Stock Analysis

# Calculating The Intrinsic Value Of PTC Therapeutics, Inc. (NASDAQ:PTCT)

•  Updated

In this article we are going to estimate the intrinsic value of PTC Therapeutics, Inc. (NASDAQ:PTCT) by projecting its future cash flows and then discounting them to today's value. We will use the Discounted Cash Flow (DCF) model on this occasion. Models like these may appear beyond the comprehension of a lay person, but they're fairly easy to follow.

Remember though, that there are many ways to estimate a company's value, and a DCF is just one method. Anyone interested in learning a bit more about intrinsic value should have a read of the Simply Wall St analysis model.

View our latest analysis for Therapeutics

### 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. In the first stage we need to estimate the cash flows to the business over the next ten years. 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, and so the sum of these future cash flows is then discounted to today's value:

#### 10-year free cash flow (FCF) forecast

 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 Levered FCF (\$, Millions) -US\$194.2m -US\$49.1m US\$183.1m US\$348.7m US\$360.5m US\$370.5m US\$379.9m US\$389.0m US\$397.9m US\$406.7m Growth Rate Estimate Source Analyst x5 Analyst x5 Analyst x3 Analyst x3 Analyst x3 Est @ 2.76% Est @ 2.55% Est @ 2.39% Est @ 2.29% Est @ 2.21% Present Value (\$, Millions) Discounted @ 8.1% -US\$180 -US\$42.0 US\$145 US\$256 US\$245 US\$232 US\$221 US\$209 US\$198 US\$187

("Est" = FCF growth rate estimated by Simply Wall St)
Present Value of 10-year Cash Flow (PVCF) = US\$1.5b

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 (2.0%) 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)= FCF2030 × (1 + g) ÷ (r – g) = US\$407m× (1 + 2.0%) ÷ (8.1%– 2.0%) = US\$6.9b

Present Value of Terminal Value (PVTV)= TV / (1 + r)10= US\$6.9b÷ ( 1 + 8.1%)10= US\$3.2b

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\$4.6b. To get the intrinsic value per share, we divide this by the total number of shares outstanding. Relative to the current share price of US\$68.7, the company appears around fair value at the time of writing. 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.

### The assumptions

Now the most important inputs to a discounted cash flow are the discount rate, and of course, the actual 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 Therapeutics 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 1.154. 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.

### Moving On:

Valuation is only one side of the coin in terms of building your investment thesis, and it ideally won't be the sole piece of analysis you scrutinize for 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. For Therapeutics, we've compiled three additional elements you should consider:

1. Risks: For example, we've discovered 3 warning signs for Therapeutics that you should be aware of before investing here.
2. Management:Have insiders been ramping up their shares to take advantage of the market's sentiment for PTCT's future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.
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. The Simply Wall St app conducts a discounted cash flow valuation for every stock on the NASDAQGS every day. If you want to find the calculation for other stocks just search here.

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