W&T Offshore, Inc. (NYSE:WTI) Shares Could Be 30% Below Their Intrinsic Value Estimate

Key Insights

• The projected fair value for W&T Offshore is US$6.34 based on 2 Stage Free Cash Flow to Equity
• Current share price of US$4.44 suggests W&T Offshore is potentially 30% undervalued
• Our fair value estimate is 36% lower than W&T Offshore's analyst price target of US$9.90

In this article we are going to estimate the intrinsic value of W&T Offshore, Inc. (NYSE:WTI) by projecting its future cash flows and then discounting them to today's value. The Discounted Cash Flow (DCF) model is the tool we will apply to do this. There's really not all that much to it, even though it might appear quite complex.

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. 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 W&T Offshore

Is W&T Offshore 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. 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$84.0m	US$81.0m	US$79.6m	US$79.2m	US$79.4m	US$80.1m	US$81.0m	US$82.3m	US$83.7m	US$85.2m
Growth Rate Estimate Source	Analyst x2	Analyst x1	Est @ -1.70%	Est @ -0.54%	Est @ 0.26%	Est @ 0.83%	Est @ 1.23%	Est @ 1.50%	Est @ 1.70%	Est @ 1.83%
Present Value ($, Millions) Discounted @ 10.0%	US$76.4	US$67.0	US$59.8	US$54.1	US$49.3	US$45.2	US$41.6	US$38.4	US$35.5	US$32.9

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US$500m

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 10.0%.

Terminal Value (TV)= FCF₂₀₃₃ × (1 + g) ÷ (r – g) = US$85m× (1 + 2.2%) ÷ (10.0%– 2.2%) = US$1.1b

Present Value of Terminal Value (PVTV)= TV / (1 + r)¹⁰= US$1.1b÷ ( 1 + 10.0%)¹⁰= US$428m

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$928m. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Compared to the current share price of US$4.4, the company appears a touch undervalued at a 30% 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.

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 W&T Offshore 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 10.0%, which is based on a levered beta of 1.568. 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 W&T Offshore

Moving On:

Although the valuation of a company is important, it 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. 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 W&T Offshore, we've put together three further elements you should consider:

1. Risks: For example, we've discovered 3 warning signs for W&T Offshore (1 is concerning!) that you should be aware of before investing here.
2. Future Earnings: How does WTI'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 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.

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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.