Estimated intrinsic value of Payton Industries Ltd (TLV: PAYT)

What is the distance between Payton Industries Ltd (TLV:PAYT) and its intrinsic value? Using the most recent financial data, we will examine whether the stock price is fair by taking the company’s expected future cash flows and discounting them to the present value. One way to do this is to use the discounted cash flow (DCF) model. Before you think you can’t figure it out, just read on! It’s actually a lot less complex than you might imagine.

Remember though that there are many ways to estimate the value of a business and a DCF is just one method. If you still have burning questions about this type of assessment, take a look at Simply Wall St.’s analysis template.

See our latest analysis for Payton Industries

crush numbers

We use the 2-stage growth model, which simply means that we consider two stages of business growth. In the initial period, the company may have a higher growth rate, and the second stage is generally assumed to have a stable growth rate. In the first step, we need to estimate the company’s cash flow over the next ten years. Since no analyst estimate of free cash flow is available, we have extrapolated the previous free cash flow (FCF) from the company’s latest 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.

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 present value:

10-Year Free Cash Flow (FCF) Forecast

2022 2023 2024 2025 2026 2027 2028 2029 2030 2031
Leveraged FCF ($, millions) $7.77 million $7.76 million $7.78 million $7.84 million $7.91 million US$8.00m $8.09 million $8.20 million $8.31 million $8.42 million
Growth rate estimate Source Is @ -0.82% Is @ -0.13% Is at 0.35% Is at 0.69% Is at 0.93% Is at 1.09% Is at 1.21% Is at 1.29% Is at 1.35% Is at 1.39%
Present value (in millions of dollars) discounted at 7.3% $7.2 $6.7 $6.3 $5.9 $5.6 $5.2 $4.9 $4.7 $4.4 $4.2

(“East” = FCF growth rate estimated by Simply Wall St)
10-year discounted cash flow (PVCF) = $55 million

After calculating the present value of future cash flows over the initial 10-year period, we need to calculate the terminal value, which takes into account all future cash flows beyond the first stage. For a number of reasons, a very conservative growth rate is used which 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 (1.5%) to estimate future growth. Similar to the 10-year “growth” period, we discount future cash flows to present value, using a cost of equity of 7.3%.

Terminal value (TV)= FCF2031 × (1 + g) ÷ (r – g) = $8.4 million × (1 + 1.5%) ÷ (7.3%–1.5%) = $147 million

Present value of terminal value (PVTV)= TV / (1 + r)ten= $147m ÷ (1 + 7.3%)ten= $73 million

The total value, or equity value, is then the sum of the present value of future cash flows, which in this case is $128 million. In the last step, we divide the equity value by the number of shares outstanding. Compared to the current share price of ₪50.5, the company appears to be about fair value at a 16% discount to the current share price. The assumptions of any calculation have a big impact on the valuation, so it’s best to consider this as a rough estimate, not accurate down to the last penny.

TASE: PAYT Discounted Cash Flow March 30, 2022

The hypotheses

The above calculation is highly dependent on two assumptions. One is the discount rate and the other is the cash flows. If you disagree with these results, try the math yourself and play around 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 complete picture of a company’s potential performance. Since we consider Payton Industries 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 7.3%, which is based on a leveraged beta of 1.176. 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:

Valuation is only one side of the coin in terms of building your investment thesis, and it ideally won’t be the only piece of analysis you look at for a company. The DCF model is not a perfect stock valuation tool. Rather, it should be seen as a guide to “what assumptions must be true for this stock to be under/overvalued?” For example, if the terminal value growth rate is adjusted slightly, it can significantly change the overall result. For Payton Industries, there are three fundamental elements to consider:

  1. Risks: For example, we spotted 1 warning sign for Payton Industries you should be aware.
  2. Other strong companies: Low debt, high returns on equity and good past performance are essential to a strong business. Why not explore our interactive list of stocks with strong trading fundamentals to see if there are any other companies you may not have considered!
  3. Other top analyst picks: Interested to see what the analysts think? Take a look at our interactive list of analysts’ top stock picks to find out what they think could have attractive future prospects!

PS. Simply Wall St updates its DCF calculation for every Israeli 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 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.

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