Is Oshkosh Corporation (NYSE: OSK) expensive for a reason? A look at its intrinsic value
How far is Oshkosh Corporation (NYSE: OSK) 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 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 will see in our example!
Remember, however, that there are many ways to estimate the value of a business and that a DCF is just one method. For those who are learning equity analysis in depth, the Simply Wall St analysis template here may be of interest to you.
See our latest review for Oshkosh
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 estimate the next ten years of cash flow. 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.
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 these future cash flows to their estimated value in today’s dollars:
10-year Free Cash Flow (FCF) forecast
2021 | 2022 | 2023 | 2024 | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | |
Levered FCF ($, million) | $ 670.0 million | $ 504.3 million | $ 539.9 million | $ 474.2 million | $ 436.7 million | $ 415.1 million | $ 403.2 million | $ 397.6 million | $ 396.0 million | $ 397.3 million |
Source of estimated growth rate | Analyst x6 | Analyst x5 | Analyst x4 | Is at -12.16% | Is at -7.92% | Is at -4.94% | Is at -2.86% | Is at -1.41% | East @ -0.39% | Is 0.33% |
Present value (in millions of dollars) discounted at 7.1% | US $ 625 | US $ 439 | US $ 439 | US $ 360 | US $ 309 | US $ 275 | US $ 249 | US $ 229 | US $ 213 | US $ 199 |
(“East” = FCF growth rate estimated by Simply Wall St)
10-year present value of cash flow (PVCF) = 3.3 billion USD
Now we need to calculate the terminal value, which takes into account all future cash flows after that 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 7.1%.
Terminal value (TV)= FCF_{2030} × (1 + g) ÷ (r – g) = $ 397 million × (1 + 2.0%) ÷ (7.1% – 2.0%) = $ 7.9 billion
Present value of terminal value (PVTV)= TV / (1 + r)^{ten}= $ 7.9 billion ÷ (1 + 7.1%)^{ten}= 4.0 billion 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 $ 7.3 billion. In the last step, we divide the equity value by the number of shares outstanding. Compared to the current share price of US $ 132, the company appears to be slightly overvalued at the time of writing. Remember though, this is only a rough estimate, and like any complex formula – garbage in, garbage out.
Important assumptions
The above calculation is very dependent on two assumptions. One is the discount rate and the other is cash flow. Part of investing is making 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 Oshkosh 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 7.1%, which is based on a leveraged beta of 1.090. 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 important, the DCF calculation is just one of the many factors you need to assess for a business. It is not possible to obtain an infallible valuation with a DCF model. Preferably, you would apply different cases and assumptions and see how they would impact the valuation of the business. 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 Oshkosh, we’ve put together three important things you need to assess:
- Risks: We think you should rate the 2 warning signs for Oshkosh we reported before making an investment in the business.
- Future income: How does OSK’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 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 solid trading fundamentals to see if there are other companies you may not have considered!
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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