A look at the fair value of RadNet, Inc. (NASDAQ: RDNT)
Does the October share price for RadNet, Inc. (NASDAQ: RDNT) reflect its true value? Today we’re going to estimate the intrinsic value of the stock by taking expected future cash flows and discounting them to today’s value. We will use the Discounted Cash Flow (DCF) model on this occasion. 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. For those who are passionate about equity analysis, the Simply Wall St analysis template here may be of interest to you.
Is RadNet valued enough?
We use the 2-step growth model, which simply means that we take into account two stages of business growth. During the initial period, the business can have a higher growth rate and the second stage is usually assumed to have a stable growth rate. To begin with, we need to get cash flow estimates for 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 last 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, and therefore the sum of those future cash flows is then discounted to today’s value. :
10-year free cash flow (FCF) forecast
|Leverage FCF ($, Millions)||US $ 101.7 million||US $ 99.9 million||US $ 99.3 million||US $ 99.5 million||US $ 100.1 million||US $ 101.2 million||US $ 102.6 million||US $ 104.1 million||US $ 105.9 million||107.7 million US dollars|
|Source of estimated growth rate||Analyst x1||Is @ -1.74%||East @ -0.63%||Is @ 0.15%||East @ 0.69%||East @ 1.07%||Est @ 1.34%||Is @ 1.53%||East @ 1.66%||Is @ 1.75%|
|Present value (in millions of dollars) discounted at 6.9%||US $ 95.1||US $ 87.4||US $ 81.2||US $ 76.1||US $ 71.7||US $ 67.7||US $ 64.2||US $ 61.0||US $ 58.0||US $ 55.2|
(“East” = FCF growth rate estimated by Simply Wall St)
10-year present value of cash flows (PVCF) = US $ 717 million
We now need to calculate the Terminal Value, which takes into account all future cash flows after this ten year period. 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 2.0%. We discount the terminal cash flows to their present value at a cost of equity of 6.9%.
Terminal value (TV)= FCF2031 × (1 + g) ÷ (r – g) = US $ 108 million × (1 + 2.0%) ÷ (6.9% – 2.0%) = US $ 2.2 billion
Present value of terminal value (PVTV)= TV / (1 + r)ten= US $ 2.2 billion ÷ (1 + 6.9%)ten= US $ 1.1 billion
Total value, or net worth, is then the sum of the present value of future cash flows, which in this case is $ 1.9 billion. To get the intrinsic value per share, we divide it by the total number of shares outstanding. From the current share price of US $ 31.5, the company appears to be roughly at fair value at a 9.4% discount from the current share price. The assumptions in any calculation have a big impact on the valuation, so it’s best to take this as a rough estimate, not precise down to the last penny.
NasdaqGM: RDNT Discounted cash flow October 25, 2021
We would like to stress that the most important inputs to a discounted cash flow are the discount rate and of course the actual cash flows. 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 RadNet 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 6.9%, which is based on a leveraged beta of 1.133. 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.
Valuation is only one side of the coin in terms of building your investment thesis, and ideally, it won’t be the only piece of analysis you will look at for 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. For example, if the terminal value growth rate is adjusted slightly, it can dramatically change the overall result. For RadNet, we’ve put together three other things to consider:
- Risks: For example, we have identified 2 warning signs for RadNet (1 should not be ignored) you should be aware of this.
- Future benefits: How does RDNT’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 each NASDAQGM 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 documents. Simply Wall St has no position in any of the stocks mentioned.
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