Home Discount rate PBT Group Limited Embedded Value Estimate (JSE: PBG)

PBT Group Limited Embedded Value Estimate (JSE: PBG)

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How far is PBT Group Limited (JSE: PBG) from its intrinsic value? Using the most recent financial data, we’ll examine whether the stock price is fair by taking expected future cash flows and discounting them to today’s value. Our analysis will use the discounted cash flow (DCF) model. Before you think you won’t be able to figure it out, read on! It’s actually a lot less complex than you might imagine.

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. Anyone who wants to learn a little more about intrinsic value should read the Simply Wall St.

Consult our latest analysis for the Group

Is the Group just valued?

We are going to use a two-step DCF model, which, as the name suggests, takes into account two stages of growth. The first stage is usually a period of higher growth which stabilizes towards the terminal value, captured in the second period of “steady growth”. To begin with, we need to get cash flow estimates for the next ten years. Since no free cash flow analyst estimate is available, we have extrapolated the previous free cash flow (FCF) from the last reported value of the company. 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 discount the value of those future cash flows to their estimated value in today’s dollars. hui:

10-year Free Cash Flow (FCF) estimate

2022 2023 2024 2025 2026 2027 2028 2029 2030 2031
Leverage FCF (ZAR, Millions) R58.4m R55.6m R55.2m R56.4 m R58.8m R62.0 m R66.1m R70.9m R76.4 m R82.5m
Source of estimated growth rate Is @ -10.62% Is @ -4.78% East @ -0.7% Is @ 2.16% East @ 4.17% East @ 5.57% East @ 6.55% Est @ 7.24% Est @ 7.72% Est @ 8.05%
Present value (ZAR, millions) discounted at 16% R50.2 R41.0 R35.0 R30.7 R27.5 R24.9 R22.8 R21.0 R19.4 R18.0

(“East” = FCF growth rate estimated by Simply Wall St)
10-year present value of cash flows (PVCF) = R290m

The second stage is also known as terminal value, this is the cash flow of the business 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 used the 5-year average of the 10-year government bond yield (8.8%) to estimate future growth. Similar to the 10-year “growth” period, we discount future cash flows to their present value, using a cost of equity of 16%.

Terminal value (TV)= FCF2031 × (1 + g) ÷ (r – g) = R83m × (1 + 8.8%) ÷ (16% – 8.8%) = R1.2b

Present value of terminal value (PVTV)= TV / (1 + r)ten= R1.2b ÷ (1 + 16%)ten= R259m

Total value, or net worth, is then the sum of the present value of future cash flows, which in this case is R549 million. To get the intrinsic value per share, we divide it by the total number of shares outstanding. Compared to the current share price of R5.5, the company appears to be roughly at fair value with a 7.9% discount to the current share price. Remember, however, that this is only a rough estimate, and like any complex formula – trash in, trash out.

JSE: PBG Discounted Cash Flow October 6, 2021

Important assumptions

The above calculation is very dependent on two assumptions. One is the discount rate and the other is cash flow. If you don’t agree with these results, try the calculation yourself and play with the 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 full picture of a company’s potential performance. Since we see the Group as a potential shareholder, 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 16%, which is based on a leveraged beta of 1.098. Beta is a measure of the volatility of a stock relative to the market as a whole. We get our beta from the industry average beta from globally comparable companies, with a limit imposed between 0.8 and 2.0, which is a reasonable range for a stable business.

Looking forward:

While a business valuation is important, it shouldn’t be the only metric you look at when researching a business. It is not possible to achieve a rock-solid valuation with a DCF model. Instead, the best use of a DCF model is to test certain assumptions and theories to see if they would lead to undervaluation or overvaluation of the company. 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. For the Group, we have put together three other aspects that you need to assess:

  1. Risks: You should be aware of the 4 warning signs for the group we found out before considering an investment in the business.
  2. Management: Have insiders increased their stocks to take advantage of market sentiment about PBG’s future prospects? Check out our management and board analysis with information on CEO compensation and governance factors.
  3. Other strong companies: 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 trading fundamentals to see if there are other companies you might not have considered!

PS. Simply Wall St updates its DCF calculation for every South African stock every day, so if you want to find the intrinsic value of any other stock 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 documents. Simply Wall St has no position in any of the stocks mentioned.

Do you have any feedback on this item? Are you worried about the content? Get in touch with us directly. You can also send an email to the editorial team (at) simplywallst.com.

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