What is the distance between Culti Milano SpA (BIT:CULT) and its intrinsic value? Using the most recent financial data, we will examine whether the stock price is fair by taking the expected future cash flows and discounting them to the present value. Our analysis will use the discounted cash flow (DCF) model. Believe it or not, it’s not too hard to follow, as you’ll see in our example!
We draw your attention to the fact that there are many ways to value a company and, like the DCF, each technique has advantages and disadvantages in certain scenarios. Anyone interested in learning a little more about intrinsic value should read the Simply Wall St.
See our latest analysis for Culti Milano
Step by step in the calculation
We use what is called a 2-stage model, which simply means that we have two different periods of company cash flow growth rates. Generally, the first stage is a higher growth phase and the second stage is a lower growth phase. To begin with, we need to obtain cash flow estimates for the next ten years. Wherever possible, we use analysts’ estimates, but where these are not available, we extrapolate the previous free cash flow (FCF) from the latest estimate or reported 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 more in early years than in later years.
Generally, we assume that a dollar today is worth more than a dollar in the future, and so the sum of these future cash flows is then discounted to today’s value:
Estimated free cash flow (FCF) over 10 years
2022 | 2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | |
Leveraged FCF (€, Millions) | €2.80m | €3.25m | €3.70m | €4.03 million | €4.30 million | €4.52 million | €4.71 million | €4.87 million | €5.02 million | €5.15 million |
Growth rate estimate Source | Analyst x2 | Analyst x2 | Analyst x1 | Is at 8.85% | Is at 6.72% | Is at 5.23% | Is at 4.18% | Is at 3.45% | Is at 2.94% | Is at 2.58% |
Present value (in millions of euros) discounted at 8.1% | 2.6 € | 2.8 € | 2.9 € | €3.0 | 2.9 € | 2.8 € | 2.7 € | 2.6 € | 2.5 € | 2.4 € |
(“East” = FCF growth rate estimated by Simply Wall St)
10-year discounted cash flow (PVCF) = €27 million
The second stage is also known as the terminal value, it 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 10-year government bond yield of 1.8%. We discount terminal cash flows to present value at a cost of equity of 8.1%.
Terminal value (TV)= FCF_{2031} × (1 + g) ÷ (r – g) = €5.1m × (1 + 1.8%) ÷ (8.1%– 1.8%) = €83m
Present value of terminal value (PVTV)= TV / (1 + r)^{ten}= €83m÷ ( 1 + 8.1%)^{ten}= €38m
The total value, or equity value, is then the sum of the discounted value of future cash flows, which in this case is €65 million. In the last step, we divide the equity value by the number of shares outstanding. Compared to the current share price of €10.7, the company looks quite undervalued at a 49% discount to the current share price. Remember though that this is only a rough estimate, and like any complex formula – trash in, trash out.
Important assumptions
We emphasize that 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 entries, I recommend that you redo the calculations yourself and play around with them. 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 consider Culti Milano 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 debt into account. In this calculation, we used 8.1%, which is based on a leveraged beta of 1.016. Beta is a measure of a stock’s volatility relative to the market as a whole. We derive our beta from the average industry beta of broadly comparable companies, with an imposed limit between 0.8 and 2.0, which is a reasonable range for a stable company.
Look forward:
While important, the DCF calculation will ideally not be the only piece of analysis you look at for a business. DCF models are not the be-all and end-all of investment valuation. Instead, the best use of a DCF model is to test certain assumptions and theories to see if they would lead to the company being undervalued or overvalued. For example, changes in the company’s cost of equity or the risk-free rate can have a significant impact on the valuation. Why is the stock price below intrinsic value? For Culti Milano, we’ve put together three relevant factors you should consider:
- Risks: Know that Culti Milano shows 2 warning signs in our investment analysis you should know…
- Future earnings: How does CULT’s growth rate compare to its peers and the market in general? Dive deeper into the analyst consensus figure for the coming years by interacting with our free analyst growth forecast chart.
- Other high-quality alternatives: Do you like a good all-rounder? Explore our interactive list of high-quality actions to get an idea of what you might be missing!
PS. The Simply Wall St app performs an updated cash flow valuation for every stock on the BIT every day. If you want to find the calculation for other stocks, search here.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.