Is there an opportunity with the 49% undervaluation of ENAV SpA (BIT: ENAV)?
How far is ENAV SpA (BIT: ENAV) from its intrinsic value? Using the most recent financial data, we’ll examine whether the stock price is fair by taking the company’s future cash flow forecast and discounting it to today’s value. One way to do this is to use the Discounted Cash Flow (DCF) model. It may sound complicated, but it’s actually quite simple!
We draw your attention to the fact that there are many ways to assess a business and, like DCF, each technique has advantages and disadvantages in certain scenarios. If you still have burning questions about this type of valuation, take a look at the Simply Wall St.
See our latest review for ENAV
We use what is called a two-step model, which simply means that we have two different periods of growth rate for the cash flow of the business. Usually, the first stage is higher growth, and the second stage is a lower growth stage. In the first step, we need to estimate the cash flow of the business over the next ten years. Where possible, we use analyst estimates, but when these are not available, we extrapolate the previous Free Cash Flow (FCF) from the latest estimate or stated value. We assume that companies with decreasing free cash flow will slow their rate of contraction, and companies with increasing free cash flow will see their growth rate slow during this period. We do this to reflect the fact that growth tends to slow down more in the early years than in subsequent years.
A DCF is based on the idea that a dollar in the future is worth less than a dollar today, so we need to discount the sum of these future cash flows to arrive at an estimate of the present value:
10-year Free Cash Flow (FCF) estimate
|Leverage FCF (€, Millions)||€ 128.4m||146.9 M €||€ 223.0 million||€ 268.6m||€ 308.4m||342.1 million euros||€ 370.0m||€ 393.1 million||€ 412.3 million||€ 428.6m|
|Source of growth rate estimate||Analyst x3||Analyst x3||Analyst x1||Est @ 20.44%||Est @ 14.83%||Est @ 10.91%||Est @ 8.16%||Est @ 6.24%||Est @ 4.89%||Est @ 3.95%|
|Present value (€, Millions) discounted @ 8.7%||118 €||€ 124||174 €||€ 192||€ 203||€ 207||206 €||€ 201||194 €||€ 186|
(“East” = FCF growth rate estimated by Simply Wall St)
10-year present value of cash flows (PVCF) = € 1.8bn
The second stage is also known as terminal value, this is the cash flow of the business after the first stage. The Gordon growth formula is used to calculate the terminal value at a future annual growth rate equal to the 5-year average of the 10-year government bond yield of 1.8%. We discount the terminal cash flows to their present value at a cost of equity of 8.7%.
Terminal value (TV)= FCF2031 × (1 + g) ÷ (r – g) = € 429m × (1 + 1.8%) ÷ (8.7% – 1.8%) = € 6.3bn
Present value of terminal value (PVTV)= TV / (1 + r)ten= € 6.3bn ÷ (1 + 8.7%)ten= € 2.7bn
The total value is the sum of the cash flows for the next ten years plus the present terminal value, which gives the Total Equity Value, which in this case is 4.5 billion euros. The last step is then to divide the equity value by the number of shares outstanding. Compared to the current share price of € 4.3, the company looks fairly good value with a 49% discount to the current share price. Ratings are imprecise instruments, however, much like a telescope – move a few degrees and end up in another galaxy. Keep this in mind.
The above calculation is very dependent on two assumptions. One is the discount rate and the other is cash flow. Part of investing is coming up with your own assessment of a company’s future performance, so try the math yourself and check your own assumptions. The DCF also does not take into account the possible cyclicality of an industry or the future capital needs of a company, so it does not give a complete picture of a company’s potential performance. Since we view ENAV 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 takes into account debt. In this calculation, we used 8.7%, which is based on a leveraged beta of 1.118. Beta is a measure of the volatility of a stock relative to the market as a whole. We get our average beta from the industry beta of comparable companies globally, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable company.
While a business valuation is important, it shouldn’t be the only metric you look at when researching a business. The DCF model is not a perfect equity valuation tool. Preferably, you would apply different cases and assumptions and see their impact on the valuation of the business. If a business grows at a different rate, or if its cost of equity or risk-free rate changes sharply, output can be very different. Can we understand why the company trades at a discount to its intrinsic value? For ENAV, there are three essential factors to take into account:
- Risks: For example, we discovered 3 warning signs for ENAV (2 cannot be ignored!) Which you should be aware of before investing here.
- Future benefits: How does ENAV’s growth rate compare to that of its peers and the broader market? Dig deeper into the analyst consensus number for years to come by interacting with our free analyst growth expectations chart.
- Other high quality alternatives: Do you like a good all-rounder? Explore our interactive list of high-quality stocks to get a feel for what you might be missing!
PS. The Simply Wall St app performs a daily discounted cash flow assessment for every ILO share. If you want to find the calculation for other actions, just search here.
This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative material. Simply Wall St has no position in any of the stocks mentioned.
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