Intrinsic Calculation For Nevro Corp (NYSE:NVRO) Shows Investors Are Overpaying

Does the share price for Nevro Corp (NYSE:NVRO) reflect it’s really worth? Today, I will calculate the stock’s intrinsic value by projecting its future cash flows and then discounting them to today’s value. I will be using the discounted cash flows (DCF) model. Don’t get put off by the jargon, the math behind it is actually quite straightforward. If you want to learn more about discounted cash flow, the basis for my calcs can be read in detail in the Simply Wall St analysis model. Please also note that this article was written in July 2018 so be sure check out the updated calculation by following the link below.

See our latest analysis for Nevro

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 start off with we need to estimate the next five years of cash flows. Where possible I use analyst estimates, but when these aren’t available I have extrapolated the previous free cash flow (FCF) from the year before. For this growth rate I used the average annual growth rate over the past five years, but capped at a reasonable level. The sum of these cash flows is then discounted to today’s value.

5-year cash flow estimate

2018 2019 2020 2021 2022
Levered FCF ($, Millions) $-7.95 $50.00 $78.30 $91.61 $106.27
Source Analyst x2 Analyst x1 Analyst x1 Extrapolated @ (17%, capped from 61.64%) Extrapolated @ (16%, capped from 61.64%)
Present Value Discounted @ 8.87% $-7.30 $42.18 $60.67 $65.20 $69.47

Present Value of 5-year Cash Flow (PVCF)= US$230.23m

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 the GDP. In this case I have used the 10-year government bond rate (2.9%). In the same way as with the 5-year ‘growth’ period, we discount this to today’s value at a cost of equity of 8.9%.

Terminal Value (TV) = FCF2022 × (1 + g) ÷ (r – g) = US$106.27m × (1 + 2.9%) ÷ (8.9% – 2.9%) = US$1.85b

Present Value of Terminal Value (PVTV) = TV / (1 + r)5 = US$1.85b ÷ ( 1 + 8.9%)5 = US$1.21b

The total value, or equity value, is then the sum of the present value of the cash flows, which in this case is US$1.44b. The last step is to then divide the equity value by the number of shares outstanding. If the stock is an depositary receipt (represents a specified number of shares in a foreign corporation) then we use the equivalent number. This results in an intrinsic value of $47.96. Compared to the current share price of $60.01, the stock is fair value, maybe slightly overvalued at the time of writing.

NYSE:NVRO Intrinsic Value Export July 27th 18
NYSE:NVRO Intrinsic Value Export July 27th 18

Important 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 my inputs, I recommend redoing the calculations yourself and playing with them. Because we are looking at Nevro as potential shareholders, the cost of equity is used as the discount rate, rather than the cost of capital (or weighed average cost of capital, WACC) which accounts for debt. In this calculation I’ve used 8.9%, which is based on a levered beta of 0.840. This is derived from the Bottom-Up Beta method based on comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable business.

Next Steps:

Although the valuation of a company is important, it shouldn’t be the only metric you look at when researching a company. What is the reason for the share price to differ from the intrinsic value? For NVRO, I’ve put together three key factors you should look at:

  1. Financial Health: Does NVRO have a healthy balance sheet? Take a look at our free balance sheet analysis with six simple checks on key factors like leverage and risk.
  2. Future Earnings: How does NVRO’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: Are there other high quality stocks you could be holding instead of NVRO? 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 for every stock on the NYSE every 6 hours. If you want to find the calculation for other stocks just search here.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.