$, Millions) US\$257.0m US\$325.5m US\$471.0m US\$502.0m US\$572.0m US\$623.6m US\$666.8m US\$703.4m US\$734.7m US\$762.2m Growth Rate Estimate Source Analyst x2 Analyst x2 Analyst x1 Analyst x1 Analyst x1 Est @ 9.02% Est @ 6.94% Est @ 5.48% Est @ 4.45% Est @ 3.74% Present Value (\$, Millions) Discounted @ 11% US\$231 US\$263 US\$342 US\$327 US\$335 US\$328 US\$315 US\$299 US\$280 US\$261

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US\$3.0b

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 11%.

Terminal Value (TV)= FCF2032 × (1 + g) ÷ (r – g) = US\$762m× (1 + 2.1%) ÷ (11%– 2.1%) = US\$8.4b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US\$8.4b÷ ( 1 + 11%)10= US\$2.9b

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\$5.9b. In the final step we divide the equity value by the number of shares outstanding. Compared to the current share price of US\$54.8, the company appears about fair value at a 9.7% 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.

## Important 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. 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 DT Midstream 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 11%, which is based on a levered beta of 1.554. 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 DT Midstream

Strength
• Earnings growth over the past year exceeded its 5-year average.
• Debt is well covered by earnings and cashflows.
• Dividends are covered by earnings and cash flows.
• Dividend is in the top 25% of dividend payers in the market.
Weakness
• Earnings growth over the past year underperformed the Oil and Gas industry.
Opportunity
• Annual revenue is forecast to grow faster than the American market.
• Current share price is below our estimate of fair value.
Threat
• Annual earnings are forecast to grow slower than the American market.

## Next Steps:

Whilst important, the DCF calculation ideally won't be the sole piece of analysis you scrutinize for 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 example, changes in the company's cost of equity or the risk free rate can significantly impact the valuation. For DT Midstream, we've compiled three relevant items you should further examine:

1. Risks: Take risks, for example - DT Midstream has 2 warning signs we think you should be aware of.
2. Future Earnings: How does DTM'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.

### Valuation is complex, but we're helping make it simple.

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