Is Broadwind, Inc. (NASDAQ: BWEN) expensive for a reason? A look at its intrinsic value
Does Broadwind, Inc.’s (NASDAQ: BWEN) share price in May reflect what it is really worth? Today we’re going to estimate the intrinsic value of the stock by taking the company’s expected future cash flows and discounting them to present value. One way to do this is to use the Discounted Cash Flow (DCF) model. Believe it or not, it’s not too hard to follow, as you will see in our example!
We would like to point out 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 learning equity analysis in depth, the Simply Wall St analysis template here may be of interest to you.
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The model
We use what is called a 2-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 lower growth stage. 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 the last reported value. We assume that companies with decreasing free cash flow will slow their withdrawal rate, and companies with increasing free cash flow will see their growth rate slow during this period. We do this to reflect that growth tends to slow down more in the early years than in the 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 present value:
10-year Free Cash Flow (FCF) forecast
2021 | 2022 | 2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | |
Levered FCF ($, million) | US $ 400.0K | $ 7.10 million | $ 5.99 million | $ 5.37 million | $ 5.02 million | $ 4.81 million | 4.71 million USD | 4.66 million USD | 4.66 million USD | 4.68 million USD |
Source of estimated growth rate | Analyst x1 | Analyst x2 | Is at -15.6% | Is at -10.33% | Is at -6.63% | Is @ -4.04% | Is at -2.23% | Is at -0.97% | East @ -0.08% | Is 0.54% |
Present value ($, million) discounted at 9.0% | 0.4 USD | $ 6.0 | 4.6 USD | 3.8 USD | 3.3 USD | $ 2.9 | 2.6 USD | $ 2.3 | $ 2.1 | $ 2.0 |
(“East” = FCF growth rate estimated by Simply Wall St)
10-year present value of cash flow (PVCF) = 29 million USD
The second stage is also known as terminal value, it 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 (2.0%) 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 9.0%.
Terminal value (TV)= FCF_{2030} × (1 + g) ÷ (r – g) = $ 4.7 million × (1 + 2.0%) ÷ (9.0% – 2.0%) = $ 68 million
Present value of terminal value (PVTV)= TV / (1 + r)^{ten}= $ 68 million ÷ (1 + 9.0%)^{ten}= 29 million USD
The total value is the sum of the cash flows for the next ten years plus the present terminal value, which gives the total value of equity, which in this case is US $ 58 million. The last step is then to divide the equity value by the number of shares outstanding. Compared to the current share price of US $ 4.3, the company appears reasonably expensive at the time of writing. Ratings are imprecise instruments, however, much like a telescope – move a few degrees and end up in another galaxy. Keep this in mind.
The hypotheses
We draw your attention to the fact that the most important data for a discounted cash flow is the discount rate and, of course, the actual cash flow. You don’t have to agree with these entries, I recommend that you redo the math yourself and play around with it. 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 Broadwind 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 9.0%, which is based on a leveraged beta of 1.479. 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 of globally comparable companies, with an imposed limit 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. The DCF model is not a perfect inventory valuation tool. Rather, it should be seen as a guide to “what assumptions must be true for this stock to be under / overvalued?” 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 premium over its intrinsic value? For Broadwind, we’ve compiled three relevant factors that you should take a closer look at:
- Risks: To this end, you should be aware of the 4 warning signs we spotted with Broadwind.
- Future income: How does BWEN’s growth rate compare to its peers and to the market in general? Dig deeper into the analyst consensus count for years to come 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 inventory to get a feel for what you might be missing!
PS. Simply Wall St updates its DCF calculation for every US stock every day, so if you want to find the intrinsic value of any other stock just search here.
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This Simply Wall St article is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take into account your goals or your financial situation. We aim 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 information. Simply Wall St has no position in any of the stocks mentioned.
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